Sunday, November 10, 2013

Defining Austrian Economics

Yesterday I spoke at a Students for Liberty Conference. Before the talk I had a conversation with several students who identified themselves as supporters of the Austrian school of economics. I asked them if they could explain what that meant by identifying a proposition in economics that almost all Austrian economists and almost no non-Austrian economists would agree with. 

One response was along the lines of "Austrians believe that one can derive economic conclusions from convincing axioms without adding any empirical facts." So I asked them to give me an example of such a conclusion, of a statement that one could  test, observe the truth or falsity of in reality, that could be derived in that way.

I now put the same two questions to any readers of this blog who consider themselves believers in Austrian economics. Can you state such a proposition? For the particular proposition that was proposed, can you give an example, a prediction about the real world that can be made with certainty from economic theory alone with no input of real world information? 

My talk was on National Defense in a Stateless Society; I  have now webbed
a recording of it.

59 Comments:

At 8:50 PM, November 10, 2013, Blogger Joseph Miller said...

I think the movement would be better served if people would stop considering themselves believers in a particular "school" of economics. Nobody needs to be wedded to any particular methodology; just do what works.

There is something strange about limiting economics to things that you don't need to measure. Or maybe I'm misunderstanding.

As an aside, I just saw you on Stossel! You did very well, especially over the live feed. I was waiting for the "law is too important to leave up to government" line. Perfect for a right-leaning audience.

 
At 9:21 PM, November 10, 2013, Blogger David Friedman said...

I think the whole "Austrian" business in libertarianism is in large part a matter of product differentiation. There are differences of emphasis among people who got their ideas through different branches of the neoclassical tradition, but they become differences of kind only when one takes an extreme version of one's own position—which I don't think is defensible—and/or of the alternative, which I don't think is true.

 
At 9:38 PM, November 10, 2013, Anonymous js290 said...

Want to Make Hunter-Gatherers Irrational? Expose Them to Free Markets

 
At 10:03 PM, November 10, 2013, Blogger Vijay said...

Here is one such proposition:

Assuming businesses act in a profit-seeking manner, an increase in the minimum wage will cause an increase in unemployment, all things being equal. Of course, this is not something you can verify because things are not always equal. The statements of Austrian economics are intended to expose causal laws and as such are typical "ceteris paribus" type statements.

I'm a little surprised you ask this, Professor Friedman. You have been debating so-called Austrians for many years, and it seems to me you do not have basic exposure to the literature. Have you attempted to read Human Action by Mises? These questions, which are epistemological in nature, are answered in great depth in that book, among others.

 
At 11:26 PM, November 10, 2013, Blogger David Friedman said...

Vijay:

Suppose that consumers dislike the idea of consuming the services of low paid workers--tastes, after all, are neither rational or irrational. Further suppose that consumers have no low cost way of determining how much a particular worker, say a waiter in a restaurant, is being paid, so individual employers don't have the option of paying their workers more in order to appeal to their customers' preferences.

The minimum wage is increased. Customers now know that workers in various low skill industries are being paid more. So the demand for the output of those industries goes up. Employment goes up instead of down.

It doesn't strike me as a very likely story, but it isn't logically impossible and without knowing some facts about people's tastes you can show it isn't true.

That's one example of my more general point. As long as you are completely agnostic about utility functions and production functions, neither of which is given by economic theory, any behavior can be explained by some assumption, possibly an implausible one, about what those functions are.

 
At 1:11 AM, November 11, 2013, Blogger Nick Zbinden said...

This is the best defintion I have seen. It is relativly broad.

http://www.econlib.org/library/Enc/AustrianSchoolofEconomics.html

Some more on the same:

http://www.coordinationproblem.org/2010/11/what-austrian-economics-is-and-what-austrian-economics-is-not.html

 
At 3:46 AM, November 11, 2013, Anonymous Foseti said...

Here's my take - though I don't necessarily identify as an Austrian.

Non-Austrians see someone buy a candy bar for $1 and they assume a transaction worth precisely and exactly $1 has taken place. GDP increases by a dollar, inflation can be measured from period to period based in these "prices", etc.

Austrians see the purchase of the candy bar differently. The seller of the candy bar valued it at less than $1 and the buyer valued it at more than $1. From that logic, it's absurd to say the bar is worth $1 - absolutely no one valued it at precisely and exactly $1. It therefore follows that all economic measures that use these prices are not precisely what they seems to be.

Of course since the entire field of modern economics is based on the former belief, this difference is rather profound.

 
At 4:20 AM, November 11, 2013, Blogger Maurizio said...

What about opportunity costs and cost curves? It seems to me that Austrians are the only economists who claim that monopoly theory and externality theory are not really compatible with the concept of opportunity cost. A consistent application of the concept of opportunity cost produces cost curves which are totally different. We might call them the Austrian cost curves. See here: http://mises.org/pdf/asc/2002/ASC8-Barnett-Saliba.pdf

 
At 4:49 AM, November 11, 2013, Anonymous Martin said...

David, I don't think that that is the distinguishing characteristic. I doubt that Mises, Hayek, or even Rothbard would have agreed with that.

If there is any difference it is probably to be found in the emphasis on particular aspects and on how you perceive the relationship to be between theory and empirics.

For example, Austrians will distinguish between logical theory of economics which is wholly subjectivist and the models used to make sense of reality which by necessity contains some objective elements. To illustrate, the opportunity cost of a banana is "c" in the subjectivist version, but $ 0.25 in a model to make sense of reality.

For this reason something as behavioral economics is - I believe - viewed differently by Austrians. So what if you falsified a model? Purposeful action is the hard core of the research program.

You will note that this is not unique to Austrians though, Buchanan made the same distinction in his book Cost and Choice, though I don't know how he viewed behavioral economics. And there are plenty of people that are not Austrians that view behavioral economics in pretty much the same way. If you would have to name a distinguishing characteristic, I think that this would be it.


 
At 6:37 AM, November 11, 2013, Blogger Ricardo Cruz said...

Wrt the minimum wage (@Vijay), IANAE, but I think you are describing partial equilibrium minimum wage, which is not specific to Austrian economists. Any micro101 teaches what you just said.

 
At 6:41 AM, November 11, 2013, Blogger Ricardo Cruz said...

@Foseti, what you are describing is economic surplus which is taught in micro101. Yeah, that is how people trade and how supply and demand curves come to be.

 
At 7:38 AM, November 11, 2013, Blogger jimbino said...

It seems the reasoning behind the Laffer curve does not need empirical support: government tax receipts will be maximized at some point between rates of 0% and 100%.

 
At 7:52 AM, November 11, 2013, Blogger Vijay said...

Professor Friedman, I agree that we cannot make assumptions about utility functions, which is why statements of (Austrian) economics are both contingent, and ceteris paribus. For example, it's certainly logically possible that all humans could tomorrow decide to stop eating and starve themselves (although extremely improbable). So a contingent statement of economics might be: assuming that the human desire to eat food for survival does not disappear, there will be demand for goods required to produce food.

In the particular example you give, you violate the ceteris paribus part of the minimum wage law but specifying extra things that might happen after an increase in the minimum wage. This is not "all things being equal".

I want to stress again that the theory of Austrian economics is intended to elucidate the causal laws of economics when considered in isolation.

As an analogy, consider lighting a match in a forest. This is a cause for a fire starting, all things being equal. But we also know that there other factors that might make this cause unmeasurable, or even have no effect. E.g., it might be raining, or there might be little wind to spread the fire. However, despite these things we know that lighting a match is a causal factor in starting a fire.

Another point is the understanding the causality does not give us the magnitude of the effect. For example, an increase in the minimum wage may not have a large effect due to other factors such as inflation, just as a fire may not be very large if there is no wind.

 
At 8:55 AM, November 11, 2013, Blogger Joseph Miller said...

So it does sound like a difference in emphasis. The Austrians are the "rule" economists and the other guys are the "act" economists.

 
At 10:57 AM, November 11, 2013, Blogger David Friedman said...

Nick: Quoting from the piece you linked to:

"one could also sensibly argue that the label “Austrian” no longer possesses any substantive meaning."

Looking at the list of propositions, I don't see any that Chicago school economists would necessarily disagree with.

 
At 10:57 AM, November 11, 2013, Blogger Tibor Mach said...

(this is not about austrian economics but about the lined talk)

Thank you for the recording, it was very interesting. A few comments:

1. I suppose this goes more to the organisers of the talk than to you but it would be really nice if the audience had a microphone to go around during the questions so that what they say is audible on the record as well. Some of them had a distinct voice or simply were loud/close enough, but some were not. And since you consider a microphone to be a device of the devil ( :) ) you could simply give it to them during the questions even if the organisers don't think this through and don't provide one for the audience.

2. Something a little bit similar to the "army of a dream" model happens in Finland I was told. As in Switzerland, you have occasional military trainings few times a year. Unlike Switzernald they are entirely volutary and anyone can join or not on his own volition. The whole thing is however financed by taxation.

3. Suppose that despite all effort it turns out you simply cannot provide adequate national defense privately (or at least not in near future). Would you then prefer a Swiss model of national defense to the American (or Czech, French and so on for that matter)? I was thinking about it and although I don't like the idea of a draft a tiny bit, considering the problems a huge professional army brings about I've come to a hesitant conclusion that given the situation as it is (that is we live in a state society and will do so for a while at least), the Swiss model of militia that trains a week or two every year (unlike drafts common in other countries where draftees used to, or still do in some countries, spend several months somewhere once a life and that was it) accompanied by a small professional army is a better solution than an entire army of professionals. First of all, I can hardly imagine a military coup in Switzerland where every adult male has a government issued rifle at home and most have a couple of private arms as well, secondly such an army is much less likely to be adventureous which is probably not so much a concern for a small country like the Czech republic or Switzerland but quite a serious one for the US or even France. I also guess this kind of army tends to cost much less as the professional part is small and therefore the interest groups behind it are also less influential. So it strikes me as possible a lesser evil and also sort of a situation closer to the possible stateless society anyway...people are drafted for 2 weeks or so every year, but the army is much less centralized than a fully professional state army.

On a tangent (but related to Switzerland) - when the cinema shootings happened in the US a year or so ago and there was a lot of arguments for banning or restricting guns in the US, I made a little calculation to get a ratio of people killed by firearms per capita and number of guns per capita in the US, Switzerland and Finland. Now, Switzerland is second most armed when you only cound the private arms, but if you count the government issued rifles I would not be surprised if it comes first. Finland is third. The ratio was highest the US, Finland was second and close to the US and Switzerland was far better...despite the fact that the Swiss have the least restrictive gun laws (if I take the US as a whole) of all these countries, you basically only need to show that you are an adult citizen to be able to buy a gun. All of which means that the rather high gun violence in the US is caused by something different than nonrestrictive gun laws...

 
At 10:58 AM, November 11, 2013, Blogger Tibor Mach said...

4. Ancient Rome - This also struck me as an example similar to the Cromwell case. After the Marian reforns which made the army professional, Sulla used the situation to make himself a military dictator...and (at least this is my explanation of Roman history) eventually the professional army was one of the most important reasons that Rome ceased to be a republic and became a military dictatorship (aka empire). There were other aspects of their particular system that helped this to happen...the military commander of a particular army had a good deal of influence over how well rewarded his soldiers got which of course lead to them being loyal to him rather than to SPRQ and this is not a necessary part of a professional army system, but without it Rome could have probably stayed a republic (although likely a much smaller one). I don't think Roman republic was a particularly attractive system, but probably better than Roman empire. Also I think the war games you describe actually did happen in early Rome as well at the field of Mars. I don't know if those were tax funded or not, but my guess is that they were not and that a similar system as the one later implemented in gladiator games was in place - that is wealthy patricians subsidized those to get reputation and possible votes or other form of influence.

 
At 10:58 AM, November 11, 2013, Blogger David Friedman said...

"Of course since the entire field of modern economics is based on the former belief"

On the contrary. None of the field is based on, or even consistent with, that belief. Do you know what consumer surplus is? It's been a part of neoclassical economics since at least Marshall, more than a century ago.

 
At 11:02 AM, November 11, 2013, Blogger David Friedman said...

Vijay writes:

"In the particular example you give, you violate the ceteris paribus part of the minimum wage law but specifying extra things that might happen after an increase in the minimum wage. This is not "all things being equal".

Read my example again. I assumed that people had the taste I described both before and after the change. Nothing extra was happening, everything was ceteris paribus.

 
At 11:37 AM, November 11, 2013, Anonymous Anonymous said...

you MUST put in non-triviality constraint. my decision to value pizza above a burger for example is an economic decision (all decisions are economic).

 
At 2:01 PM, November 11, 2013, Anonymous Ted Levy said...

It seems rather clear that while there IS a distinct school of Austrian economics, and while there ARE academic practitioners, most of the commenters here demonstrate that the distinctive thing about Austrian economics is it has a large following among people that have read a book or two by an Austrian economist and nothing else in economics.

It has gotten to the point where it has even begun to upset the Austrian economists, as Peter Boettke's recent FB post suggests. Libertarian Party candidate Sarvis (VA gubernatorial race) has been denounced by some libertarians because he, a PhD economist, was not "Austrian". This is utterly foolish.

 
At 2:43 PM, November 11, 2013, Blogger Tibor Mach said...

Ted Levy: Although I am not an economist myself (with only a passing knowledge of some basic concepts...albeit I am trying to improve that in some of my spare time), I share your opinion about a lot of libertarians.

My (biased, naturally) opinion is that a lot of people who label themselves as Austrians argue for libertarian ideas heavily by moral arguments. These are simpler to understand (although I would say that at least in some cases they are either false or they assume implicitly something that is not stated...so they are not very good). Also, the same people (and including some who are quite capable of reasonable discussion, such as R.Murphy) try to paint the world (of economics) in black and white - "us austrians" and all the rest are "those Keynesians, statists and Krugmans of various sorts" :)

I am also fascinated with the way so many austrians almost compete in how much they disagree with Milton Friedman('s mostly fictional statements :) ). Again, to be unfair and biased - it just seems to me they like to demonstrate how wise and knowledgeable they are and how the "sheeple" don't understand a bit...and since Friedman was not an anarchocapitalist, he's got to be a bad guy, a "socialist in disguise". Then again even David is very suspicious, even though he pretends to be an anarchocapitalist, he sometimes disagrees with Rothbard (sic!), so better keep an eye on him too :))

Of course, this is unfair to (at least some) Austrians. I would hardly expect Hayek to be such a cartoon character (and that might be a reason why some young austrians don't even want to consider him a proper austrian economist) and I think there are quite a few austrians alive and well today, who are far more reasonable than that.

I think this is a general pattern in humans. People (a lot of them anyway) like simple phrases and easy to understand philosophies and ideas...even if they are quite problematic in some respects. They also refuse to see the problems in something they take dear...perhaps because they feel that if they admit one flaw they have to reject it all. People also have a lot of that tribe mentality - "us" and "them", "good" and "evil", black and white. I think every now and then every one of us has an occasional slip to that rigid thinking. It just should not be prevalent.

 
At 4:06 PM, November 11, 2013, Anonymous Greg Jaxon said...

Mises's praxeologic method is one characteristic feature of the current American Austrian school.
But the Austrians originally descend from Carl Menger, whose ideas covered a lot of other ground before Mises suggested their praxeologic basis.

In its purest form, praxeology does hold that empirical and historical data are not adequate means for discovering natural laws. But the natural laws deduced solely from first principles do not fully determine economic outcomes, nor do they cover most things that Austrians believe.

For example, Menger's explanation of "the evolution of money" requires the force of history to shape the economic conditions in which we may finally observe the objective fact that gold works as money.

I regard Menger's "Marginalism" and his emphasis on the Dynamics of human actions that cause convergence of bid and ask into a "market price" to be the things that are essentially Austrian. This contrasts with Equilibrium approaches that yield an often vacuous "static" economy in which we can only see laws that hold if "all else is equal", and assuming we've passed through some indescribable sort of "transition state".

I believe the praxeologic methods fill a profound role analogous to the Foundations of Mathematics: i.e. If your proof doesn't ultimately rest on those laws + the circumstances unique to your problem, it's probably not right.

An Austrian won't accept a graph of some economic trend or relationship purely because it was scientifically observed. That only proves that "There exist(ed) some actors who once exhibited this trend line". The explanation of the chart becomes "Austrian" only if we can formulate a coherent story of abstract (for all) actors (buyers, sellers, arbitrageurs,
lenders, borrowers, etc.) whose self-interest and talents would be responsible for the transactions the economist observes. The truths it then reveals concern the marginal preferences of those classes of actors, by a process of deduction, rather than of extrapolation and induction.

The Austrian shows how "for all actors with certain relative subjective preferences, their interactions will unfold to such and such an effect."

 
At 5:57 PM, November 11, 2013, Anonymous Anonymous said...

In my experience, those that identify as belonging to the 'Austrian School' are actually signalling their opposition to several attributes of modern mainstream Keynesianism.

It is often hard to tell whether that opposition is a kind of expression of political preference or has a reasoned basis. Most folks who so affiliate have heard enough about the Austrian School, or read enough of Rothbard et al at Mises.org to wish to identify in this manner.

The four prime objections are as follows:

1. A Fractional Reserve Lending controlled by a central bank.

2. A Fiat Money regime in general.

3. The manipulation of the credit channel, money supply, and nominal interest rates by the central bank. Especially with regard to the central bank trying to target, measure, or predict such fuzzy concepts as inflation, full employment, and potential output.

4. The general idea of regulating the business cycle and preventing / mitigating crises by means of fiscal stimulus through deficit spending and monetary stimulus through debasement / quantitative easing / a temporary and unexpected increase in inflation.

In short, an 'Austrian' is very much 'Anti-Krugman' on all four of these notions.

 
At 6:05 PM, November 11, 2013, Anonymous Handle said...

Whoops, that last 'Anonymous' was me, I don't know why it didn't attribute properly.

Also, Professor Friedman, Foseti knows perfectly well about Consumer / Producer Surplus. If I had to guess, I think he's referring to the notion that we have trouble estimating that surplus on the end-consumer side of things. I've seen this notion on some blogs that claim to follow the Austrian School.

If what we're trying to measure (or impact with policy) is net social welfare, and surplus is welfare, but we aren't able to measure it directly, then, if I recall the argument correctly, we are bound to make some serious errors.

Again, that's my understanding of bloggers' understanding of the school. I wouldn't call myself an Austrian by any means, so my impressions are far from 'authoritative'. Then again, I don't get the impression many of the folks spouting off about Austrianism on the internet are appealing to much authority either.

Scott Sumner has jokingly referred to some of these people as "Internet Austrians", (presumably because they don't know what they're talking about even with regards to the Austrian School) and I suppose there are plenty of Internet Keynesians and Chicago-Schoolers too.

 
At 6:47 PM, November 11, 2013, Anonymous sinan said...

Humans act. Action is the purposeful employment of means to achieve ends in accord with the actor's values and preferences.

 
At 6:48 PM, November 11, 2013, Blogger Sinan K said...

humans act. Action is the purposeful employment of means to achieve ends in accord with the actor's values.

 
At 8:57 PM, November 11, 2013, Blogger David Friedman said...

Greg: What part of what you describe as "Austrian" do you think other economists would disagree with?

"If what we're trying to measure (or impact with policy) is net social welfare, and surplus is welfare, but we aren't able to measure it directly, then, if I recall the argument correctly, we are bound to make some serious errors."

Errors in what? Consumer and producer surplus are concepts used to argue that certain policies are desirable because they maximize their sum. That doesn't depend on measuring them.

Sinan: Do you think non-Austrian economists think humans don't act? That their acts are not the purposeful employment of means to achieve their ends?

 
At 9:08 PM, November 11, 2013, Anonymous D Bridger said...

*sticks neck out in a manner suitable for anticipating decapitation*

Might Adam Smith's principle of the division of labour be considered such an 'axiomatic' truth? It at least seems to me to be analytically and necessarily true that all marginal increases in specialization should lead to gains in productivity. Though one can imagine diminishing returns.

 
At 9:15 PM, November 11, 2013, Anonymous D Bridger said...

I should mention I recognize that I don't expect that Chicago school economists or anyone else should disagree with Smith and that his principle is 'Austrian' in character (I don't consider myself beholden to the Austrian school so my line of thought was somewhat tangential).

 
At 9:17 PM, November 11, 2013, Anonymous D Bridger said...

his principle isn't*

 
At 9:38 PM, November 11, 2013, Anonymous Ptpete25 said...

I think the defining aspect of Austrian Economics is the Austrian theory of the business cycle. I know of no other major economic wing that so strongly advocates free market currency. And I know of no other theory that explains the harms of the boom-bust cycle.

One thing we can know for certain is that when currency is inflated by the whims of a single entity, and that same entity can arbitrarily set the interest rate off of which the entire economy operates, then price signals will be distorted and investment risk will not reflect the resources at hand. The harms of credit-expansion WILL cause a boom in industries that should not receive a boom, followed by an eventual bust as the market realizes its mistake, and takes resources back from the bubble industry and allocates them to more purposeful activities.

I know of no other theory that explains the business cycle in this way.

 
At 3:18 AM, November 12, 2013, Blogger RJM said...

If you had asked me the same two questions, I probably would have fallen into the trap and tried to find good examples. I have, however, limited knowledge when it comes to comparing economic schools ... understanding the concepts of one single school requires some effort already.

Now, having read the responses I would say "believing in Austrian economics" or "being an Austrian" are misleading terms.

I would prefer "understanding of economics" to "believing in a certain school".
The second one even sounds like Austrians were a group where the members share characteristics, while honestly it's about concepts and not about people (in my opinion).

So if I ever express myself in favor of Austrian Economics, it's probably simply because I was not able to understand macro economics until I read Rothbard and others later on. I started with a standard textbook and got the impression macro economics is a lot about opinions and trends. Attacking economics as an a priori science simply proved to be a more productive approach for me.

 
At 3:25 AM, November 12, 2013, Blogger RJM said...

Actually the comments of Vijay and David are a good example on *how* this is so:

Vijay explains a straightforward mechanism how a minimum wage causes unemployment. Easy to understand for me without complex assumptions.

David, in return, explains further mechanisms which can result in different outcomes.

Now reading a German newspaper this week I get lots of explanations in David's style, because some people want to argue for a minimum wage *for political reasons*.
For someone who does not understand basic economics (Vijay's explanation), this is very confusing. And it seems as if it were a matter of opinions who is right and who is wrong.

 
At 3:45 AM, November 12, 2013, Anonymous Brian Albrecht said...

"a proposition in economics that almost all Austrian economists and almost no non-Austrian economists would agree with"

I think you are being too generous to non-Austrians by assuming they are good Chicago economists like yourself.

But there are some propositions that many economists would not completely agree. One example is macroeconomics. To Austrians (and good Chicago economists) macroeconomics is nothing more than an aggregation of microeconomics. Separating macro from micro foundations is wrong. There are many economists who would disagree with this proposition, the loud proponent being Krugman.

Yes, this is not distinctly Austrian, but it is a differentiation from some economists.

 
At 2:02 PM, November 12, 2013, Anonymous Major_Freedom said...

David:

"The minimum wage is increased. Customers now know that workers in various low skill industries are being paid more. So the demand for the output of those industries goes up. Employment goes up instead of down.

It doesn't strike me as a very likely story, but it isn't logically impossible and without knowing some facts about people's tastes you can show it isn't true."

This is an empirical question though. You're saying it is logically possible for certain not mutually incompatible events to co-exist, such as an increase in minimum wage, an increase in wage payments, and an increase in employment.

Yes, all of these things could occur. But where Austrian economics has something to say is that it is apodictic that the rise in employment was smaller than it otherwise would have been had there been no minimum wage increase. In other words, if we imagined that everything else was held equal, then if there was no minimum wage increase, then there would have been more employment.

This is not observable, because it is a counter-factual.

To respond to your challenge about a "deduced" statement:

The law of marginal utility.

"[T]he law of marginal utility follows from our indisputable knowledge of the fact that every actor always prefers what satisfies him more over what satisfies him less, plus the assumption that he is faced with an increase in the supply of a good (a scarce mean) whose units he regards as of equal serviceability by one additional unit. From this it follows with logical necessity that this additional unit can only be employed as a means for the removal of an uneasiness that is deemed less urgent than the least valuable goal previously satisfied by a unit of such a good. Provided there is no flaw in the process of deduction, the conclusions which economic theorizing yields must be valid a priori." - Hoppe.

 
At 3:29 PM, November 12, 2013, Blogger David Friedman said...

Major writes:

"You're saying it is logically possible for certain not mutually incompatible events to co-exist, such as an increase in minimum wage, an increase in wage payments, and an increase in employment."

That is not what I am saying. I am saying it is possible for the increase in the minimum wage to cause an increase in the employment of low skill workers. In my example, the increase in employment is greater than it would have been without the increase in the minimum wage.

So far as I can tell you, like Vijay, are jumping from the beginning of my argument to the end and missing the argument, the explanation of how, ceteris paribus, it is logically possible for an increase in the minimum wage to have the opposite of the effect economists would expect.

 
At 3:32 PM, November 12, 2013, Blogger David Friedman said...

Major: Your "deduced statement" doesn't satisfy my challenge. Consider my standard counterexample--the difference between the value to me of four tires for my car and three is greater than the difference between three and two. You need real world information, possibly relating to your "equal serviceability" condition, to eliminate such cases.

 
At 4:59 PM, November 12, 2013, Anonymous Anonymous said...

Dr. Friedman, I believe an example that could answer your second question would be the derivation of the Law of Returns from the Principle of Action as Mises does in Human Action, though I think I would state it slightly differently to him (for reference, it is on pg 127-129 of the Scholars Edition of Human Action freely available at Mises.org). I will try provide my own rendition(possibly flawed of it below):

For simplicity we can consider an example with 2 means B and C combined in order to produce an end D a product. Algebraically we may say that b of B and c of C produce p of D. Now the law of returns states that if for instance b is held constant and c is allowed to increase( or decrease), that there is an optimal ratio b:c at which p/c is maximal. To prove this we can use a proof by contradiction or reductio ad absurdum. If one could for instance keep increasing c and raise p/c this would essentially imply that one could allow for an infinitesimal b:c ratio essentially rendering b to have an infinite productive power. This would contradict it being a scarce means (of which include economic goods) in the sense that it has a limited capacity to achieve human ends, and would render it as Mises labels a general condition of human welfare. An example he provides of such a thing capable of allowing unlimited productive services and therefore not a means/economic good subject to human action is the knowledge of causal relations, e.g. of the recipe to make coffee.

As far as I know neoclassicals though they apply the law of returns, do not treat it in the fashion that Austrians like Mises treat it, as necessarily true, but rather as a hypthetical proposition, though commonly adopted. Would you agree? Secondly, and as an aside, do you feel there are issues with squaring neoclassical concepts like increasing and decreasing returns to scale with the first law of thermodynamics?

 
At 5:59 PM, November 12, 2013, Anonymous Ptpete25 said...

Well, 4 tires is a completely different good than three individual tires, with a completely different purpose. 4 tires complete a car, three tires simply replaces three individual tires. That is unless you are saving up for 4 tires. In that case you only have 75% of the single good of a set of 4tires. And you must obtain the remaing 25% of that good any of the good to be purposeful, or at least to satisfy your intended utility level.

The law of marginal utility apples ONLY to interchangeable goods, with identical purposes. Three tires is not an interchangeable good with a set of 4 tires, and serves a separate purpose.

 
At 6:03 PM, November 12, 2013, Anonymous Ted Levy said...

Handle's claim above on fiat money suggests he doesn't have much of a...handle on what Austrian economists like Larry White and George Selgin think.

 
At 7:10 PM, November 12, 2013, Blogger David Friedman said...

"Three tires is not an interchangeable good with a set of 4 tires, and serves a separate purpose."

The third tire, however, is interchangeable with the fourth.

How does one discover what purposes someone has for goods he is buying without any factual information, in this case about his utility function?

 
At 8:02 PM, November 12, 2013, Anonymous Ptpete25 said...

Well, I guess I would have to say the third tire is only interchangeable with the fourth if the fourth is meant to replace an individual tire. The persons utility function might look like this.

1. Set of four tires.
2. Horse and buggy
3. One spare tire
4. A 2nd spare tire
5. A third spare tire
6. A fourth spare tire.

Three tires clearly satisfies utility values 3, 4 and 5. However 4 tires satisfies either utility value 1 OR utility value 3, 4, 5, and 6 (perhaps to replace a tire on 4 different cars). Whichever combination he believes will satisfy him the most is the one he will choose. But because it's "either/or" the "law of marginal utility" makes no claim to apply to this scenario, they fail the equal serviceability test.

How does one discover the purposes? I guess I would say you don't. There is no need to. A set of goods that might be equally serviceable to one person, say a tire manufacturer for the purpose of selling tires, might not be equally serviceable to another person, say a person who needs a set of 4 tires for the purpose of starting his jeep. In the case of the manufacturer, the 4th tire would be interchangeable with the third tire, and so the law of marginal utility would apply. In the latter example, the 4th tire represents a drivable jeep, but the third tire represents simply the ability to replace 3 tires, but not a drivable jeep, and so the law of marginal utility does not claim to apply.

 
At 8:16 PM, November 12, 2013, Anonymous Matt Tanous said...

"Suppose that consumers dislike the idea of consuming the services of low paid workers--tastes, after all, are neither rational or irrational. Further suppose that consumers have no low cost way of determining how much a particular worker, say a waiter in a restaurant, is being paid, so individual employers don't have the option of paying their workers more in order to appeal to their customers' preferences."

On the contrary, this is an impossible scenario. Consumers will always have a low-cost way to know this, if the producer sees some benefit from doing so. As such, if we presume that people refuse to purchase goods and services provided by low-wage employees, then wages will automatically rise.

ALSO, on net, this would be a reduction in employment versus the alternative, and a rise in the minimum wage would STILL raise unemployment further, ceteris paribus. If everything is hypothetically in equilibrium such that nothing is changing, a rise in the minimum wage will always raise unemployment, regardless of the "tastes" of the consumer.

Further, no knowledge gap, in such a scenario, can exist where producers or consumers can profit from closing it. You have to assume many things that are not ceteris paribus. Namely, in your example, the creation of a low-cost method of closing a knowledge gap - one that does not exist.

On an aside, Professor Friedman, I'm sure that if I was your grad student and came to you having collected empirical data that "disproved" that rent control causes prices to rise and supply to diminish, you'd tell me that either (a) something else was a co-factor causing the seemingly contrary evidence, or (b) I had made some other error. I strongly doubt that you would even *consider* the idea that I had disproved the effects of price controls as understood by modern economics. Why? Because economics is not empirical in nature - the very basics are logically derived (according to Austrians, from the fundamental and necessary aspects of human action itself).

 
At 8:18 PM, November 12, 2013, Anonymous gotlucky said...

Professor Friedman:

I am a huge fan of your work in general, so this is very frustrating that you criticize the Misean branch of the Austrian school of economics without knowing much about it. Mises was very clear about separating Praxeology and Thymology, something I have never seen you mention, so I suspect you are not even aware of this important distinction.

Furthermore, perhaps even more important than praxeology to AE are the concepts of subjectivism, rationality, and methodological individualism. The mainstream schools may incorporate these concepts to varying degrees, but they are integral to AE and heavily emphasized.

Regarding the tires, Pete is making a point about praxeology, and you fire back with a question about thymology. You are not engaging him in a debate relevant to his point. I am purposely not explaining the difference between praxeology and thymology in order to highlight the fact that you are not aware of what they are. Both topics are explained in elementary AE.

If you *actually* want to learn about why the contemporary Austrian school has adopted the praxeological and thymological distinctions, I recommend reading the beginning to Human Action or the entirety of Theory and History (a very short book), both by Mises. Both can be read for free from either Mises.org or econlib.org.

I realize this post will probably come across harshly, but I am truly perplexed at why you insist on criticizing AE without knowing the content of what you criticize. For example, in your debate with Bob Murphy, Murphy attempted to explain the Austrian use of the term rationality, but when you were criticizing him, you insisted on using the mainstream definition. I don't know if you were nervous and didn't realize what you were doing, but it is yet another example (the other being praxeology vs thymology) of your lack of familiarity with the content of AE.

 
At 8:31 PM, November 12, 2013, Anonymous Matt Tanous said...

Frankly, there are two rather large books on my shelf that explain Austrian economics. Mises' Human Action and Rothbard's Man, Economy, and State. Both are available for free, and both are not that difficult of a read - I as a college graduate with only a few economics courses understood them just fine; they are no more difficult than Keynes' General Theory or your father's Monetary History.

And yet, you are attempting to argue against them without having read them, as evidenced by the misunderstanding and confusion in your original post. My only guess is that you are dismissing them, sadly, before even examining the work because it is so different in methodology from the empiricist positivism that you garnered from your father's take and your studies in physics.

 
At 8:32 PM, November 12, 2013, Blogger Gordon said...

I may be too late to this party for David to see this, but the difference between "Austrians" and "Chicagoans" appears most noticeably in discussions of macro - which is perhaps why David doesn't see them. TheMoneyIllusian blog is run by a Chicagoan, Scott Sumner, who thinks of his views as a refinement of Milton Friedman's. He has some Austrian commenters who routinely plague him.

 
At 9:18 PM, November 12, 2013, Blogger Bob Murphy said...

Not sure if anyone has linked it already, but FWIW I tried to answer David's questions in this post. (Also David, I gave two UPDATES to respond to your follow-up in the comments, in case you didn't see them.)

 
At 11:25 PM, November 12, 2013, Anonymous Jim Rose said...

economics got by from before 1776 to the 1930s just fine without econometrics and empirical testing.

that was when mises through there was no difference between austrian economics and mainline economics.

practical problems motivated where to focus the development of economic theory. economic theory itself was deductive.

 
At 5:06 AM, November 13, 2013, Blogger CN said...

About the minimum wage.

A higher preference for higher paid workers is like a higher preference for higher prices to the same service/product.

It violates the assumption of the logic of action.

It´s like saying it´s possible for people to prefer to receive the same product later than before, a negative interest rate.

It is possible, but that is outside of the logic of action. If people act,or in the sense they act economically (praxeologically), for the same product/servive a lower price must be the norm.

Aditionally we can say tha a preference for the same product/service at a higher than market prices, is in fact "another product" in this sense:

Product A becomes "Product A plus higher than market paid workers" -> higher price

 
At 8:01 AM, November 13, 2013, Anonymous Ted Levy said...

Gotlucky, in encouraging David Friedman, who has been in the libertarian movement for essentially his entire life and is a professional economist of some renown, to read Human Action recalls Virginia Wolfe's statement that there is no there there. I'm guessing David is already passing familiar with Human Action, though perhaps he has not reached the level of daily chants that Gotlucky might boast of...

 
At 8:19 AM, November 13, 2013, Anonymous gotlucky said...

Ted Levy:

Actually, David Friedman has not read either the beginning of Human Action or Theory and History. My tone was intentional because David Friedman typically tries his hardest to be intellectually honest in his pursuit of knowledge, but he throws this attitude out the window when it comes to AE.

His criticism of Rothbard about Adam Smith comes to mind. Friedman thinks that Rothbard was deliberately misleading in his critique of Smith, and Friedman did the necessary research in order to back up his claims about Rothbard.

Curiously enough, Friedman has not actually done this regarding AE. I'm assuming you haven't either, because you would know that historically praxeology was *not* actually the defining feature of the Austrian school of economics. David Friedman would have known this too had he done his research about AE.

For example, in response to Friedman's challenge, a member of libertyhq.freeforums.org pointed this out: "DF asks his readers to prove that economics laws can be deduced a priori by showing that the truth of a priori deduced laws can be tested empirically. So, in order to prove that AE is right about methodology, he sets up a test which assumes AE is wrong about methodology."

Again, Austrians make a very important distinction between praxeology and thymology. Friedman does not appear to know what the distinction is or why Austrians feel it is an important distinction to make, and I would assume you haven't either, because you would not have written such an ignorant response to my post. You would have actually had something to say about the distinction and why you feel those categories are not as useful as Austrians believe.

But, please, feel free to continue with your snark. I'm sure it makes you feel better to work on wit instead of wisdom. Not all Austrians agreed with Mises' views on methodology, yet they were at least familiar with his views so that they could critique them intelligently. Perhaps sometime you will find the time to become familiar with them in order to develop your own opinion.

 
At 8:52 AM, November 13, 2013, Anonymous gotlucky said...

To expand on Friedman vs Murphy on rationality:

Murphy was using the standard Austrian use - which goes back before Mises - of rationality describing the means-end framework. In other words, using a mean or means to achieve an end.

However, in the debate, even after Murphy pointed this out, Friedman *ignored* this and continued to use rationality as a synonym for a normal level of being reasonable. These are two very different meanings, and Friedman's critique of AE when using this definition rendered his criticism irrelevant.

So, even if I were to give Friedman the benefit of the doubt that he has in fact read the beginning of Human Action or Theory and History (or even any elementary Austrian work), he apparently didn't pick up on what was being said. I don't know if that was intentional or accidental, but as I pointed out in an above post, rationality is one of the three things that historically have been more integral to AE than praxeology itself. So it is actually important to know what the Austrian use of the term is if it happens to be different from your own use of the word. Otherwise you aren't actually reading an Austrian work on its own terms. You are reading your own biases into a work and failing to comprehend what is actually being said.

If after understanding what is being said you still disagree, so be it. But at least you can claim to have read the work on its own terms and should hopefully have some good reasons for disagreeing. But not even attempting to do this is actually intellectually dishonest.

 
At 2:27 AM, November 14, 2013, Blogger skylien said...

"Suppose that consumers dislike the idea of consuming the services of low paid workers--tastes, after all, are neither rational or irrational. Further suppose that consumers have no low cost way of determining how much a particular worker, say a waiter in a restaurant, is being paid, so individual employers don't have the option of paying their workers more in order to appeal to their customers' preferences.

The minimum wage is increased. Customers now know that workers in various low skill industries are being paid more. So the demand for the output of those industries goes up. Employment goes up instead of down."


If you try to think this example through it runs into some problems. It seems the Unseen is forgotten here. People don’t have more money to spend when the minimum wage law is enacted (increased). This means they necessarily need to spend less on goods which is produced in higher wage industries to be able to spend more on goods in low wage industries. Since the average profit rate is equal in low wage and high wage industries this means, losses and therefore layoffs in high wage industries.

Therefore it does not show that unemployment has to go down on net. It at best shows that it goes down for typical low wage earners.

 
At 2:34 AM, November 14, 2013, Blogger skylien said...

And if you at that point try to further think of what happens now, since typical high wage earners are suddenly unemployed, and maybe push into the low wage segment to get a new job with minimum wage as well, it becomes obviously a "dog chases his own tail" situation...

 
At 11:36 AM, November 15, 2013, Anonymous steve rose said...

" ... a proposition in economics that almost all Austrian economists and almost no non-Austrian economists would agree with. "

Do these examples meet your condition?

In "Man Economy and State" Rothbard rejects ...

1. The quantification of consumer surplus. Chap 4 Part 4
2. Producers shifting taxes to consumers. Chap 12 Part 8 Section C.

 
At 6:54 PM, November 15, 2013, Blogger J Galt said...

I listened to the talk you mentioned. It only plays half way thru, then ends mid sentence. Can't get the rest. Any idea why?

 
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At 9:07 AM, December 01, 2014, Blogger Keith Knight said...

How about- "The primary cause of business cycles that economies experience are a result of the State's misallocation of resources to less desirable ends; thus distorting market signals, creating an overvaluation a free market would have corrected."

 

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