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Appendix a Elements of Austrian School Economics Appendix A Elements of Austrian School Economics The glossary for Mises’ Human Action that was developed by Greaves (1974) is introduced by the following quotation: “The first purpose of scientific terminology is to facilitate the analysis of the problems involved.” (Human Action, p. 434). Greaves (1974) added that the importance of a definition is not whether it is a popular one, “but rather does it lead the reader to a better understanding of the highly complex ideas the author is trying to elucidate.” The purpose of this Appendix is to identify a number of the elements of Austrian economic theory that should be more widely known, especially by future civil engineers. My intention is to share with instructors the way I try to explain these ideas to undergraduate engineering students who have no background in economics, especially that of the Austrian School. As justification for including Austrian elements in an engineering economy class, we should note that we are continually hearing from the highest levels of soci- ety the very fallacies falsified long ago by the Austrians. One recent example was a statement by a well-known economist that damage by Hurricane Sandy stimulated the economy. I remember a high-ranking member of Congress say the same thing about World War II. This is why I often ask the students whether it is really the work created by such destruction that is highly valued. Were not the physical things that were destroyed more important, not to mention the staggering loss of life? Austrian economics is non-prescriptive in the sense that it claims to evaluate means and not ends. Austrian economic theory asks whether a means is appropriate to achieve the end sought. There is no concern for the correctness of any actor’s preferences. Consequently, income and wealth of individuals are not considered arbitrary but rather reflect how well the individual contributed to satisfying con- sumer “wants.” This means that Austrian economics has no direct moral dimen- sion. Rizzo (1992) concluded that Austrian economic principles are value-free because they do not incorporate the values of the economist making them. Machlup (quoted by Schulak and Unterkofler 2011) considered that the six most important characteristics of the Austrian School were: © Springer International Publishing Switzerland 2015 89 R.A. Chadderton, Purposeful Engineering Economics, DOI 10.1007/978-3-319-18848-5 90 Appendix A: Elements of Austrian School Economics 1. Methodological Individualism. 2. Methodological Subjectivism. 3. Taste and Preferences. 4. Opportunity Costs. 5. Marginalism. 6. Time Structure of Production and Consumption. Machlup (Schulak and Unterkofler 2011) added two further characteristics that he associated particularly with the Mises branch of the School: 7. Consumer Sovereignty. 8. Political Individualism. This level of condensation cannot adequately describe Austrian Economics to a student new to the subject. A more detailed list of topics for the purposes of my course is presented below. Even this cannot be a complete summary of the Austrian School of Economics because that would be virtually impossible in any reasonable time or space. Only the most significant discussions for the purposes of this book and for my course are included. An invaluable reference is the pamphlet by Taylor (1980) who maintained that “…the Austrian analysis cannot be overlooked if a greater understanding of the market process and the effects of interferences with its operation is to be achieved.” I have tried to incorporate the main elements of Austrian economics in class according to the following explanations. Additional references that an instructor might find useful are listed at the end of this Appendix. Human action is based on methodological individualism. The foundation of all of Austrian Economics is that each individual is a conscious actor, has chosen goals, personal preferences, and attempts to achieve desired ends. Society is seen as merely the complex of interacting individuals, not an independent entity. Subjective value theory, based on marginal utility, is not quantifiable. This means that each individual assigns a ranking of preferences. Priorities must be assigned because wants always exceed means; resources are always in short s upply. Marginal utility is not measurable. Time preference means that current goods will always be more highly valued than future goods. The future is discounted to the present. Under free conditions this natural rate of discounting would basically set an interest rate. Conceptual understanding is more reliable than mathematics. Mathematics is “singularly inappropriate” to the science of human action because humans are conscious, causal actors. Consequently, statistics and correlation do not apply to human action and econometrics is a failure. Resources are always in short supply and the economic problem is to discover the best use of available resources. The division of knowledge is a problem for the coordination of human action. Hayek’s description of the use of knowledge says “the division of knowledge is the central problem of economics as a social science.” No one can acquire all the infor- mation necessary to create a planned economy. The problem is how best to make use of the knowledge spread around among many individuals who do not know about each other’s information. The article “I, Pencil” provides an excellent example. Appendix A: Elements of Austrian School Economics 91 Our individual knowledge is always incomplete and imperfect. The search for improved knowledge is continuous and that means that in economic action there are no constants such as those required for mathematical equations. Consequently, calculations are speculative and uncertain. Money is an evolved social institution not a legal tender definition by govern- ment. Money prices are exchange ratios between goods and amounts of money. Money prices are not measures of value. Economic calculations are either prospective or retrospective. Economic calcu- lation requires money prices and cannot be in kind. To provide reliable guidance the money used in calculation must have consistent value itself. Diminishing marginal utility also applies to money as each additional unit of money is seen as having less value to the holder. Money prices are not costs. Cost is a foregone opportunity, the next most highly valued thing that must be given up for the thing obtained. Exchange is always to the mutual benefit of both actors. Each item exchanged must be more highly valued by the receiver than by the giver. Supply and demand relationships are seen as qualitative, not quantitative. Increasing price results in increasing supply and decreasing demand but these amounts are not numerically determinate. Such aggregated amounts are not numerically measurable. Sunk costs of past actions are irrelevant for the future because economic action is always looking forward. Information flow is from consumers to producers. Therefore, consumers ulti- mately determine prices and allowable costs. In the long term, costs of production do not determine prices. The market is a process not a thing. It is the innumerable interactions of all the participating economic actors. Prices are not measures of value. They are old data or exchange values from the recent past. Such prices can act as estimates of future prices and as guides to future action. An understanding of profit or loss can be enhanced by retrospective calculation which could reveal unsustainable capital consumption or mal-investment. Inflation, as seen by the Austrians, is a policy of intervention by government. It is not caused by demand or supply variations. The problem is that inflation disrupts the market process by distorting the information transfer function of the money. The resulting distortions are not sustainable in the long term. Hayek’s molasses analogy describes the propagation of rising prices throughout the economy after injection of new money by government. The earlier recipients of the new money benefit from increased purchasing power while the later recipients suffer from higher prices throughout the economy. The apparent benefits of the inflation cannot be sustained without increasing the rate of injection of new money. The liquidation of mal-investment resulting from an inflation is called depres- sion. It is seen as unavoidable. The only question is whether to continue the infla- tionary policy in an attempt to prop up mal-investment or to stop and allow the 92 Appendix A: Elements of Austrian School Economics adjustment to occur. Continuing a policy of increasing inflation would ultimately lead to the so-called “crack up boom” as described by Mises. Austrian theory emphasizes the critical difference between what is seen in the short term and the unseen, long-term consequences of even well-intentioned, col- lective actions. The long-term consequences for everyone must take precedence over the short-term benefits for any special interest group. Austrian analysis advocates a free market system because it allows for discov- ering and correcting error, while central planning and interventionism do not. As seen by Hayek, a free economy would not get stuck or break down. The market coordinates planning by many individuals to promote social efficiency. Mises said that market capitalism and socialism are the only choices. A mixed economy will eventually degenerate into one or the other; there is no middle way. A free market society is seen as the only possible way to maximize the unmeasur- able satisfaction levels of the members of that society. Suggested References Bastiat F (2011) That which is seen, and that which is not seen. Dodo Press, UK Caldwell B, Boehm S (1992) Austrian economics: tensions and new directions. Springer, New York Chadderton R (1983) Praxeology and engineering. J Prof Issues Egr 109(3):159–169 Chadderton R (1994) Relation of praxeology to engineering. J Prof Issues Engrg Educ Practice 120(4):384–391 Gloria-Palermo S (1999) The evolution of Austrian economics. Routledge, London Greaves P (1974) Mises made easier. Free Market Books, Dobbs Ferry Gwartney J, Stroup R, Lee D, Ferrarini T (2010) Common sense economics, revised ed.
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