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NEW PERSPECTIVES
ON
POLITICAL ECONOMY
Volume 5 Number 1
ARTICLES
2009
Carden: A Note on Proﬁt, Loss, and Social Responsibility
Simpson
and Kjar: Mengerian Causality: The Case of the Entrepreneur
Aranzadi
et al.:
The Praxeology of L. von Mises and the Theory of Action of
Alfred Schütz
Pejovich: From Social Democracy to Liberal Socialism
Block: Rejoinder to Machaj on Indiﬀerence
Howden: Book Review – Hülsmann and Kinsella (eds.). Property,
Freedom, and Society: Essays in Honor of H.-H. Hoppe
Editorial Board:
Josef Šíma President of CEVRO Institute [school of
political studies]
Dan Šťastný Department of Economics, University of
Economics, Prague
Advisory Board:
Enrico Colombatto University of Turin
Richard Ebeling Northwood University, Midland
Robert Higgs The Independent Review
Jesus Huerta de Soto University of Madrid
Jörg Guido Hülsmann Universite d’Anger
Language Editor: Shelly Gussis
ISSN: 1801-0938
ISSN 1801-0938
New Perspectives on Political Economy
Volume 5, Number 1, 2009, pp. 1 – 8
A Note on Proﬁt, Loss, and Social Responsibility
Art Carden
JEL Classiﬁcation: B53, D63, L21, L26, P11, P12, P14, P17
Abstract: This short note discusses the role of proﬁts and losses in organizing information.
I explore the ethical status of a ﬁrm earning losses and argue that to earn a
loss reveals important information about the production plans that are likely to be
successful. I further argue that the information revealed in a proﬁt-and-loss economy
is socially beneﬁcial.
This essay is inspired ﬁrst by an assignment I give my economics 101 students on proﬁt and loss and
second by a discussion that took place in Marshall E. McMahon’s business ethics course at Rhodes
College on Wednesday, February 7, 2007.
Assistant professor, Department of Economics and Business, Rhodes College, Memphis, car-
dena@rhodes.edu.
2 New Perspectives on Political Economy
1 Introduction
Does a business have a social responsibility? Is the pursuit of proﬁt as such an activity
requiring some form of moral absolution? According to a classic article by Milton
Friedman (1970), the answer is no, and business in fact has no responsibility to society
except to increase its proﬁts. Nonetheless, such an answer has been found wanting by
critics who argue that the proﬁt-seeking ﬁrm does, in fact, have a social responsibility.
In this note, I consider the question in light of the content and nature of proﬁts and
losses. A simple analysis of proﬁtable and unproﬁtable transactions suggests that
business confers social beneﬁt by its nature.
The unit of analysis in this case is the transaction as it occurs in an unregulated,
unhampered market. We begin with a set of simple assumptions. It is assumed that
private property rights are secure, and it is furthermore assumed that ﬁrms follow the
libertarian principle of non-aggression against non-aggressors. From this it follows
that entrepreneurial proﬁt and loss provide feedback to producers and consumers.
What is more, the system itself provides a set of ethical safeguards for the entrepreneur:
in the pursuit of proﬁts, one must appeal to the interests of his fellows.¹ This is
benevolent in consequence if not necessarily benevolent in intent. Proﬁts and losses
arise from the diﬀerence between total revenue and total cost, or the diﬀerence between
the value of what is produced and the value of what is consumed in production.
Proﬁt is earned when the diﬀerence is positive; losses are earned with the diﬀerence
is negative.
Consider ﬁrst the case of the successful entrepreneur who earns a proﬁt. Proﬁt
rewards producers for turning inputs into something more valuable. A proﬁt suggests
that consumers place a higher value on the output produced by the entrepreneur than
they placed on the inputs. The proﬁt-seeking entrepreneur is better oﬀ. Consumers
are better oﬀ. The entrepreneur’s employees are better oﬀ. All have succeeded in
adjusting the structure of production so as to create value.²
¹ On the non-aggression principle, see Block, Defending the Undefendable, pp. 9-12. On entrepreneurial
proﬁt and loss, see Mises, Human Action, pp. 289-293 and Smith, Wealth of Nations, pp. 105-115.
² See on this Mises, Human Action, pp. 289-293 and Gwartney et al., Common Sense Economics, particularly
chapter 1 on “Ten Key Elements of Economics.”
Carden: A Note on Proﬁt, Loss, and Social Responsibility 3
Consider now the case in which the unsuccessful entrepreneur earns a loss. A loss
is the market’s punishment; it is the consumers’ way of upbraiding the unsuccessful
entrepreneur for wasting valuable resources. We know resources are wasted because
people value the inputs more highly than the outputs: the inputs would have been
better used in alternative lines of employment. To the extent that the entrepreneur
is the sole residual claimant to the losses accruing to his activity – and I acknowledge
that these losses may be externalized through political channels – it is the entrepreneur
who bears the burden of his mistake and society which harvests the valuable information
created by losses. Speciﬁcally, losses accruing to entrepreneurs tell future
entrepreneurs what not to do and, if losses persist, the entrepreneur will eventually
be relegated back to the labor market where he can do the most good (or the least
harm, as the case may be).
Business in a free market is the practice of purchasing resources, renting labor
and capital, combining them into consumer goods, selling the goods, and reaping
the reward in the form of proﬁts and losses. The doctrine of the social responsibility
of business suggests that somehow this activity conveys upon the businessperson (or
business enterprise) some added responsibility – a duty to one’s fellow man that did
not exist before the creation of the business enterprise.
The idea that a company has a social responsibility outside of their contractual
obligations to shareholders places a positive obligation on businesspeople, entrepreneurs,
and managers. This places the businessperson in the same category as the
criminal, who owes a positive duty to society for his crimes. And yet it seems unreasonable
to suggest that someone engaged in a strictly Pareto-improving activity is to
fall in the same moral category as someone committing identiﬁable crimes.³
2 Proﬁt and Responsibility
It has been written that “From everyone who has been given much, much will be required.”⁴
While this seems to be a plausible justiﬁcation for business “social respon³
On the relevance of Pareto’s unanimity rule for evaluating the welfare consequences of policies and
actions, see Rothbard, Toward a Reconstruction.
⁴ Luke 12:48 (NASB).
4 New Perspectives on Political Economy
sibility,” one may contest the fundamental premise: that something has been given
to the businessperson, and that this something enjoins upon her a positive obligation
to her fellows.
The idea of social responsibility suggests positive duty: the businessperson with
a social responsibility is, somehow, bound to either perform actions for the beneﬁt of
others, or to refrain from actions of which stakeholders do not approve. Similarly, the
legal doctrine of tort (under strict liability) also requires legal restitution: it creates
an obligation on the part of the tortfeasor to the victim. But there is an important
diﬀerence between tort and voluntary exchange. Tort is the involuntary extraction
of property by one person against another. Proﬁt, on the other hand, is the reward
enjoyed by the entrepreneur who successfully adjusts the structure of production to
better ﬁt the tastes of consumers.
What, one might ask, could these additional actions consist of in a market economy?
The proﬁtable entrepreneur does well by society in that he takes resources and
converts them into something more valuable. The unproﬁtable entrepreneur does
poorly by society by wasting resources; nonetheless, even entrepreneurial losses provide
valuable information about market conditions and the range of employments of
labor and capital that are (or are not) proﬁtable. Proﬁtable entrepreneurs show us
what to try. Unproﬁtable entrepreneurs show us what not to try.
With apologies to Adam Smith, the entrepreneur brings about a socially beneﬁcial
outcome which was no part of his intention by seeking his own self-interest.
Proﬁtable entrepreneurs are rewarded for creating value, while unproﬁtable entrepreneurs,
though punished for wasting resources, nonetheless confer beneﬁts on society
because their unproﬁtable ventures reveal information about production plans
that do not create value. The prospect of proﬁt means that the plan will be tried; the
reality of loss means that revealed information will be trustworthy.
James Buchanan once wrote that “order is deﬁned in the process of its emergence.”⁵
Especially in a complex society, we can say the same thing about virtue. This
is particularly relevant to the question of entrepreneurial proﬁt and loss. It is impossible
to know ex ante whether a particular venture will be proﬁtable, but the ex post
⁵ Buchanan, “Order.”
Carden: A Note on Proﬁt, Loss, and Social Responsibility 5
revelation of proﬁtability suggests that coherent social structure is also deﬁned in the
process of its emergence.⁶
It may be said, then, that virtue is deﬁned in the process of its emergence. There
are many cases in which the right thing to do may well be known ex ante; in many
business dealings, whether one has actually fulﬁlled his agreements and obligations
– say, to maximize shareholder value – will be revealed by the market process.
What of the ethical status of proﬁt and loss? Far from being the “dammage of
another,” as Michel de Montaigne called it, proﬁt arises from the alleviation of what
Mises called “felt uneasiness.” What is good can be said to be revealed in many cases
by the market process.⁷
Human action is fundamentally a question of information. The quality of information
available will determine the types of actions undertaken; thus, when markets
with well-deﬁned property rights reveal information through proﬁts and losses, it
appears that this will bring us ever closer to a more virtuous state of aﬀairs.
A powerful normative view of proﬁt is most clearly expressed in Ayn Rand’s classic
novel Atlas Shrugged. Rand draws a sharp and careful distinction between her heroes
and her villains, and one of the clearest lines of demarcation concerns their view of
the role of proﬁt in society. One character, after a lament for how, in spite of his
pure intentions, his company was ruined by those who simply wouldn’t play along,
sanctimoniously tells Dagny Taggart that he has “never made a proﬁt” in his life. To
this Taggart responds that to live life without making a proﬁt is despicable; for the
observer, lamentable.
Again, Michel de Montaigne argued that “the proﬁt of one man is the dammage
of another.” In a sense, we can agree with Montaigne in that, say, entry by a ﬁrm
like Wal-Mart will take business from incumbent retailers. However, even this apparent
damage ultimately works out to the greater good, for the beneﬁts of higher
productivity displayed by abler merchants will redound to the beneﬁt of consumers,
to borrow a phrase from F.A. Hayek and Milton Friedman. Moreover, losses will guide
⁶ For a discussion of this in the context of individual utility maximization, see Block, Carden, and
Carson, What Does Rod Stewart Really Know Now?
⁷ See on this Mises, Theory and History, pp. 35-68 and Human Action, pp. 289-293.
6 New Perspectives on Political Economy
the unsuccessful entrepreneur to the position in which he or she is best able to serve
consumers.
3 Stakeholders Far and Near
The crux of the debate over a ﬁrm’s responsibility to stakeholders versus its responsibility
to shareholders fundamentally concerns the fact that any action by a company
will alter the relative prices faced by said stakeholders. But who should we consider
stakeholders? It is true that the families relying on a ﬁrm’s workers may be considered
stakeholders, but it is equally true that the ﬁrm’s customers are also stakeholders.
When a ﬁrm lays oﬀ workers in order to become more streamlined or more competitive,
the net immediate result is a transfer from one set of stakeholders to another.
Unless there is a non-arbitrary reason why we should prefer one set of stakeholders
over another, such a move should be Kaldor-Hicks eﬃcient. One stakeholder’s sad
state is compensated for by another stakeholder’s windfall.
Further, from an ethical standpoint, there is no contract, implicit or otherwise,
between a ﬁrm and its stakeholders like the contract that exists between a ﬁrm and
its stockholders. Unless the contract speciﬁes otherwise (as it does in the case of
Whole Foods Market, which donates a percentage of its proceeds to local charities),
the ﬁrm’s ﬁduciary duty is to maximize shareholder value.
In a sense, we are all stakeholders in a society that maximizes productive eﬃciency
because productivity makes possible what we might call the truly important things
in life. While money is not everything, and while material possessions are not everything,
the things that we ﬁnd truly valuable – relationships, friendships, et cetera –
are most easily enjoyed when basic needs like food, clothing, and shelter have been
met.
While negative shocks to some stakeholders are unfortunate and lamentable, they
are insurable (albeit perhaps imperfectly), either through saving, through direct insurance,
or by investing in networks of relationships (churches, civic organizations,
or unions) that might provide income support in the wake of a plant closure or something
similar.
Carden: A Note on Proﬁt, Loss, and Social Responsibility 7
Finally, many ethical systems (among them Catholic theology, for example) express
a “preferential option for the poor” whereby policies are to be evaluated in part
based upon their impact on “the least of these among us.” And so it is that globalization,
international trade, and Joseph A. Schumpeter’s gale of creative destruction
in fact work to the beneﬁt of the poorest of the poor. While trade liberalization may
turn relative prices against some constituencies, in many cases it turns relative prices
in favor of the poorest and least-skilled. If we admit the generally untenable assumptions
that utilities can be compared across individuals and that there are diminishing
marginal returns to income, we can argue that the turn in relative prices against rich
western stakeholders and in favor of the global poor represents a net improvement.
Entrepreneurship is an exercise in risk transfer and risk reduction, and those who
become entrepreneurs are those with a comparative advantage in bearing risk. We
can say that this is ethically laudable: entrepreneurs (and, in particular, capitalistentrepreneurs)
have a comparative advantage in reducing risk and in smoothing out
future consumption patterns. It is the job of the capitalist-entrepreneur to advance
income to current factors of production (labor and capital) in anticipation of being
able to sell output at a future date for more than the costs of production.⁸
Once again we are confronted with a question: what is it, exactly, that obligates
the capitalist-entrepreneur to give something back to the community when it is clear
that he performs valuable services by smoothing consumption and reducing risk? In
a market economy with well-speciﬁed, well-enforced property rights, the entrepreneur
is fully compensated (with proﬁts) for his risk-reducing and income-advancing
activities; however, those to whom the entrepreneur is allegedly obligated (workers
and the general public) are also fully compensated. Indeed, at ﬁrst glance, it appears
that the transfer of risk from workers to capitalists provides a far more substantial
beneﬁt to the workers than it does to the capitalist-entrepreneur. Rather than exploring
the extent to which the entrepreneur is obligated to give something back to
society, we perhaps should explore the extent to which we owe entrepreneurs a debt
of extra gratitude.
⁸ See on this Rothbard, Man, Economy, and State pp. 463-469.
8 New Perspectives on Political Economy
Bibliography
[1] Block, Walter. 1991. Defending the Undefendable. San Francisco: Fox & Wilkes.
[2] Block, Walter, Art Carden, and Stephen W. Carson. “Ex Ante and Ex Post: What
Does Rod Stewart Really Know Now?” Business and Society Review 111(4): 427-
440.
[3] Buchanan, James M., “Order Deﬁned in the Process of its Emergence,” in
Buchanan, James M.; Gordon, David; Kirzner, Israel M.; Rizzo, Mario J.; Shearmur,
Jeremy; Vaubel, Roland; Vaughn, Karen I., “Comments on ’The Tradition
of Spontaneous Order’ by Norman Barry.” Literature of Liberty, vol. v,
no. 4, pp. 5-18. Winter 1982. Library of Economics and Liberty. 1 April 2008.
http://www.econlib.org/library/Essays/LtrLbrty/bryRF1.html
[4] Friedman, Milton. 1970. “The Social Responsibility of Business is to Increase its
Proﬁts.” New York Times Magazine, September 13, 1970.
[5] Gwartney, James, Richard L. Stroup, and Dwight Lee. 2005. Common Sense Economics:
What Everyone Should Know About Wealth and Prosperity. St. Martin’s
Press.
[6] Mises, Ludwig von. 1949. Human Action. New Haven: Yale University Press.
[7] Mises, Ludwig von. 1957 [1985]. Theory and History: An Interpretation of Social
and Economic Evolution. New Haven: Yale University Press. Reprinted Auburn,
AL (Ludwig von Mises Institute).
[8] Montaigne, Michel de. “The Proﬁt of One Man is the
Dammage of Another.” Essays, Chapter XXI. Available online:
http://www.uoregon.edu/%7Erbear/montaigne/1xxi.htm
ISSN 1801-0938
New Perspectives on Political Economy
Volume 5, Number 1, 2009, pp. 9 – 16
Mengerian Causality: The Case of the Entrepreneur
Barry D. Simpson and Scott A. Kjar
JEL Classiﬁcation: B13, B25, B41, D02
Abstract: Modern economics is ﬁlled with models using simultaneous equations to
explain economic behavior. One common model, the circular ﬂow diagram, is found
in many principles-level textbooks, and is oﬀered as the basic way in which economies
function. The entrepreneur, if included at all, is relegated to being a part of the box
labeled “ﬁrms.” Carl Menger argued, however, that economic behavior is best understood
using the idea of cause and eﬀect. Further, economic behavior is temporally
directional. Thus, causation and time are missing in modern analyses, leading to a superﬁcial
role for the entrepreneur. This article uses the example of the entrepreneur
to highlight Menger’s method of cause and eﬀect.
Assistant professor in economics, University of Dallas, scottakjar@yahoo.com.
10 New Perspectives on Political Economy
1 Introduction
In 1871, Carl Menger and William Stanley Jevons ushered in the marginal revolution,
followed in 1874 by Leon Walras. In doing so, they helped move the focus of economics
from macro issues (e.g., the wealth of nations) to micro issues. However, as
has been well documented, the three marginalist pioneers were engaged in very different
analyses.¹ Simultaneity played a large role in the paradigms of both Walras
and Jevons, leading to a substantial role for modeling systems using simultaneous
equations.
Menger, however, preferred the Aristotelian approach of cause and eﬀect. In fact,
the very ﬁrst sentence of Menger’s ﬁrst book states, “all things are subject to the law
of cause and eﬀect.”² Using this method, economic logic dictates a linear approach.
There is a beginning to economic activity, to wit, a human need, and this need causes
a series of events to unfold which culminate in the satisfaction of that need.
In addition to series of simultaneous equations which permeate Neoclassical general
equilibrium economics, nowhere is the idea of simultaneity more prevalent than
in the circular ﬂow diagram. In this diagram, no single variable can be said to cause a
reaction in another variable. Economic actors become aggregate groups of consumers
and producers where goods and money ﬂow from one group to another through the
mysterious production function. Simpson and Kjar argue that the circular ﬂow obscures
the entire function of the market economy—the allocation of scarce resources
among unlimited wants—because of its circularity. The circular ﬂow has no beginning
or end, and misses the cause and eﬀect evident in Menger’s analysis. The most
important ingredients in the allocation problem, the entrepreneur and monetary calculation,
are left out of the simultaneous circular ﬂow.³
¹ See James Bonar, “The Austrian Economists and their view of Value,” Quarterly Journal of Economics,
Volume 3, no. 1 (1988), pp. 1-31; George Stigler, “The Economics of Carl Menger,” Journal of Political
Economy, Volume 45, no. 2 (1937), pp. 229-250; William Jaﬀé, “Menger, Jevons, and Walras DeHomogenized,
Economic Inquiry, Volume 14, no. 4 (1976), pp. 511-524; Sandra Peart, “Jevons and
Menger Re-Homogenized: Jaﬀé After 20 Years ,” American Journal of Economics and Sociology, Volume
57, no. 3 (1998), pp. 307-325; and Robert Hébert, “Jevons and Menger Re-Homogenized: Who is
the Real ‘Odd Man Out’?”, American Journal of Economics and Sociology, Volume 57, no. 3 (1998), pp.
327-332, for examples of these diﬀerences.
² Carl Menger, Principles of Economics (Grove City: Libertarian Press, 1994), p. 51.
³ Barry D. Simpson and Scott A. Kjar, “Circular Flow, Austrian Price Theory, and Social Appraisement,”
Quarterly Journal of Austrian Economics, Volume 8, no. 4 (2005), pp. 3-13.
Simpson and Kjar: Mengerian Causality: The Case of the Entrepreneur 11
In this paper, we elaborate on the linear causation featured in the Menger-Mises
theory of the entrepreneur. In section 2, we consider the forward-looking behavior
of the entrepreneur which leads to monetary calculation. In section 3, we discuss
the production and supply of consumer goods by entrepreneurs. Section 4 shows
the ex post implications of entrepreneurial successes and failures. In the last section,
we draw conclusions about the entrepreneur, time, forward-looking behavior, and
simultaneity.
2 Consumers to Entrepreneurs
Entrepreneurs perform a critical temporal function in markets. Since humans experience
time as a linear phenomenon, the entrepreneur’s function creates a linear
causality which leads to the rational allocation of scarce resources among unlimited
wants. The ﬁrst step of the process is the entrepreneur’s response to human needs.
Entrepreneurs are essentially forward looking. Their job is to anticipate the needs
of consumers. So, entrepreneurs begin by forming expectations of the future. These
expectations concern particular consumer goods which the entrepreneur believes
consumers will demand. However, the entrepreneur must deem these consumer
goods proﬁtable before they commence production. Therefore, entrepreneurs engage
in monetary calculation.
Monetary calculation consists of an ex ante decision-making process, and an ex
post evaluation of previous decisions. Three components form the decision-making
process. First, the entrepreneur calculates the present costs of the factors of production.
Second, the entrepreneur judges future consumer good prices and market
conditions.⁴ Third, based on these calculations, if the entrepreneur estimates that
the total revenue from the future sale of the stock of goods produced exceeds his total
costs by more than the prevailing interest rate over the production period, then
he deems this particular production method and consumer good proﬁtable, and he
begins the production process.
We can trace, therefore, a linear timeline of causation that begins with consumer
needs and ﬂows directly to the expectations of entrepreneurs. Entrepreneurs are con⁴
Guido Hülsmann, “Knowledge, Judgment, and the Use of Property,” Review of Austrian Economics,
Volume 10, no. 1 (1997), pp. 23-48.
12 New Perspectives on Political Economy
sumers too; however, they are also part of the intellectual division of labor that encompasses
all producers and consumers and gives rise to the structure of present
input and output prices that are used in calculating expected future proﬁts⁵
3 Entrepreneurs to Factor Owners
Production occurs in stages over time. First, the entrepreneur must bid for factors
of production based on his calculations of expected proﬁtability. Since factor owners
will sell to the highest bidders, entrepreneurs select how the scarce resources will be
allocated among consumer goods. These factors/resources are higher-order goods
which will be combined with other higher-order goods such as machinery and labor
to form consumer goods. Since resources and production methods are substitutable,
the expected proﬁts based on current factor prices lead the entrepreneurs to make the
most rational choices for resources and methods. Moreover, the exchanges between
entrepreneurs and factor owners cause prices for factors of production to emerge.
Once the resources and methods are selected, the consumer goods are produced.
This may be a simple and short process, or it may be complicated and long. Since the
interest rate ﬁgures into the entrepreneur’s calculations, the best possible choices
(from the entrepreneur’s point of view) are made. Once the consumer goods are
produced, entrepreneurs supply these goods to consumers. Thus, the existing supply
of consumer goods is always based on past entrepreneurial decisions.
The prospective actions of consumers cause entrepreneurs to act. Now the monetary
bids of entrepreneurs cause factor owners to act. The exchanges between entrepreneurs
and factor owners not only cause factor prices to develop, but also leads
our timeline of causation into the production process.
Knight criticizes Menger’s linear exposition of the production process.
Perhaps the most serious defect in Menger’s economic system, if we may so
call his position as a whole, is his view of production as a process of converting
goods of higher order into goods of lower order. This involved a fallacious view
of the economic process and in particular of the role of time. In the ﬁrst place,
⁵ Joseph Salerno, “Postscript: Why a Socialist Economy is Impossible,” in Mises (1990).
Simpson and Kjar: Mengerian Causality: The Case of the Entrepreneur 13
there is in fact no such serial sequence. It would call for the existence of goods of
a supreme or highest order, not produced by other goods, and in the economic
means, there are no such goods.⁶
This, however, is an odd position for any respectable economist to adopt. After all,
while all capital goods are certainly produced by higher orders of goods, it is erroneous
to assume that land and natural resources are so produced, or that time is so
produced, or that entrepreneurship or labor are so produced.⁷
4 Entrepreneurs to Consumers
As entrepreneurs supply goods to consumers, the exchanges between the two groups
cause prices of consumer goods to develop. These prices are based on the previous
decisions of entrepreneurs and the subjective valuations of the consumer goods by
consumers. This process allows entrepreneurs to perform an ex post evaluation of
their past decisions. This evaluation is based on realized proﬁt and loss.
Proﬁt is a reward to entrepreneurs who correctly anticipate consumer needs.
Thus, correct entrepreneurs, having been rewarded by the market, will have more
ﬁnancing available to make even more decisions concerning allocation of scarce resources
and how they are used for the production of consumer goods. Entrepreneurs
who suﬀer loss, having been punished by the market, will subsequently have fewer
ﬁnancial resources available to them. Hence, their decision-making power regarding
scarce resources is diminished. Entrepreneurs who continue to suﬀer loss will eventually
be driven from the market. Therefore, by purchasing or refusing to purchase,
consumers select the entrepreneurs who allocate resources in a way that correlates
with consumer wishes.
Proﬁt and loss also allow entrepreneurs to modify their expectations and judgments
within their decision-making process. They may choose diﬀerent factors or
production methods in an eﬀort to cut costs, or make any other number of decisions
which factor into the expected proﬁtability of their venture. Thus, our linear timeline
⁶ Frank Knight, “Introduction,” In Menger (1994).
⁷ Rothbard’s (1970, pg 286) exposition of the stages of production includes a payment for “original
factors.”
14 New Perspectives on Political Economy
of causation, which began with consumer needs, returns to consumers through the
production of consumer goods. Since wants are unlimited and ever changing, entrepreneurs
may begin the decision-making process anew, incorporating their modiﬁ-
cations.
5 Conclusions
Vaughn suggested that, in many ways, Menger was a Classical economist, in that he
was trying to answer the fundamental question posed by Smith: what are the causes
of the wealth of nations?⁸ However, Menger reached a diﬀerent answer than did
Smith. Smith’s key was the idea that the division of labor was the main source of
economic progress. Menger criticized this and, while he built on Smithian capital
themes, suggested instead that forward-looking behavior and intention were the keys.
These ideas are scant, if extant, in Smith.
“The greatest improvement in the productive powers of labour,” says Adam
Smith, “and the greater part of the skill, dexterity, and judgment with which
it is anywhere directed, or applied, seem to have been the eﬀects of the division
of labour.” And: “It is the great multiplication of the productions of all the
diﬀerent arts, in consequence of the division of labour, which occasions, in a
well-governed society, that universal opulence which extends itself to the lowest
ranks of the people.”⁹
Menger contrasts an Australian tribe that has completely and eﬃciently engaged in
the division of labor but which produces no capital, with that same tribe that has
now engaged in capital acquisition. Menger argues that with each additional order
of goods, the tribe becomes more productive. Such additional orders of goods
require forward-looking behavior by individuals planning to meet future needs. In
other words, it requires entrepreneurs.¹⁰
Incorporating the entrepreneur allows us to draw two major conclusions from this
paper. First, it is possible to encapsulate the theory of the entrepreneur within a lin⁸
Karen Vaughn, Austrian Economics in America: The Migration of a Tradition (Cambridge: Cambridge
University Press, 1994).
⁹ Menger (1994, pp. 71-72).
¹⁰ Ibid., pp. 72-75.
Simpson and Kjar: Mengerian Causality: The Case of the Entrepreneur 15
ear, time-wise causality of market processes. The theory of the entrepreneur begins
with a decision-making process geared toward the future. The production process itself
is a linear process which occurs over time, from resources and higher-order goods
down to consumer goods of the ﬁrst order. The evaluation process based on proﬁt and
loss continues the selection process and aids the entrepreneur in a further decisionmaking
process. Because appraisement is a process, it occurs over time; therefore, a
line of causality can be marked from beginning to end. According to Rothbard:
[T]he mathematics of simultaneous equations, dealing in physics with unmotivated
motion, stresses mutual determination. In human action, however,
the known causal force of action unilinearly determines the results.¹¹
Once this linear causality is delineated, another argument against the Neoclassical
circular ﬂow is highlighted. Of course, there is no time in the circular view of the
world. But time is certainly a factor of production and even in the function of the
entrepreneur himself. Menger’s appreciation of cause and eﬀect, and the Austrian
incorporation of time into economics is still valid and defensible.
Bibliography
[1] Bonar, James. 1888. “The Austrian Economists and their View of Value.” Quarterly
Journal of Economics 3, 1: 1-31.
[2] Hébert, Robert. 1998. “Jevons and Menger Re-Homogenized: Who is the Real
‘Odd Man Out’?” American Journal of Economics and Sociology 57, 3: 327-332.
[3] Hülsmann, Guido. 1997. “Knowledge, Judgment, and the Use of Property.” The
Review of Austrian Economics 10, 1: 23-48.
[4] Jaﬀé, William. 1976. “Menger, Jevons, and Walras De-Homogenized.” Economic
Inquiry 14, 4: 511-524.
[5] Knight, Frank. 1950. “Introduction.” In Principles of Economics by Carl Menger,
Glencoe, IL.: The Free Press.
¹¹ Rothbard, Man, Economy, and State: A Treatise on Economic Principles (Los Angeles: Nash Publishing,
1970), p. 279.
16 New Perspectives on Political Economy
[6] Menger, Carl. 1994 (1871). Principles of Economics. Translated by James Dingwall
and Bert F. Hoselitz: Grove City: Libertarian Press.
[7] Mises, Ludwig von. 1998 (1949). Human Action. The Scholars Edition. Auburn,
Ala.: Ludwig von Mises Institute.
[8] Mises, Ludwig von. 1990 (1920). Economic Calculation in the Socialist Commonwealth.
Auburn: Ludwig von Mises Institute.
[9] Peart, Sandra. 1998. “Jevons and Menger Re-Homogenized: Jaﬀé after 20 Years.”
American Journal of Economics and Sociology 57, 3: 307-325.
[10] Rothbard, Murray N. 1970 (1962). Man, Economy, and State: A Treatise on Economic
Principles. Los Angeles: Nash Publishing.
[11] Salerno, Joseph T. 1990. “Postscript: Why A Socialist Economy is ‘Impossible’.” In
Mises Economic Calculation in the Socialist Commonwealth.
[12] Simpson, Barry D., and Scott A. Kjar. 2005. “Circular Flow, Austrian Price Theory,
and Social Appraisement.” Quarterly Journal of Austrian Economics 8, 4: 3-13.
[13] Smith, Adam. 1981 (1776). An Inquiry Into the Nature and Causes of the Wealth of
Nations. Indianapolis: Liberty Press.
[14] Stigler, George. 1937. “The Economics of Carl Menger.” Journal of Political Economy
45, no. 2: 229-250.
[15] Vaughn, Karen I. 1994. Austrian Economics in America: The Migration of a Tradition.
Cambridge: Cambridge University Press.
ISSN 1801-0938
New Perspectives on Political Economy
Volume 5, Number 1, 2009, pp. 17 – 32
The Praxeology of L. von Mises and the Theory of Action of
Alfred Schütz
Javier Aranzadi, Ángel Rodríguez, Jorge Turmo, and Óscar Vara
JEL Classiﬁcation: A12, A14, B41, B53
Abstract: The aim of this article is to investigate the relationship between the praxeology
of L. von Mises and the theory of action of Alfred Schütz. Because of the
importance that Mises’ theory has had on economics it is interesting to highlight the
coincidences and synergies which exist between the two authors. In the ﬁrst place,
it is interesting because the praxis as a theory of the action is being more and more
diﬀused in the social sciences and in the second place, because the importance which
the work of A. Schütz and the direct pupils, especially Thomas Luckmann has had on
sociology.
Dr. Javier Aranzadi, Associate professor, Autonoma University of Madrid, javier.aranzadi@uam.es.
Dr. Ángel Rodríguez, Associate professor, Autonoma University of Madrid, angel.rodriguez@uam.es.
Dr. Jorge Turmo, Associate professor, Autonoma University of Madrid, jorge-turmo@uam.es.
Dr. Óscar Vara, Associate professor, Autonoma University of Madrid, oscar.vara@uam.es.
18 New Perspectives on Political Economy
1 The aim and structure of the paper
The study of the action is the aim of the social sciences. The object of social study is
man and his actions, his social relations and the cultural framework which he constructs.
Thus human life is social life. A person does not live in isolation. He is not
merely an isolated, independent individual, for whom the relations with other people
are something external and circumstantial.
In reality, social relations are a basic constituent of the individual personality. So,
following Husserl, we can deﬁne man as a “being-with” (mit-Sein). As Husserl states:
“humanity in general is by its essence about being a man in humanities linked by
generation and sociability” (Husserl, 1954, p. 16). By this expression he means that
the being of man is open to other men as well as the culture and the social institutions.
That is, he is a being open to this symbolic world, which constitutes the world of life,
to which he belongs (Lebenswelt).
It is in this context that the work of Alfred Schütz acquires its real importance.
His ﬁrst book and principal work, is called Der sinnhafte Au au der sozialen Welt
(Schütz, 1972). The aim of this book is to advance the methodology of Weber applying
it to the study of social action and by contributing two new theories to this:
the phenomenology of E. Husserl and the philosophy of H. Bergson. Alongside the
author’s explicit contributions, the stamp of L. von Mises can be discerned from the
ﬁrst pages, which is not surprising since Schütz was an assiduous member of the PrivatSeminar
which Mises maintained in Vienna during the 20s and 30s, and knew, at
ﬁrst hand, Mises’ theoretical developments, which were to lead to the formation of
his theory of action or praxis, which culminated in his book Human Action (Mises,
1996).
Because of the importance that Mises’ theory has had on economics it is interesting
to highlight the coincidences and synergies which exist between the two authors.
In the ﬁrst place, it is interesting because the praxis as a theory of the action is being
more and more diﬀused in the social sciences and in second place, because the importance
which the work of Schütz and the direct pupils, especially Thomas Luckmann
(Luckmannn, 1992) has had on sociology. Besides this, one should bear in mind the
recognition by authors such as J. Habermas of the importance of Schütz’s work on
the development of their own ideas.
Aranzadi et al.: The Praxeology of L. von Mises and the Theory of Action … 19
So, taking Mises’ work as a starting point, the aim of this brief exposition is to
show the theoretical parallelism between Schütz’s work and the Misian praxeological
categories in two essential aspects:
1) The categories developed by Mises as the basis of human action: rationality,
will, choice, causality and temporality are developed in Schütz’s work.
2) Mises uses the praxeological categories in order to explain market exchanges or
catallactics as a particular case. So for Mises economics or catallactics is a branch of
praxeology. And economics is grounded in a general theory of action. In Schütz’s case,
the method is parallel. It starts from an explanation of individual action endowed
with meaning and in a subsequent development, he analyses social inter-relations
and uses, as an example of his theoretical analysis, market exchanges or catallactics.
In this way, the importance of the analytical categories of Praxeology and Catallactics
has a wider ﬁeld of application than is generally recognized, especially on the part of
the neo-classical economists.
The structure of the present article is as follows. In the second section, there is
a succinct presentation of the elements which constitute Mises’ praxeology. In the
third section there is an exposition of the constituents of individual action for Schütz.
In the fourth section there is presented the development of the inter-subjective comprehension
which explains the social interrelations in the work of Schütz and which
give rise to the social world.
2 The theoretical structure of Mises praxeology¹
Mises explains market phenomena or catallactics from a general theory of action. For
the explanation of market phenomena it is necessary to construct a general theory of
action. The ﬁrst two parts of Human Action are dedicated to this task. The remaining
ﬁve parts are deductions of economic laws. As he says himself, any extension of
his theoretical system of action is the basis for improving the economic theory and
its methodology. The structure of the ﬁrst part of the book is an analysis of the action.
The starting point of Praxeology “is not a choice of axioms and a decision about
¹ For a detailed explanation of Misian praxeology, Aranzadi (2006) is particularly useful.
20 New Perspectives on Political Economy
methods of procedure, but a reﬂection about the essence of action” (Mises, 1996, p.
39). The method is to reﬂect on the components, which are present in every action,
so that the said action arises. What then is the irreducible cause for which the action
is produced? It is the category of action itself. If a person wants to deny this
principle he is making a conscious volition. By deﬁnition all conscious conduct is an
action. Therefore concludes Mises that this person has acted in denying the category
of action. The action is an axiom; it is irreducible to other causes. It is a necessary
condition of our knowledge. Mises’ theory of human action is constructed on that human
action is an irreducible presupposition. The whole theoretical ediﬁce of Mises
starts from this assumption. It is a self-founding principle.
Although the action cannot be reduced to another cause, man has to perceive
a situation of dissatisfaction before acting. Mises writes: “Acting man is eager to
substitute a more satisfactory state of aﬀairs for a less satisfactory.” (Mises, 1996, p.
13). He always has to prefer one state to another. Indiﬀerence is only produced in a
being, who is “perfectly content with the state of his aﬀairs would have no incentive
to change things” (Mises, 1996, p. 13). Even perceiving this unsatisfactory state, the
man cannot act. When does this happen? In Mises’ words: “[when the man does not
have] the expectation that purposeful behavior has the power to remove or at least
to alleviate the felt uneasiness. In the absence of this condition no action is feasible.
Man must yield to the inevitable” (Mises, 1996, p. 14). Therefore, with regards to the
axiom of human action, Mises considers as an exterior requirement, or rather as a
prerequisite these two conditions: the subjective perception of dissatisfaction, and
the consideration of certain things as resources for the attainment of an end.
Here then, we have the individual with dissatisfaction. He wants a change in his
situation and considers that the means exist for changing it. What things can he use
as resources? If a man does not know how to relate to the elements in his environment,
he does not know what to expect. He does not have a ratio, a measure among
things. He does not have any reason to act. He will have to discover the causal relations
that provoke changes. Mises aﬃrms: “Acting requires and presupposes the
category of causality.” (Mises, 1996, p. 22) The category of means and ends presupposes
the cause-eﬀect relation.
Starting from the axiom of action, his prerequisite was the existence of dissatis-
Aranzadi et al.: The Praxeology of L. von Mises and the Theory of Action … 21
faction and the desire to change that situation. Whoever acts distinguishes between
the past, the present and the future. This diﬀerence is not adequate in philosophical
terms. Every present moment is sunk in the past. There is no more than a tenuous
line between the future and the past. Whoever acts distinguishes between a time
antecedent to the action, the past, a time of action, and a time consequent to the
action, the future. In such a way that the person perceive the causal relation in this
antecedent-consequent sequence. If on the one hand, the action implies the desire
for change, causality is necessary to interrelate with the recourses, which can produce
this change. The action and causality are intimately linked. On the other hand,
the causal antecedent-consequent relation is presented in a procedural temporality.
Causality and temporality are inseparable. Mises concludes: “The concepts of change
and of time are inseparably linked together.” (Mises, 1996, p. 23)
The fundamental structure of the Misian system is almost ﬁnished with respect
to the ﬁrst part: his theory of action. The basic element is the irreducible axiom of
human action. The second step has been to clarify the prerequisites of the action,
preference. The third step was to analyze how this prerequisite implies the causal
category in order to know how to distinguish the means-ends relation. The fourth and
last step is to explain the sequential character of the causal relation. The conclusion
that Mises reaches is that the action is a perceived temporal preference like a mean-end
relation.
3 The concept of action in Schütz
Schütz begins with the methodological concepts set out by M. Weber (1978). His
starting point is the concept of social action. There are two characteristics that distinguish
social action from mere human conduct.
1) The action, as such, is characterized by its being signiﬁcant for the person.
This distinguishes it from mere reactive or passive conduct. In Schütz’s words: “every
action directed towards an object is ipso facto meaningful” (Schütz, 1972, p. 15). That
is, it is behavior orientated towards an end, to which the actor attributes a subjective
signiﬁcance.
22 New Perspectives on Political Economy
2) The action is characterized as social action inasmuch as man enters in relations
with other people. That is to say, in the social relation, the action assumes signiﬁcance,
since the action acquires its sense with reference to a “you”. Schütz:”[the
person] must be aware of and interpret the meaning of the other’s behavior” (Schütz,
1972, p. 16). We enter fully into the symbolic world of culture. It is by means of this
cultural medium that we shape the signiﬁcant objectives which each person interprets
subjectively in his individual action and which is at the same time interpreted
by the people with whom he interacts.
This is the level of the study of the world of life, where the structures which shape
our co-existence are formed: language, economy, law and social institutions. Therefore,
individual action acquires its full meaning inasmuch it is social. But this latter
is constructed on the former, in such a way that it is necessary to analyze how a person
constitutes a subjective signiﬁcance in the stream of his consciousness. We have
to pose the following question: what does it mean to say that a person acts with his
subjective signiﬁcance?
When we ask this question we are referring to the anthropological categories
which explain individual action. Firstly, the diﬀerence between the action and other
activities and forms of behavior is that the action is orientated towards the future.
From the beginning, Schütz introduced the Bergson’s concept of durée (1963). The
action takes place in the course of time or rather, human life is in time. So life is ﬂow.
In Schütz’s words:
From the point of view of a being immersed in duration, the “Now” is a phase
rather than a point and therefore the diﬀerent phases melt into one another
along a continuum. The simple experience of living in the ﬂow of duration goes
forward in a uni-directional and irreversible movement. (Schütz, 1972, p. 51)
So, from the beginning, the historicity of the person as a basic anthropological category
to understand human action is taken into account. But let us consider again
the action orientated towards the future. What does this orientation mean? Does it
imply an activity on the part of the person or a mere acceptance of whatever comes
along. On this point Schütz oﬀers a very interesting ﬁrst deﬁnition: “Every action
is a spontaneous activity orientated toward the future. This orientation toward the
Aranzadi et al.: The Praxeology of L. von Mises and the Theory of Action … 23
future is by no means peculiar to behavior. It is, on the contrary, a property of all
primary constituent processes” (Schütz, 1972, p. 57)
This orientation towards the future or rather the fact that each action necessarily
implies the anticipation of the future introduces another basic anthropological category:
the project. The project is that human capacity of pro-tension, of tensing oneself
prospectively in the future and anticipating desirable ends. Schütz states: “the
analysis of action shows that it is always carried out in accordance with a plan more or
less implicitly preconceived. Or, to use an expression of Heidegger’s, an action always
has the “nature of a project” (Schütz, 1972, p. 59).
In the light of the quotes presented here, the following question arises: does
Schütz consider that the action, as he deﬁnes it, is rational? That is, is all action rational?
The answer is aﬃrmative, as we can prove in the following statements: “Let us
recall once again our deﬁnition of action. Action is behavior based on an antecedent
project. Since every project has an “in order to” or “for-the-sake-of-which” structure,
it follows that every action is rational” (Schütz, 1972, p. 239). The following paragraph
is more explanatory:
Now let us look at rational or purposive, that is, action which has a goal of
optimum clarity. How does a person acting rationally proceed? The plan or the
projection of his action begins with choosing a goal. Next he realizes that, if he
is to achieve his goal, he must adopt certain means. This is merely recognition
on his part of a certain causal regularity existing between events which that he
calls his means and the end event that he calls his goal. (Schütz, 1972, p. 61)
In conclusion, for both Schütz and Mises, all action is rational. Schütz does not call
the anthropological categories, praxeological, but the concepts coincide. The core
of his theory of action is rationality. There appears the means-end structure, which
implies the antecedent-consequent temporal relation and causality. That is to say, we
face the same human realities that Mises called praxeological categories.
Mises considered that these categories of human action were a priori. For example,
Mises’ axiom of action does not originate in experience, but this is necessary
in order to understand the action. These logical principles of any theory are enunciated.
They are, according to Kant’s terminology, a priori synthetic judgments. It
24 New Perspectives on Political Economy
should not be forgotten that every scientiﬁc theory is bounded by ontology. The basic
hypotheses of a model, that is, the a priori axioms or judgments have two essential
tasks:
1) In the ﬁrst place, everything a priori precedes the experience of knowledge. For
this knowledge to be produced, it is necessary to apply those laws or structures. Professor
Sergio Rábade points out the primary function they serve, is “to make knowledge
possible through its application” (Rábade, 1969, 89).
2) The second task of the a priori consists in, imposing on knowledge, certain
characteristics, which are not derived from experience: universality and experience.
Professor Sergio Rábade says in this respect:
We have to ground these characteristics of knowledge in some constitutive
structures, which are at the same time, dynamic. Such structures are responsible
for imposing the characters of universality and necessity on our knowledge,
in certain conditions. As these structures belong to the constitution of man as
such, they have to be complied with in the knowledge of each man, in equality
of conditions. (Rábade, 1969, p. 90)
We can conclude by stating that all experimental knowledge has to be based on universality
and necessity. Knowing is not only based on what each person wants to add
to the process of knowledge. It is necessary to have stronger evidence. Knowledge
always has an inter-subjective component of universality. The nature of universality
and necessity are constitutive of man and consequently of all human knowledge. One
should not think that the pretension of possessing knowledge a priori, or simply the
mere enunciation of such a phrase, the claim to believe oneself to be in possession
of the only truth, as is perversely suggested by many followers of positivism. The
only thing that this statement shows is the pretension to know reality, having access
to reality as a source of knowledge and an object of itself. And above all, that this
knowledge is communicable.
In this way of the logos of reality the scientiﬁc dia-logos is reached. This scientiﬁc
pretension is also shared by Schütz:
We do not set as our goal a science of the facts of this inner sphere of appearance,
but a science of essence (Wesenswissenschaft). What we are thus seeking
Aranzadi et al.: The Praxeology of L. von Mises and the Theory of Action … 25
is the invariant, unique a priori structure of the mind, in particular of a society
composed of living minds. (Schütz, 1972, p. 44).
Having made this brief digression on the signiﬁcance of the a priori, we will take
up again the analysis of the anthropological categories. Schütz deﬁnes the action as
rational and he adds a note of willfulness to it. So that the realization of a project
is a voluntary activity. Schütz states: “the ﬁrst characteristic that suggests itself as a
possible way of diﬀerentiating between action and behavior is the voluntary nature
of the action as opposed to the automatic nature of behavior” (Schütz, 1972, p. 40).
And he clariﬁes this point thus:
Let us turn, then, to the second class of topics included under the heading of
“voluntary action”: the problems of choice, decision and freedom. If it is maintained
that voluntary action is the criterion of meaningful behavior, then the
“meaning” of this behavior consists only in the choice - in the freedom to behave
in one way rather than another. This would mean not only that the action is
“free” but that the aims of the act are known at the moment of decision; in short,
that a free choice exists between at least two goals. (Schütz, 1972, p. 66)
That is to say, in the creation of the project, it is necessary to choose between alternative
ends. Once the choice has been made and once the oscillation between
alternatives has been resolved, the project acquires a unitary shape of intermediate
steps to attain an end. It is a unity that invites the action. But it is not a closed, ﬁxed
arrangement. It is a scheme that goes on developing in the course of its execution.
Schütz points out:
Naturally, the ﬁrst is what its name implies, a mere sketch with many empty
places and variables in it. These empty places are ﬁlled in, and the variables
are given values as the action progresses step by step. At any moment we can
compare our blueprint with what we are actually doing. (Schütz, 1972, p. 64)
The project is not therefore something that comes to a person but is something to do.
In other words, the future is not something that you have to wait for it, something
you have to look for. So now, in this process of comparing our project with our direct
experience of what we are really doing, there may appear diﬀerent opinions and re-
26 New Perspectives on Political Economy
developments of the steps to follow. And this implies a restructuring of the ends and
the means. As Schütz explains:
Every ordinary purposive action takes within the means-end relationship.
Establishing the pattern of such an action simply means seeking out how typical
ends and the typical means are related. In other words, the actor’s choice of goals,
his in-order-to-projects, is determined via ideal-typical construction. Once this
is done – that is, once the actor’s goal is deﬁned – it is only a matter of selecting
those means for him that experience has shown to be appropriate. We can now
interpret Weber’s postulate of causal adequacy in the following way: In a type
construct of ordinary purposive action, the means must be, in the light of our
past experience, appropriate to the goal. (Schütz, 1972, p. 233)
Causality appears as a category of human knowledge. It is the rational capability to relate
the means to the end, the antecedent with the consequent. But it is the capability
that each actor exercises based on his experience. Thus the means-end anthropological
category is a private thing for the actor and his circumstances in life. Each actor
subjectively perceives and chooses the end, and on the basis of his experiences, he
selects causally the pertinent means for the attainment of the end.
Schütz does not understand causality as an external legality for the actor or as
physical determinism imposed on the person. The causality of action is something
private and internal to the person. It is the constituent element of his personal being.
Schütz status correctly: “for when we formulate judgments of causal adequacy in
the social sciences, what we are really talking about is not causal necessity in the
strict sense but the so-called “causality of freedom” which pertains to the end-means
relation.” (Schütz, 1972, p. 231). In short, causality is an anthropological category.
The action is orientated towards the future by means of the project. The person
projects himself into the future from the present. Therefore, in the ﬂow of time,
Schütz distinguishes two directions in the analysis of the action: the future and the
past. As regards the ﬁrst, Schütz poses the “in-order-to” of the action, the “motivefor”.
For example, if we observe a person cutting wood, the question arises, what is he
cutting wood for? What is the objective he is pursuing? We ask ourselves, what the
woodcutter hopes to achieve in the future. Obviously, the observer is detached from
the woodcutter’s motive. The observer does not know if the woodcutter is cutting
Aranzadi et al.: The Praxeology of L. von Mises and the Theory of Action … 27
wood to make a ﬁre or to sell it. In order to know the scope of the woodcutter’s project,
it is necessary to ask him about it. As Schütz says: “the actor can tell the observer just
what the ‘span of his project’ was.” (Schütz, 1972, p. 229) In a second possibility, we can
analyze the same phenomenon, from the past and we can pose the following question,
why is he cutting wood? What motive is the woodcutter pursuing? In this direction,
we ask ourselves about the past experience of the woodcutter, which assures him that
cutting wood is the correct means to attain his end. It is the “because-motive” of the
action. It presents us with the reasons of the woodcutter. Schütz says:
The diﬀerence, then, between the two kinds of motive as expressed in our
two statements is that the in-order-to motive explains the act in terms of the
project, while the genuine because-motive explains the project in terms of the
actor’s past experiences. (Schütz, 1972, p. 91)
This diﬀerence is important as it allows room for human error. With the “in-orderto”
no error appears. Looking into the future, the actor uses the means which he
considers necessary or correct, given his prior experience. But the conﬁrmation of
the inadequacy of the means is made, once the action has been carried out. It is the
“because-motive”. These two motives show the openings of human action. On the
one hand, it is open to the future. Man decides on a course of conduct and organizes
himself in projects. And on the other hand, he feeds on and reﬂects on his lived
experiences.
Scheme 1 shows the relations between the anthropological categories of Schütz’s
theory of the action. The direction of the central arrows, starting from the past of
the action towards the future, shows the inexorable ﬂow of time. The actor, from
the present of the action, projects his actions into the future and adapts causally the
means. This thought-out reality, which directs the action, is the project is the project
the person carries out.
The same anthropological categories that Mises develops in praxeology come into
play: rationality, time, causality, and the means-end relation. The execution of the
project generates experience which enriches the knowledge of the person and allows
him to increase his capacity for action, through the elimination of errors. The arrows
between the anthropological elements show their very close relation. Each one
28 New Perspectives on Political Economy
refers to the others and only in conjunction with the others does it acquire the full
sense of human action. In this scheme, no elements have priority over the others.
This diagram shows the interconnection between diﬀerent overlapping human activities.
We can seek to analyze the two motives set forth above. With regards to the
future, we ask ourselves about the “in-order-to” motive; with regards to the past, we
ask ourselves about the “because-motive”. But these refer to a unique reality: human
action.
Actor:
Present of
the Action
Projection of
ends Causal
suitability of
the means
Execution of
the project
Future of the
Action:
In-order-to motive
of the action
Past of the Action
Because-Motive of
the action
Feedback o the
projective
structure based on
experience
Scheme nº 1: Structure of Schütz’s theory of the action
4 The structure of the world: social reality
In this last section we are going to present and analysis of the second constituent of
the action: its social dimension. In the previous section, we expounded the anthropological
categories, which explain the individual action, endowed with meaning. And
now, we are going to analyze the second dimension of the action: the relation of a
person with a “you”. Schütz develops, on the idea of subjective action, in relation to
the social process, which constitutes the objects signiﬁed of the cultural World from
Aranzadi et al.: The Praxeology of L. von Mises and the Theory of Action … 29
individual subjective actions. He concentrates on explaining how the cultural objects,
endowed with meaning, arise and how the person carries out his action within
this symbolic which constitutes the world of human life. (Lebenswelt). The ﬁelds of
Economics, State Law, etc., are constituted in this process.
These cultural realities, formed in institutional realities, acquire independence
from private individuals. They acquire a universality which converts them into rules
of social behavior and patterns of individual behavior. It should be emphasized Schütz
focused on the laws of the market or catallactics in order to demonstrate his analysis.
The reference to Mises’ work is direct. He describes his theory in the following words:
Catallactics for Mises is part of a pure a priori theory of action considered as
abstracted from its psychological and historical circumstances; Mises’ concept
therefore is especially useful as an example at this point. (Schütz, 1972, p. 137
note 57)
From the development of his Basic anthropological categories, Schütz erects a sociological
theory, which makes it possible for him to analyze the structures of the social
world.² We are not going speak here of the importance that Schütz’s work has in the
social sciences. In this last section, we are going to focus on the explanation of the
process by which the subjective signiﬁcance that a person pursues in his individual
action becomes depersonalized in the social inter-relations and is converted into a
universal cultural object. In this process the references to the individual actor are being
minimized and the signiﬁed acquires autonomy with respect to its creator until
the references to the individual disappear. In this way, the cultural object becomes
depersonalized. Curiously, cultural universality is reached at the cost of the loss of
personal references.
In this study of culture, Schütz’s work is paramount. His study is focused on the
process of the constitution of a cultural object, or in his own words, “objectivations”.
Within these, the tools and instruments acquire special importance. They can be
characterized because: “these objectivations have in common is that they exist only
as the result of the action of rational beings” (Schütz, 1972, p. 133). They are important
² In his posthumous work, compiled by Th. Luckmann he presents his last developments of the theory
of social action. See Schütz-Luckmann (1973). It is important to mention Th. Luckmann (1992) who
continued the work on the theory of social action developed by Schütz.
30 New Perspectives on Political Economy
for each person to the extent that they serve for some end. They constitute an “inorder-to
motive”, as we have deﬁned it. Each instrument permits an action that the
actor can repeat at will. That is to say, the instrument permits a certain type of action.
As Schütz points out:
A tool is a “thing-in-order-to”; it serves a purpose, and for the sake of this purpose
it was produced. Tools are, therefore, results of past human acts and means
toward the future realization of aims. One can, then conceive the “meaning” of
the tool in terms of the means-end relation. (Schütz, 1972, p. 201)
We are going to enter deeply into the instrumental World. The instrumental reason
demonstrates the cultural character of the manufactured elements. The economic
implements are “cultural objects,” objects which have a universal value. We do not
make any reference to the creator of the device when we focus on the utility of an
instrument. We only focus on the use of an instrument. We only focus on the action
we can carry out with them. Schütz says:
Even though we implicitly refer to its author when we call it a “product”, still
we leave this author and everything personal about him out of account when
we are interpreting objective meaning … insofar as the object contains within its
very meaning the ideality of the “and so for” and of the “I can do it again” to that
extent is that meaning independent of its maker and the circumstances of its
origination. (Schütz, 1972, p. 135)
This objective sense makes the interpretative schemes of economic theory possible.
The typicality and repetition of economic behavior are universal patterns of human
behavior. The laws of the market or the catallactic principles have a universal validity.
Schütz states:
No economic act is conceivable without some reference to an economic actor,
but the latter is absolutely anonymous; it is not you, nor I, nor an entrepreneur,
not even an “economic man” as such, but a pure universal “one”. This is the reason
why the propositions of theoretical economics have just that “universal validity”
which gives them the ideality of the “and so forth” and the “I can-do-it-again”.
(Schütz, 1972, p. 137)
Aranzadi et al.: The Praxeology of L. von Mises and the Theory of Action … 31
The relation between the theory of social construction in the life of Schütz and the
praxeology of Mises is made quite clear with the arguments presented. Schütz made a
sociological analysis of the laws of economics. He clearly delimits their fundamental
characteristic: they are repetitive and universal. Actions such as the exchange relations
present a pattern of behavior that does not depend on particular individuals
and their “in-order-to” motivations. The importance of the laws of exchange lies in
the fact that they are useful and that they allow individuals to increase their possibilities
of Exchange. That is, if they are laid down on the universal rule of reciprocal
rendering of services: merchandise-money-merchandise.
Therefore, catallactics or the theory of the market acquires a cultural value. It
is the cultured way of providing for human needs. Thus, the principle of reciprocal
rendering of services acquires the character of a universal rule of behavior. It becomes
the general principle which regulates social exchanges. It can therefore be repeated at
will, that is to say, it acquires the signiﬁcant “can-do-it-again”. Through repetition of
the accumulated experience of successful exchanges, the laws of the market become
the “because-motive” of individual action. That is, mercantile exchange becomes the
medium for the actor to obtain his ends. In conclusion, catallactics or theory of the
market is a particular case of the general theory of social action.
Bibliography
[1] Aranzadi, J. 2006. Liberalism against Liberalism, London : Routledge.
[2] Bergson, H. 1963. Oevres, 2nd edn, Paris. Presses Universitaires de France.
[3] Habermas, J. 1981. Theorie des komunikativen Handelns, Frankurt: Suhrkamp
Verlag.
[4] Husserl, E. 1954. Die Krisis der Europäischen Wissenschaften und die Transzendentale
Phänomenologie, La Haya: Martinus Nijhoﬀ Publishers.
[5] Luckmann, T. 1992. Theorie des sozialen Handelns, Berlin: Walter de gruyter &
Co.
32 New Perspectives on Political Economy
[6] Mises, L. 1996. Human Action: A Treatise on Economics, B. B. Greaves (ed.), 4th
edition revised, New York: Foundation for Economic Education.,
[7] Rábade, S. 1969. Estructura del Conocer Humano, Madrid: G. Del Toro editor.
[8] Schütz, A. 1972. The Phenomenology of the Social World, London: Heinemann
Educational Books. Translation from the original (1932) Der sinnhafte Au au
der sozialen Welt, Wien: Springer Verlag.
[9] Schütz, A and Luckmann, T. 1973. Structures of Life-Word, New York: International
University Press.
[10] Weber, M. 1978. Economy and Society, Berkeley: University of California Press,
Berkeley, 1978.
ISSN 1801-0938
New Perspectives on Political Economy
Volume 5, Number 1, 2009, pp. 33 – 63
From Social Democracy to Liberal Socialism: A Property
Rights Analysis of the Transition in Europe
Svetozar Pejovich
JEL Classiﬁcation: P14, P26, P48
Abstract: Two important lessons of all socialist experiments to date are: socialism
has repeatedly failed to duplicate the accomplishments of capitalism, and socialism
refuses to die. At the turn of 21st century, a new type of socialism, liberal socialism, is
growing in Europe. Analysis shows that a major reason for the rise of liberal socialism
lies in its success in eroding the two key institutions of capitalism, private property
rights and the freedom of exchange. Unlike communism, which used brute force to
replace private property rights and free exchange with state ownership and central
planning, liberal socialism is spreading the wealth around, creating entitlement programs,
supporting labor unions and promoting “fair” trade. The common objective
of those and similar policies is to lower the costs of the emergence of liberal socialism
by replacing the capitalist culture of independence based on self-responsibility and
self-determination in open and competitive markets with the culture of dependence
on the state.
Professor Emeritus of Economics, Texas A&M University, and Senior Research Fellow, International
Centre for Economic Research, Turin, Italy.
34 New Perspectives on Political Economy
1 Introduction
The problem with socialism is that you
eventually run out of other people’s money.
Margaret Thatcher
A deﬁning feature of the 20th century was the struggle between capitalism and
socialism. Three major applications of the socialist doctrine – Fascism, NationalSocialism
and Communism – waged this ﬁght against capitalism. Consistent with the
socialist doctrine, as it developed in the eighteenth and nineteenth centuries, fascism,
national-socialism and communism blamed the economic and social inequalities of
capitalism on the behavioral consequences of private property rights and competitive
markets.
All three types of socialism shared a major premise that their respective visions
of a “just” society should replace the spontaneous order of capitalism. This premise
provided fascists, national-socialists and communists with the political justiﬁcation
to replace the rule of law and individual liberties with the rule of men. Hence, all three
types of socialism were equally unconstrained by law, customs, and morality. The individual
was a mere instrument for the achievement of the ends as deﬁned by the
ruling elite. Communism was openly hostile to the right of ownership, whereas fascism
and national-socialism settled for controlling and directing the use of resources
nominally owned by individual citizens. Like the competing families of the underworld,
fascism, national-socialism, and communism went to war (hot and cold) with
each other as well as with the rest of the world.
While all three types of socialism were equally oppressive, fascism and nationalsocialism
played a relatively minor ideological role in the century long competition
between socialism and capitalism. Communism, on the other hand, was a major
player in the last century. By promising salvation on this side of heaven, MarxismLeninism
gave socialism a pseudo-religious content. This pseudo-religious content
of Marxism-Leninism justiﬁed the dictatorship of the communist party as the selfappointed
avant-garde of the self-proclaimed laws of history.
Two important lessons of all socialist experiments to date are: (1) socialism has
Pejovich: From Social Democracy to Liberal Socialism 35
repeatedly failed to duplicate the accomplishments of capitalism, and (2) socialism
refuses to die. Every time one type of socialism failed, the critics of capitalism have
been quick to come up with a new one. And there has been no shortage of the White
Knights riding into the town to salvage socialism. Central economic planning in
Stalin’s Russia, self-management in Tito’s Yugoslavia, the Red Guard in Mao’s China,
Che’s crusade in South America, Ho’s re-education in Vietnam and Castro’s rape of
Cuba had the same objective of making the economic performance of socialism superior
to capitalism. And they have all failed to accomplish that objective.
At the turn of 21st century, socialism is on the march once again. Western Europe
is in the process of transition from social democracy to socialism. Socialists and procollectivists
parties in Central and Eastern Europe are recovering after the collapse
of communism. What in the early 1990s was supposed to be the transition from socialism
to capitalism is slowly turning into the transition from socialism to socialism.
The European Union is helping the transition to socialism via numerous regulations
supportive of “fair trade,” wealth redistribution, environmentalism, global warnings,
multiculturalism and all other movements that require government controls of the
allocation of resources. In the United States, the Obama Administration is using the
economic crisis that began in 2008 as an excuse to initiate the process of “spreading
the wealth around.”
Given the lesson of history, there is no compelling reason to assume that this
new type of socialism that is emerging on the European continent, I call it liberal
socialism,¹ will not, like its predecessors, fail to duplicate the economic eﬃciency of
capitalism. The purpose of this paper is to show why and how the emerging liberal
socialism in Europe is more dangerous than its predecessors, even though, like its predecessors,
liberal socialism is equally incapable of duplicating the accomplishments
of capitalism.
However, a few remarks about the United States seem in order. President Obama
is using the current economic crisis to open the gates for the import of liberal socialism
into the United States. His three major programs, socialized medicine, federal¹
To the best of my knowledge the term liberal socialism was used only once before and in a very different
context. See Chilosi, Alberto, “Duhring’s Socialitarian Model of Economic Communes and its
Inﬂuence on the Development of Socialist Thought and Practice” (September 15, 1997, revised).
36 New Perspectives on Political Economy
ized education and federal government energy policy will, if implemented, transfer
decisions on winners and losers from competitive markets to Washington D.C. However,
the importation of socialism and even social democracy into the United States
is going to be more diﬃcult enterprise for Obama than for his European counterparts
because the United States has neither the tradition of social democracy, a close
relative of socialism, nor have American intellectuals ever shared the fascination of
Western intellectuals with various socialist doctrines. Obama and his advisors have
also repeatedly said that the current crisis has proved that “unrestrained” free markets
do not work. Their remarks are misleading because they are not telling us which system
has done better than Anglo-American capitalism; what is the system they want
to replace the free-markets, private-economy with, and on what evidence?
The paper has four sections. The introductory section reviews a few elementary
characteristics of private property rights, free exchange, and economic eﬃciency that
are relevant for analysis of the economic performance of liberal socialism. The second
section discusses the meaning of liberal socialism, its causes and consequences, and
the role of the European Union in supporting the institutions of liberal socialism. The
last section of the paper focuses on the behavior of business ﬁrms in liberal socialism.
Except for occasional references, the paper is about liberal socialism in Western and
Eastern Europe. The United Kingdom, the United States and the rest of the world are
left out of analysis.
2 Economics 101
It is not true that administration of an economy is simply
technical problem devolving from the basic “given” conditions.
G. Warren Nutter (1983, p. 102)
2.1 Free Exchange and Economic Eﬃciency
We live in a world of scarcity; that is, what we want exceeds what we have. The desire
for more satisfaction is a predictable consequence of scarcity. Exchange is a means by
Pejovich: From Social Democracy to Liberal Socialism 37
which people seek more satisfaction for themselves. Individuals enter into exchange
because they expect that their beneﬁts from acquiring a good will exceed their costs.²
The satisfaction a person receives from a good is purely subjective. There is no
way for others to know the subjective satisfaction that one derives from acquiring that
good. Thus, only voluntary exchange can move goods from lower- to higher-valued
uses. To leave some exchange opportunities unexploited means that the allocation
of resources is not eﬃcient. By holding people to their promises, the law of contract
increases the extent of exchange.
An important aspect of the spontaneous order that emerges from the voluntary
interactions of individuals pursuing their own ends is that the value of resources in
their alternative uses is identiﬁed by the only source of value: the individual as he acts
on his subjective preferences. James Buchanan (1976, p. 2) wrote: “Economic performance
can only be conceived in values; but how are values determined? By prices,
and prices emerge only in markets. They have no meaning in a non-market context
...where the choice-inﬂuenced opportunity costs are ignored.” This quote captures
the meaning of economic eﬃciency which is here deﬁned. The economic eﬃciency
of the use of resources to produce goods and the allocation of goods among competing
uses is expressed in the process through which voluntary interactions are carried
out, leading into the unknown outcomes.³
At this point, two side-comments are appropriate. First, in a world of uncertainty
² The meaning of three underlined terms is as follows: The beneﬁt from exchange is the increment
in the subjective satisfaction a person derives from acquiring the right to use a good. The cost of
exchange is the subjective satisfaction a person has to give up. When someone spends $100 on a
bottle of wine, the true cost of that wine is the satisfaction that would be available from another
bundle of goods that $100 could buy (i.e., opportunity cost). In a world of uncertainty and incomplete
information, no one can predict the exact consequences of exchange.
³ To judge the economic eﬃciency by the attainment of a predetermined outcome or some quantitative
measurements ignores our subjective preferences. And ignoring our subjective preferences leads to
misleading conclusions about economic performance. A relevant example is the evaluation of the
economic performance of the former Soviet Union by three neo-classical economists shortly before
the country disintegrated. Robert Heilbroner and Lester Thurow wrote: ”Can economic command
signiﬁcantly compress and accelerate the growth process? The remarkable performance of the Soviet
Union suggests that it can. In 1920 Russia was but a minor ﬁgure in the economic councils of the
world. Today it is a country whose economic achievements bear comparison with those of the United
States” (1984, p. 629). Paul Samuelson said: ”It is a vulgar mistake to think that most people in
Eastern Europe are miserable... The gap between Western and Eastern living standard may narrow in
the future” (1980, p. 624).
38 New Perspectives on Political Economy
and incomplete information, we can never be sure that an outcome of human interactions
is eﬃcient. The best we can do is to determine whether the prevailing system
of incentives and constraints encourage human interactions that are consistent with
economic eﬃciency. For that reason, I prefer to use the term eﬃciency-friendly. Second,
the paper references to the so-called Anglo-American capitalism, which is the
institutionalized classical liberalism impregnated with positive transaction costs and
not-so-limited government.
2.2 Property Rights
From the dawn of human history, individuals have recognized the importance of
property rights for their survival. Primitive men fought each other for the right of access
to better caves; tribes claimed property rights in the area where ﬁshing or hunting
was good; and a struggle between two diﬀerent concepts of property rights, as
represented by capitalism and socialism, consumed the entire 20th century. Roman
law and the common law of England developed a number of well-deﬁned categories
of property rights that are still with us, such as private property right, communal
property rights, and state (public) ownership. However, it was only in the 1960s that
scholars began to translate the centuries of awareness of the importance of property
rights into the economic theory of property rights.
Property rights are the legal and customary relations among individuals that arise
from the existence of scarce goods and pertain to their use. That is, property rights
are the norms of behavior that individuals must observe in interaction with other individuals
and groups or bear the costs of violation. By implication, diﬀerent property
rights have diﬀerent economic consequences. An economic theory of property rights
must then identify the eﬀects of alternative property rights on transaction costs and
incentives, analyze the eﬀects of transaction costs and incentives on human behavior,
and oﬀer evidence for refutable implications of alternative property rights on the
economy. With respect to business ﬁrms, the property rights approach has to explain
the consequences of alternative property rights on the relationship between the
supply eﬀorts of value-creating resources and the appropriation of economic rents.
The exclusivity and transferability of ownership are two components of private
Pejovich: From Social Democracy to Liberal Socialism 39
property rights that set it apart from other types of property rights. The exclusivity
of ownership means that the owner decides what to do with his goods, captures the
beneﬁts of his decision, and bears the costs. The marriage between bearing the costs
of one’s decision and capturing the beneﬁts from that decision has two eﬃciencyfriendly
consequences. The owner has incentives to seek the highest-valued use for
his goods, and the owner has strong incentives to take risk associated with the creation
of new wealth (i.e., entrepreneurship).
The transferability of ownership also has two eﬃciency-friendly consequences.
The owner can sell his property, say an apartment building, for a lump sum, or the
owner can choose to take the value of his asset as a ﬂow of rents. An important
consequence of this choice, which other types of property rights do not provide, is
that individuals can adjust the composition of their wealth in accordance with their
attitude toward risk.
3 Liberal Socialism
My reading of history convinces me that most bad
government results from too much government
Thomas Jeﬀerson
3.1 Meaning of Liberal Socialism
Liberal socialism, like its predecessors, has two interdependent objectives that set it
apart from capitalism: (1) the state should control the use of resource and (2) the
collective choice should replace the rights of individuals to pursue their ends. Individual
preferences need to be shifted in more “acceptable” directions. The French
term, dirigisme, correctly describes this mind-set
Liberal socialism has also two characteristics that set it apart from its socialist predecessors.
(1) Liberal socialism is emerging from within European social democracies
via free and democratic elections. The transition from social democracy to liberal
socialism is a process characterized by the erosion of private entrepreneurship and
the middle class acceptance of mandated beneﬁts. Analysis would gain little from
40 New Perspectives on Political Economy
attempts to identify the exact moment of transition from social democracy to liberal
socialism, and even less from attempts to provide a narrow deﬁnition of liberal socialism.
If, once upon a time, we insisted on establishing the exact time capitalism
was born and its exact deﬁnition we would be still arguing those points and miss all
the knowledge of the history and economic consequences of the system.
(2) Liberal socialism accepts private property rights. However, the attainment
of pre-determined outcomes means that the state has to attenuate private property
rights. The term attenuation of private property rights refers to restrictions of either
the exclusivity of ownership (e.g., the owner of an apartment cannot simply tell his
tenant to vacate the place), or the transferability of ownership (e.g., price controls) or
the legal protection of private property rights (e.g., the enforcement of property rights
in Venezuela or Putin’s Russia). The attenuation of private property rights has three
interdependent consequences. It weakens the owner’s freedom to use his goods in
accordance with his subjective preferences; it enables the state to replace competitive
markets in choosing winners and losers in total disregard of individuals’ subjective
preferences; and it raises the transaction costs of allocating resources to their highestvalued
uses.
The fact that European leaders seriously consider the concept of “fair trade” is
the best evidence that liberal socialism attenuates private property rights and rejects
the spontaneous order that emerges from the voluntary interactions of individuals
in open markets. Fair trade is a neutral term that has non-neutral implications. It
imposes non-market terms of exchange between developed and developing contries.
The term is also used by labor unions in developed countries to demand restrictions
on the import of goods produced by “exploited” workers elsewhere. In essence, fair
trade is a facade of words hiding attenuation of the transferability of private property
rights.
The consequences of the attenuation of private property rights deﬁne the major
diﬀerence between the social fabric of capitalism and liberal socialism. Liberal socialism
sees the community as an organic whole that has a common good. The term
common good or, to use modern jargon, social justice, is the facade of words hiding
the redistribution of wealth organized and directed by people who do not own the
resources that are being distributed. In contrast, the capitalist community is a volun-
Pejovich: From Social Democracy to Liberal Socialism 41
tary association of individuals who enter and leave the community in the pursuit of
their own ends. The function of capitalist institutions is to enhance individual interactions
leading to the unknown outcome. If the rules encouraging voluntary interactions
were fair and good then any outcome that emerges from voluntary interactions
is a good and fair outcome.
3.2 Philosophical and Legal Origins of Liberal Socialism
In the seventeenth and eighteenth centuries, France became the birth place of socialist
ideas. French socialists raised a question: What can be done to eliminate the
social and economic inequalities of capitalism? The answer was syndicalism and revolution.
In the 19th and early 20th century, French socialists saw syndicalism as the
training school for the socialist revolution (Laidler 1927, pp. 378-9). The French Revolution
of 1789 was not a socialist enterprise but it did favor weak property rights
and a strong state. Moreover, the French Revolution was not carried out in the name
of the individual. It was carried out in the name of centralism enforced by “enlightened”
ruling elite. In that sense, the French Revolution made a contribution to the
then-developing socialist doctrine.
At the time of their birth, most European social democratic parties were Marxists.
For example, at the Erfurt Congress in 1891, the social democratic party of Germany
accepted orthodox Marxism.⁴ In the 20th century social democratic parties began
to move away from Marxism. It was as late as 1959 that the social democratic party
of Germany explicitly rejected Marxism. The major reason was the realization that
democratic processes could slowly bring about liberal socialism. The fact that the role
of a powerful state was never seriously questioned on the European continent, as it
⁴ Yet, social democratic parties also had critics of orthodox Marxism. For example, Eduard Bernstein
(1850-1932, the leader of the Bavarian Social Democrats, was a leading critic of orthodox Marxism.
Bernstein and his followers argued that Marx’s criticism of capitalism was right in principle but that
evidence called for adjustments in orthodox Marxism. They asserted that social conditions did not
develop as the Communist Manifesto predicted; that the increase in wealth was not accompanied by
a decrease in the number of wealthy capitalists; and that Marx’s economic interpretation of history
underestimated the eﬀects of morals, culture and customs on economic performance (Laidler 1927,
pp. 295-302).
42 New Perspectives on Political Economy
has been in the Anglo-American legal and cultural tradition, is helping the on-going
transition from social democracy to liberal socialism.⁵
3.3 Liberal Socialism and Private Property Rights
Liberal socialism is suspicious of the freedom of choice not necessarily because of
any lack of interest in individual liberties but because individual choices in the free
market do not generate output and income distribution consistent with its concept of
common good or social justice. As said earlier, to remedy this shortcoming, liberal socialism
attenuates private property rights. The attenuation of private property rights
interferes with voluntary interactions among free individuals. Interference with voluntary
interactions in open markets means the interference with the subjective preferences
of interacting individuals. The interference with the subjective preferences
of interacting individuals, in turn, interferes with the ﬂow of goods and services from
lower- to higher-valued uses. In the end, liberal socialism fails to duplicate the economic
eﬃciency of capitalism. How?
The value of goods depends less on the ﬂow of services from the goods that are
being traded and much more on the bundle of property rights to do things with those
goods. John takes better care of the car he owns than the one he leases, even though
they oﬀer the same ﬂow of services. Jane takes better care of the apartment she
owns than the one she rents. Public housing projects deteriorate faster than privately
owned buildings. Private lakes are cleaner than public lakes. Labor unions attenuate
the rights of workers to get jobs at wages they ﬁnd acceptable. The owner of apartment
building subject to price controls has fewer incentives to maintain his property
than the owner of apartment building that is not subject to such restrictions (that is
so because the rate of return on resources invested in maintaining buildings subject
to price controls are less than the return from investing the same funds elsewhere).
⁵ Labor and business laws throughout Europe oﬀer good evidence of the eﬀects of the philosophical
origins of liberal socialism. In Germany, the attenuation of property rights in business ﬁrms (i.e.,
state interference with the subjective preferences of property owners) has a long history. As early as
1835, professors Robert Von Mohl, Wilhelm Roscher, and Bruno Hildebrand proposed the creation
of “workers’ committees” in business ﬁrms because, they argued, capitalism had failed to emphasize
moral issues. The trend of transferring property rights in business forms continued in Germany to
date.
Pejovich: From Social Democracy to Liberal Socialism 43
In all these cases, the values of goods that are traded are determined less by the ﬂow
of services from those goods and much more by the bundle of rights to do things with
the goods that are being traded.
3.4 Measuring the Eﬀects of the Attenuation of Private Property Rights
The Index of Economic Freedom published jointly by the Heritage Foundation and
the Wall Street Journal, and the Economic Freedom of the World Index published by
Fraser Institute have established that strong positive correlation exists between economic
freedom and economic growth.⁶ To measure economic freedom, both indexes
use categories that are consistent with the institutions and policies supportive of economic
eﬃciency. To say that a country has become freer means that it has become
more eﬃciency-friendly.
De Haan and Sturm (2000) tested the Fraser Index and found that improvements
in economic freedom foster economic growth. Stocker (2005) got similar results. He
found that “increases in economic freedom are associated with higher equity returns,
while the absolute level of beginning and ending economic freedom do not aﬀect
equity returns” (p. 589). James Gwartney (2003, p. 3) wrote: “The maintenance over a
lengthy period of time of institutions and policies consistent with economic freedom
is a major determinant of cross-country diﬀerences in per capita GDP… cross-country
diﬀerences in the mean rating during 1980-2000 explain 63.2 per cent of the crosscountry
variations in 2000 per capita GDP.” Bernhard Heitger (2004, p. 400) found
that “estimating the direct relationship between property rights and end-of-period
per capita incomes yields a highly signiﬁcant regressor and indicates that a doubling
in the index of property rights more than doubles living standards.” It is fair to say
that both indexes have passed the test of time.
The paper uses the Index of Economic Freedom published by the Heritage Foundation
and the Wall Street Journal (hereafter: Index).⁷ The Index uses ten categories
⁶ Both indexes are about economic freedom only. Political and civil freedoms are not included in either
of these two indexes.
⁷ The Index classiﬁes all countries into ﬁve groups: free (80-100), mostly free (70-79.9), moderately free
(60-69.9), mostly unfree (50-59.9), and repressed (0-49.9). The score of 1 is the worst and 100 is the
best.
44 New Perspectives on Political Economy
to measure economic freedoms. Given the purpose of this paper, the most important
categories aﬀecting private property rights in liberal socialism are Property Rights,
Business Freedom and Labor Freedom. Property rights category measures primarily
the legal protection of private property, including the eﬀectiveness and honesty of
the judicial system. Business Freedom is primarily about the transaction costs (red
tape) of opening, operating and closing business ﬁrms. Labor Freedom is about the
state interference with the rights of individuals to work for wages they ﬁnd acceptable,
the rights of businesses to hire and ﬁre workers, wage controls, support for labor
unions, and various safety regulations.
There is a critical diﬀerence between these three categories.⁸ The ﬁrst one (property
rights) measures the protection of the bundle of property rights without specifying
the contents of the bundle of rights that are being protected. The second and
third category (business and labor freedoms) specify the bundle of rights that need
to be protected.
The backbone of the Anglo-American common law tradition is that the primary
function of private property rights is to serve the subjective preferences of property
owners. Those preferences create incentives that maximize the extent of exchange
(i.e., move resources to their highest valued uses). The political and legal tradition of
Western Europe (not including the United Kingdom and Ireland, two common law
countries) has constrained the function of private property rights from serving the
subjective preferences of owners. In many West European countries the owner of an
apartment cannot simply ask his tenant to vacate the place within a customary period.
German law protects private property rights as long as they serve “human dignity” and
welfare programs (Alexander 2003). The owner of a business in Spain is reluctant to
hire workers because the costs of ﬁring them are high. In France, the owner has to
pay a tax (penalty) in order to close down his establishment. The Italian legal system
protects private property rights only insofar as they serve a social function as deﬁned
by the state (Mingardi 2005).
The tradition of the rule of law in Western Europe predicts high scores for the
protection of property rights which the emerging liberal socialism wants to preserve,
⁸ The statement is challengeable because categories overlap and the paper uses only the most important
part of the description of each category.
Pejovich: From Social Democracy to Liberal Socialism 45
and lower scores for business and labor freedoms, which liberal socialism wants to
attenuate. Indeed, the Index for Germany shows a high score for the property rights
category (90) and a low score for the labor freedom category (43) even though both
categories are about property rights. The former deﬁnes the protection of private
property rights, while the latter deﬁnes the bundles of private property rights that
are being protected. Also, the United States and Germany have the same score of 90
for the property rights category. Yet, the bundle of rights that is being protected is
not the same in those two countries.
In Central and Eastern Europe (hereafter: C&EE), the social forces aﬀecting the
attenuation of private property rights are diﬀerent from those in Western Europe.
Except for lingering memories of the rule of law in the parts of C&EE that belonged to
the Austro-Hungarian Monarchy, the years of socialist rule has completely destroyed
people’s conﬁdence in the legal system. The law is perceived as a mechanism the
rulers use to do whatever the rulers want; the law is taken no more seriously than the
promises of used car dealers
The prevailing culture in C&EE is not homogenous but it has a bias toward collectivism,
egalitarianism, and shared values that pre-dates communism. The heterogeneity
of culture in C&EE stems from the inﬂuence of three empires (AustroHungarian,
Russian, and Ottoman) and three religions (Roman Catholic, Orthodox,
and Islam). The culture of collectivism and egalitarianism gets stronger the farther
east and southeast one travels. The following three quotes capture the essence of the
socio-economic eﬀects of three empires and three religions in C&EE.
Perry Anderson (1974, p. 429) explained the lingering memories of the rule of law
from the days of the Austro-Hungarian Monarchy as follows: “The age in which ‘absolutist’
public authority was imposed was also simultaneously the age in which ‘absolute’
private property was progressively consolidated. It was this momentous social
diﬀerence which separated the Bourbon, Habsburg, or Tudor monarchies from any
Sultanate, or [the Romanovs].” Antonina Zhelyazkova (2003, pp. 140-141) described
today’s Albanian family. “Family community [is] composed of three or four generations,
with a high level of internal solidarity. Within the [family] there is a strict,
clear-cut age hierarchy, where the father’s … word is law … this is due to the age-old
internal ethno-cultural mechanism, which … contributes to the preservation of their
46 New Perspectives on Political Economy
tradition.” Writing about Russian culture, Silke Stahl (2001, p. 157) said: “In Russia
[cultural] institutions found their expression in egalitarianism and collectivism …
The reasons for egalitarianism, and collectivism [in Russia] can be found in religious
beliefs.”
To measure the eﬀects of liberal socialism on the attenuation of private property
rights, Table 1 includes information from the 2009 Index of Economic Freedom on
property rights, business freedom, and labor freedom.
Since the eﬀects of liberal socialism on private property rights are qualitatively different
in Western Europe and C&EE, Table 1 divides the European continent into two
groups: Sixteen West European countries and nineteen East European countries. The
ﬁrst group consists of all West European countries including Finland and Greece but
not the United Kingdom and Ireland. The United Kingdom and Ireland have diﬀerent
(common law) legal systems from the rest of Western Europe. The informal institutions
in those two countries also diﬀer from the rest of Western Europe. The second
group includes all countries that belonged to the Warsaw pact plus all countries that
belonged to the former Yugoslavia. The only East European country left out from
Table 1 is Bosnia and Herzegovina, which is not a functional state. C&EE countries
are then divided into countries that were the subject of greater inﬂuence of Western
culture and those that were the subject of lesser inﬂuence from the West. The
ﬁrst group includes nine countries. The Czech Republic, Croatia, Hungary, Slovakia
and Slovenia used to be part of the Austro-Hungarian Monarchy, which was short
on democracy but strong on the rule of law. The Catholic Church brought Western
culture to Poland. The religious inﬂuence of protestant churches and the centuries
of strong trade with Germany and Sweden contributed to customs and traditions in
the Baltic States. The second group includes Bulgaria, Albania, Romania, Macedonia,
Montenegro, Serbia, Moldova, Russia, Ukraine and Belarus.
The benchmark against which to compare the eﬀects of liberal socialism in Europe
on private property rights includes Hong Kong, Singapore, Australia, New Zealand,
United States and Canada. All those countries are common law countries. Moreover,
the Index classiﬁes all of them as free or the most capitalist countries (scores 80-100).
Information about the eﬀects of liberal socialism on property rights (last column
in Table 1) conﬁrms analysis in the paper. Six capitalist countries have stronger prop-
Pejovich: From Social Democracy to Liberal Socialism 47
erty rights than liberal socialist countries of Western Europe. Property rights in Western
Europe are stronger than in C&EE. And predictably, property rights within C&EE
gets weaker as one moves farther East and Southeast.
Table 1: Private Property Rights in Liberal Socialism
Private Prop-
erty
Business Free-
dom
Labor Free-
dom
Average Score
Benchmark 90.83 94.97 90.95 92.25 (free)
Western
Europe
81.25 84.59 59.51 75.12 (mostly
free)
C&EE 44.42 66.88 56.42 55.91 (mostly
unfree)
Pro-Western
C&EE
58.63 71.79 59.24 63.22 (moder.
free)
Non-Western
C&EE
32.00 62.57 54.66 49.74
(repressed)
Source: Calculated from the 2009 Index of Economic Freedom, Heritage Foundation
and Wall Street Journal, Washington D.C. Grading Scale: 80-100 Free; 70-79.9
Mostly Free; 60-69.9 Moderately Free; 50-59.9 Mostly Unfree; 0-49.9 Repressed
3.5 The Seditious Role of the EU in Promoting Liberal Socialism
The European Union was born in Western Europe while C&EE was home of one of
the most oppressive rules in human history. It would be surprising if the expectations
about the role of the EU were the same throughout the region. Western Europe is a
heterogeneous region as is C&EE. Marxism-Leninism changed the rules of the game in
C&EE at will and the secret police enforced the rules with no regard for human rights
and privacy. Predictably, some people in member countries from C&EE (especially
Czech Republic and Slovakia) see the ﬂow of regulations coming down from Brussels
as a betrayal of the post-communist hope for a society of free and responsible individuals.
It is also true that many east Europeans see EU regulations as replacing the
48 New Perspectives on Political Economy
old despotic dictatorship with a ﬂow of benevolent rules that are helping to control
corrupt domestic politicians.
The issue that aﬀects all member countries is that EU has added one more layer of
bureaucracy to those already existing in member countries. Like all bureaucracies, the
EU bureaucracy has strong incentives to grow. And issuing and enforcing regulations
is the most eﬃcient way for any bureaucracy to grow. Some regulations enacted by the
EU are pro-free market while others are not. However, the distribution of regulations
between pro-free market and anti-free market is not as important for judging the
direction of economic changes as is the power of the Brussels bureaucracy to issue
and enforce regulations. And it is this growing power of the Brussels bureaucracy to
regulate that cannot be trusted.
Professor Epstein (2004, p. 31) understood the problem and formulated his impressions
of the direction of the EU as follows: “[The proposed EU] Constitution allows
for such dominance at the center that it will take a political miracle for that
competition to play a powerful role in the aﬀairs of the EU. By giving rights with one
hand and taking them away with the other, this proposed EU Constitution lacks any
clear deﬁnition and structure… But when the dust settles, there will be more government
and less freedom for all… My recommendation is therefore this: Opt for the
economic free trade zone and consign the EU Constitution to the dust heap.”
The evidence suggests that Epstein got it right. Council Directive on the protection
of pigs⁹ and proposed draft Codex standard for tomatoes¹⁰ is just the tip of
the iceberg which contains a huge and growing number of similar regulations that
are amusing, costly and ineﬃcient. What makes EU regulations costly and ineﬃcient
is that they are less concerned with the protection of private property rights
and a society of free and responsible individuals and much more with fair trade, environment,
global warming, the right of all species (other than humans), and the
scientiﬁc-political elite conviction that they know what people would demand if they
knew what was good for them.
⁹ Council Directive 91/630/EEC of 19 November 1991 laying down minimum standards
for the protection of pigs. See also CNN – Pig toy tale ‘anti-Europe rubbish’:
http://www.cnn.com/2003/WORLD/europe/01/29/uk.pigs.play/index.html
¹⁰ Proposed draft Codex standard for tomatoes (CX FFV 00/16).
Pejovich: From Social Democracy to Liberal Socialism 49
Vaclav Klaus has frequently spoken and written on the way Brussels has highjacked
the great idea of creating the United Europe based on free trade and individual
liberties. Recently (2009a), he said: “The undergoing weakening of democracy
and of free markets on the European continent, connected with the European uniﬁcation
process, is a threatening phenomenon … [which] was the main building block
of the European Constitution and it remains without substantial change in its new
version, in the Lisbon Treaty.” Klaus is right. When the proposed constitution was
voted down, Brussels invented the Lisbon Treaty. Now that the Lisbon treaty is not
working out, there is talk of doing something else in order to get things rights. We
observe that every time a country votes down one of the EU preferred rules or propositions,
Brussels tries to engineer another election, and then another until the rule
wins a majority vote. Once that happens, another election is never suggested.
Professor O’Hear (2008, p. 231) wrote that one important consequence of Brussels’
hunger for power is that “the enterprise to which EU is committed is ﬁrst and
foremost the creation of itself as a supra-governmental authority, a task of Hegelian
pretension and of Sovietic proportion.” Professor Norman Barry (2004, p. 33) argued
that EU leaders have no intention of enacting a body of laws that would take away
their discretionary powers: “As long ago as 1964, the Costa vs. ENEL decision from
the European Court of Justice (ECJ) struck down an Italian statute that happened
to conﬂict with an EU regulation on the ground that European law was superior to
domestic legislation. It was the beginning of the activism of the ECJ.” Vaclav Klaus
has been even more speciﬁc about the eﬀects of “harmonization.” The essence of his
position is that Brussels has been attenuating private property rights, constraining
free-market competition, eroding the sovereignty of member states, and transferring
decision making from member states to Brussels.
Many years ago, Professor Nutter (1969, p. 39) provided a succinct and powerful
description of the policies pursued by the Soviet leadership. Nutter wrote:
It was Lenin’s genius to recognize the importance of embellishing the Soviet system
with all the trappings of democracy. If the people want a constitution, give them
one, and even include the bill of rights. If they want a parliament, give them that,
too. And a system of courts. If they want a federal system, create that myth as well.
Above all, let them have elections, for the act of voting is what the common man most
50 New Perspectives on Political Economy
clearly associates with democracy. Give them all these, but make sure that they have
no eﬀect on how things are run.
It is arguable that the same description ﬁts EU leadership. That is so because
the story of the EU is the story of the unstoppable drive to replace local laws with
European-wide rules leading to the centralization of power in Brussels. And in the
process of centralizing the power in Brussels, the EU supports the emergence of liberal
socialism in Europe.
4 The Business Firm in Liberal Socialism
Some regard private enterprise as if it were a
predatory tiger to be shot. Others look upon it
as a cow that they can milk. Only a handful
see it for what it really is - the strong horse
that pulls the whole cart.
Winston Churchill
The economic performance of any system depends on the performance of business
enterprises. And the performance of business ﬁrms depends on the prevailing
property rights in resources used by business ﬁrms. The focus of this section is on
the incentive eﬀects of the attenuation of property rights in liberal socialism. For
comparison, analysis begins with the incentive eﬀects of private property rights in
capitalism.
4.1 The Behavior of the Capitalist Firm
The ownership of a ﬁrm is about rights (Alchian and Demsetz 1972). To say that a
ﬁrm is privately owned means that the owner has a well-deﬁned bundle of rights in
that ﬁrm. Three important rights that set the privately owned ﬁrm apart from other
types of business ﬁrms are:
(1) The owner’s right to the revenue of the ﬁrm. The owner has to pay the contractual
obligations of the ﬁrm. Any residual left after all other obligations of the ﬁrm are
Pejovich: From Social Democracy to Liberal Socialism 51
met from its revenue belongs to the owner. (2) The owner’s right to hire and ﬁre members
of the team. The owner must have the right to hire and ﬁre members of the team.
Otherwise, the owner’s incentives to monitor members of the team would be unenforceable.
If in hiring new members of the team the owner had to satisfy criteria not
related to the past performance and expected productivity of potential candidates,
the team would be smaller, the costs of production would be higher, and marginal
ﬁrms would not survive. An owner who had to incur high costs in order to justify
ﬁring a member of the team would have no credible threat to enforce incentives to
supervise and monitor the performance of team members. (3) The owner’s right to
sell the preceding two rights. The right to transfer one’s rights to others at a mutually
agreed upon price is a basic component of the right of ownership. The market price
of a ﬁrm is the value of the owner’s bundle of rights, which is the present value of the
expected residual over the ﬁrm’s life discounted at a going rate of interest.
The most important consequence of the bundle of rights that deﬁne a privately
owned ﬁrm is that the owner bears changes in the value of the ﬁrm. It means that the
owner has incentives to seek ever larger proﬁts. And the search for ever larger proﬁts
provides incentives for the owner to seek both the highest-valued uses for resources
controlled by the ﬁrm as well as entrepreneurial proﬁts. The former is about the
eﬃcient use of resources. The second is about economic development.
The incentives to seek ever larger proﬁts mean that the owner of a business ﬁrm
has to satisfy consumer preferences. To satisfy consumer preferences, the owner has
to incur the transaction costs of allocating resources controlled by the ﬁrm to their
highest-valued uses. In addition to seeking the best use for resources controlled by
the ﬁrm, the owner has to be alert to changes in consumer preferences.
The bundle of property rights that deﬁne a privately owned ﬁrm also provide
the owner with strong incentives to seek entrepreneurial proﬁts; that is, proﬁts over
and above the normal rate of returns. Innovation, a major activity for seeking entrepreneurial
proﬁts, means doing something that was not done before. Doing something
that was not done before increases the community’s set of choices. By implication,
voluntary acceptance of an innovation means that the community is better oﬀ.
Thus, innovation is the engine of economic development. Being a novelty, it is impossible
to know the risk of innovation. A powerful incentive to accept the uncertainty
52 New Perspectives on Political Economy
about the outcome is the innovator’s property right in the entire entrepreneurial (temporary
monopoly) proﬁt of a successful innovation. Any attenuation of the innovators
property rights in the entire proﬁt reduces the incentives to innovate and slows down
economic development.
Finally, academic research and empirical evidence have shown that better understanding
of the eﬃciency implications of antitrust laws by judges (Kovacic and
Shapiro 2000), the protection of owners-investors by parliaments (La Porta et al.
1999), the eﬃcient market for management control (Manne 1965) and decline in the
power of labor unions increases the bundle of rights in privately owned ﬁrms and, in
doing so, improves the performance of capitalist ﬁrms.
4.2 The Behavior of the Liberal Socialist Firm
Unlike socialist movements of the past, liberal socialism accepts private property
rights. The acceptance of private property rights takes the form of various ways of
attenuating them. The purpose of the attenuation of private property rights is to use
privately owned resources to serve the objectives of socialist leaders.
The concept of industrial democracy is an umbrella for all the diﬀerent methods
of attenuating private property rights in business ﬁrms. The focus of this section is
on the eﬃciency consequences of labor participation in the management of business
ﬁrms.
The concept of labor participation in the management of business ﬁrms has been
thriving in Western Europe and the EU long before the fall of socialism in Central
and Eastern Europe. The former president of France Giscard d’Estauing said, “Participation
of workers’ representatives in the life of their company reﬂects the workers’
aspirations not be left out of decisions that concern them.” Former chancellor of Germany,
Willy Brandt, a devout socialist, said, “We consider the development of [labor
participation in the management of business ﬁrms] to be one of our main tasks … in
this, we start from the principle of equal rights and even balance of weight of employees
and employers.” Most importantly, the European Commission proclaimed labor
participation in the management of business ﬁrms as one if its fundamental objec-
Pejovich: From Social Democracy to Liberal Socialism 53
tives. It said: “No less than one third of the members of the supervisory organ (i.e.,
board of directors) shall be appointed by the workers or their representatives.”
In post-communist C&EE countries the tendency is to give managers and employees
a large number of shares in their respective enterprises ether free of charge or at
a signiﬁcant discount (Mitra, Selowsky, et al. 2000, p. 75). This method of “privatization”
changes the balance of power between shareholders, managers and employees
at the expense of shareholders. Freed from the pressure to maximize the residual,
the alliance between labor and management tends to employ unneeded workers,
make business decisions that maximize near-term cash ﬂows, and oﬀer pecuniary
and non-pecuniary beneﬁts to local bureaucrats in exchange for favorable treatment
(Milovanovich 2007).
Two consequences of labor participation are ineﬃciencies in the allocation of
resources within labor participatory ﬁrms and ineﬃciencies in the allocation of resources
in the economy. Let us start with ineﬃciencies within the ﬁrm. Labor participation
in the management of business ﬁrms means that employees have incentives
to seek investment alternatives that shift incomes forward and postpone costs. The
former beneﬁts current employees, while the latter shifts current production costs to
future generations of workers. For example, consider two investment alternatives of
equal cost. The expected present value of one alternative is $1,000 while the other
yields only $750 at a going rate of interest. However, if the returns from the ﬁrst alternative
are expected over a period of 20 years and those of the second over only 5
years, workers have incentives to push management in the direction of choosing the
less eﬃcient one. And they are likely to win because the attenuation of private property
rights in liberal socialism shifts the balance of power away from shareholders to
the coalition of managers and workers.
Let us now assume an open economy that has a mix of labor participatory forms
and non-participatory enterprises. Attenuations in the owner’s right to capture the
residual (via sharing with workers) and the owner’s right to hire and employees raise
the costs of capital for labor participatory ﬁrms. Given diﬀerences in the costs of capital,
the rates of return in the labor participatory sector would fall relative to the rates
of return in the labor non-participatory sector. The ﬂow of capital from the labor
participatory sector into the non-participatory sector would increase the returns on
54 New Perspectives on Political Economy
investment in the labor participatory sector relative to the returns on investment in
the labor non-participatory sector. The ﬂight of capital into the non-participatory
sector would continue until the equality in the rates of return is re-established. In
the end, the labor participatory sector with attenuated private property rights would
be smaller, produce smaller output, and charge higher prices relative to the nonparticipatory
sector with private property rights.
The labor participation in the management of business forms is not eﬃciencyfriendly
method of organizing production. Not surprisingly, labor participatory ﬁrms
do not appear voluntarily in any signiﬁcant numbers.¹¹ To avoid the embarrassment,
social democrats and socialists have incentives to mandate labor participation in the
management of business ﬁrms and then to protect labor participatory ﬁrms from
competition by other types of enterprises.
We can say that the attenuated private property rights in liberal socialism transfer
the guidance of production from the competitive process in which the knowledge of
all is used to generate eﬃciency-friendly outcomes to speciﬁc individuals with limited
knowledge, such as regulators, politicians and bureaucrats.
4.3 The Rate of Investment in Capitalism and Liberal Socialism
Liberal socialism preserves private business ﬁrms. It, however, attenuates the bundle
of rights that deﬁnes privately owned ﬁrms. And the attenuation of that bundle of
rights has consequences discussed in the preceding section. One such consequence
is the increase in the cost of capital. A growing body of literature shows that business
ﬁrms in countries with Anglo-American capitalism earn returns on investment that is
at least as large as their costs of capital, while enterprises on the continent of Europe
earn on average returns on investment below their costs of capital.¹² Of course, those
returns have no relationship to the returns shareholders earn on their investments.
¹¹ There is no law in the United States that says that there shall be no labor participation in the management
of business ﬁrms. Yet, we observe an insigniﬁcant number of labor participatory ﬁrms.
¹² Gugler, K, Mueller, D., Yurtoglu, B. (2004), “Corporate Governance and Globalization,” Oxford Review
of Economic Policy, 20, No 1, pp. 129-156. The evidence is about the rates of return in common law
and civil law countries. However, those diﬀerences in legal systems coincide with the diﬀerence in
Anglo-American and Continental capitalism. Moreover, they are also consistent with the ranking of
countries in the Index of Economic Freedom.
Pejovich: From Social Democracy to Liberal Socialism 55
Adjustments in share prices eventually bring the expected returns to shareholders on
their investments into equality.
The issue is the eﬃciency eﬀects of the higher costs of capital in liberal socialism
on the rate of investment of business ﬁrms and the redistribution of wealth. In the
1960s, Professor Witte (1963) developed a model on the determinants of the rate of
investment of business ﬁrms. Key proposition of Witte’s model was that “the ﬁrm’s
demand is for stock rather than for ﬂow of capital goods because the services it wishes
to have available are at least functionally related to the stock and not to the rate of
change of the stock” (Witte 1963, p. 441); and “I ﬁnd that a suﬃcient condition for
the existence of a market-equilibrium relationship between the aggregative rate of
investment and the rate of interest is a capacity and cost constraint on the rate of
output of capital goods.” (Witte 1963, p. 456)
Witte’s model was limited to analysis of the determinants of investment by business
ﬁrms in the private-property, free-market economy. In the early 1970s, I expanded
Witte’s model to show the eﬀects of three additional types of property rights
on the rate of investment by business ﬁrms (1971). The rest of this section relies on my
1971 research to highlight the eﬃciency eﬀects of the attenuation of private property
rights in liberal socialism on the redistribution of wealth and rate of investment by
business ﬁrms.
As a footnote, it is true that macroeconomics has made large advances since Witte
wrote his article. Yet, Witte’s model is, I believe, still conceptually relevant because
of his emphasis on the microeconomic foundations of the aggregate demand for investment.
Moreover, most advances in macroeconomics have been technical improvements
at the expense of the incentive eﬀects of alternative institutions. And
in 1990s, Central and Eastern European countries were in the initial stages of institutional
restructuring; that is, they were moving away from their prevailing institutional
arrangements. Yet, a piece of major advice they kept getting was to maintain
macrostablity. Macrostabilty presumes policies based on and directed at the prevailing
institutions. It means that whatever macroeconomists wanted to stabilize had
to raise the transaction costs of the spontaneous development of new institutions.
Stabilization programs were then based on technically impeccable models based on
assumptions that new equilibriums are created instantaneously or that government
56 New Perspectives on Political Economy
ﬁne-tuning of economic process is possible or both. For those assumptions to be
borne out, Central and Eastern Europe needed the Second Coming.
The basic line of Witte’s analysis of the aggregate rate of investment in capitalism
is as follows: The SS curve in Figure 1 is the assumed supply of the existing stock of
capital in the community. The demand curve (D1D1) is the demand for the capital
stock to hold at the rate of interest (r1). This price of capital is determined in the
capital market where the rate of interest is equated to the percentage return from the
capital stock.
PP
Pk Pk
K ∆K
D2(r2)
D1(r1)
Sk
r
r1
r2
I1
S
Figure 1
Suppose now that individual preferences change in favor of future income. The
price of nonhuman assets would increase, and the rates of return from those assets
fall. The switching activity among diﬀerent markets would reduce the market rate
of interest to (r2) and shift the demand for the capital stock to hold to (D2D2). The
(SkSk) is the supply schedule of capital goods. Like all supply schedules in competitive
markets, the (SkSk) schedule equates the marginal supply price to the market
prices of capital. The investment function (I1I1) is then a market equilibrium curve
Pejovich: From Social Democracy to Liberal Socialism 57
and not a demand curve for investment. The market rates of interest (r1 and r2) bring
into equality the rates of return from capital goods and bonds, the community’s time
preference, and the interest rate implicit in the price of the capital stock to hold.
Let us now adjust Witte’s analysis to the eﬀects of attenuated private property
rights on the aggregate investment in liberal socialism. As discussed earlier, the attenuation
of private property rights has many forms. One form of attenuation of
private property rights is restrictions on proﬁts earned by business forms. Public
utilities in the United States have operated for decades under such restrictions; proﬁt
restrictions (formal and/or informal) exist in European countries practicing industrial
democracy, and windfall proﬁt tax is still remembered in the United States.
Non-pecuniary
goods
Profit
M
C
D M
Figure 2
The control of proﬁt earned by business ﬁrms has, like most other forms of the
attenuation of private property rights, two consequences: the redistribution of wealth
and re-allocation of resources. Figure 2 illustrates the eﬀects of proﬁt controls on
the distribution of wealth. (OM) is the maximum proﬁt the ﬁrm could earn, while
(OD) is what the ﬁrm is allowed to earn. (MM) is the rate at which the mangers can
increase his total earnings by exchanging non-allowed proﬁts for the consumption
of nonpecuniary goods. The managers’ nonpecuniary income consists of variety of
goods such as monthly staﬀ meetings in Las Vegas, membership in private clubs,
generous expense accounts, opulent oﬃces, lots of beautiful secretaries, including
one that can type, and a company plane.
58 New Perspectives on Political Economy
It is clear that the managers have incentives to ignore proﬁt controls and maximize
proﬁts as long as they could spend (OC) amount on the supply of nonpecuniary
goods. Those incentives are constrained by the reaction of shareholders and state regulators.
Shareholders have no reason to object to the managers’ behavior which in a
non-regulated ﬁrm would reduce their wealth. The managers hide their consumption
of nonpecuniary goods from the state by reporting those expenditures as the costs of
doing business.
It is obvious that the control of proﬁt means the redistribution of income from
shareholders to managers. What is much less obvious is that this redistribution of
income reduces the community’s wealth. Reporting the expenditures on the nonpecuniary
goods as the costs of doing business limits the kind of goods the managers’
can purchase for themselves and get away with. It means non-reported proﬁts (OC)
in Figure 2 are not allocated to their highest-valued uses.
PP
Pk Pk
K ∆K
D2(r2)
D1(r1) Sk
r
r1
r3
I1
S
Figure 3
D3(r1)
r2
I2
For example, if the managers spent $1,000,000 on nonpecuniary consumption
(i.e., liberal use of the company plane, membership in golf clubs, expense accounts,
Pejovich: From Social Democracy to Liberal Socialism 59
etc.) that consumption would make them better oﬀ but not as well oﬀ as the most
preferred bundle of goods worth $1,000,000 would. At the same time, shareholders
loss is $1,000,000 in cash, which in the absence of proﬁt controls, they would be free
to put to the highest-valued use. The result is a loss of wealth. And lower wealth has
implications on the rate of investment by business ﬁrms.
The control of proﬁt results in a decrease in net earnings of the ﬁrm (DM in Figure
2). Given the rate of interest (r1) the demand curve for capital stock shifts downward
to (D3D3) in Figure 3, and the market price of capital goods falls. A corresponding increase
in the demand for monetary and human assets would, via switching activities
in diﬀerent markets, reduce the market rate of interest to (r2) and shift the demand
curve for capital stock upward to say (D2D2), where (r1) >(r2). The investment function
shift from (I1I1) to (I2I2) is due to a loss of wealth. Given the consumers’ time
preference, savings are less at each rate of interest. An increase in demand for monetary
and human assets would then not be strong enough to the shift (D2D2) schedule
back to (D1D1) and reduce the rate of interest (r1) to (r3). Thus, the market rate of
interest will be found somewhere between (r1) and (r3), say at (r2). The eﬀect of the
attenuation of private property rights via proﬁt controls is loss of wealth, less investment,
and lower rate on interest.
5 Conclusions
The sacriﬁce of cognition is particularly easy to
detect in objections to the market system introduced
by discrepancies between one’s desires, gloriﬁed as
social values, and the results of market processes.
However, our ability to visualize “better” states more
closely reﬂecting our preferences yields no evidence
that this state can be realized.
Karl Brunner (1970, p. 563)
All three major socialist movements from the last century, Communism, NationalSocialism,
and Fascism were either imposed by force (e.g., USSR, Spain) or were the
60 New Perspectives on Political Economy
outcome of a one-man, one-vote, one-time type of election (e.g., Germany). Once
in power, all three types of socialism relied on secret police to stay in power. Unlike
its predecessors, liberal socialism has neither been imposed from without nor
maintained by force. Liberal socialism has been emerging from within capitalism.
Analysis in this paper shows that a major reason for the rise of liberal socialism lies
in its success in eroding the two key institutions of capitalism, private property rights
and the freedom of exchange. Unlike communism, which used brute force to replace
private property rights and free exchange with state ownership and economic planning,
liberal socialism is bribing” people to voluntarily accept the erosion in those two
key capitalist institutions and relies on free elections to validate the resulting institutional
changes. The term bribing refers to government policies that are spreading
the wealth around, creating entitlement programs, supporting labor unions, promoting
fair trade, and enacting various legal restrictions on hiring and ﬁring employees
in privately owned ﬁrms. The common objective of those and similar policies is to
lower the costs of the emergence of liberal socialism by replacing the capitalist culture
of independence based on self-responsibility and self-determination in open and
competitive markets with the culture of dependence on the state. I conjecture that
the emergence and survival of liberal socialism depends, as Professor James Buchanan
(2005) argued, on whether those policies succeed in making individuals “afraid to be
free”.
Liberal socialism is the clear and present danger to free trade, competitive markets,
and individual liberties. It is unfortunate but also undeniable that Brussels
bureaucracy is promoting policies that support cultural changes that liberal socialism
needs for its survival. Speaking before the European parliament on February 19,
2009, Vaclav Klaus talked about the role of the EU in enhancing the threat to the
private-property, free-market economy and individual liberties. A few excerpts of
Klaus’ (2009b) speech are the most eﬀective summary of the message of this paper.
“We must say openly that the present economic system of the EU is a system of
a suppressed market, a system of a permanently strengthening centrally controlled
economy. Although history has more than clearly proven that this is a dead end, we
ﬁnd ourselves walking the same path once again. This results in a constant rise in
both the extent of government masterminding and constraining of spontaneity of
Pejovich: From Social Democracy to Liberal Socialism 61
the market processes. In recent months, this trend has been further reinforced by
incorrect interpretation of the causes of the present economic and ﬁnancial crisis,
as if it was caused by free market, while in reality it is just the contrary – caused by
political manipulation of the market.”
“Many of you certainly know the name of the French economist Frederic Bastiat
and his famous ‘Petition of the Candlemakers’, which has become a well-known and
canonical reading, illustrating the absurdity of political interventions in the economy.
On 14 November 2008 the European Commission approved a real, not a ﬁctitious Bastiat’s
Petition of the Candlemakers, and imposed a 66% tariﬀ on candles imported
from China. I would have never believed that a 160-year-old essay could become a
reality, but it has happened. An inevitable eﬀect of the extensive implementation of
such measures in Europe is economic slowdown, if not a complete halt of economic
growth. The only solution is liberalization and deregulation of the European econ-
omy.”
Bibliography
[1] Alchian, A. and H. Demsetz. 1972. “Production, Information Costs, and Economic
Organization,” American Economic Review, 62, No. 4, pp. 777-795.
[2] Alexander, G. 2003. “Property as a Fundamental Constitutional Right: The German
Example,” Cornell Law Review, 88, pp.101-144.
[3] Anderson, P. 1974. Lineages of the Absolutist State, London: Verso.
[4] Barry, N. 2004. “The European Constitution: A Requiem?” Freeman, October,
pp. 32-36.
[5] Brunner, K. 1790. “Knowledge, Values, and the Choice of Economic Organization,”
Kyklos, 23.
[6] Buchanan, J. 1976. ”General Implications of Subjectivism in Economics,” paper
presented at a conference titled ”Subjectivism in Economics,” University of Dal-
las.
62 New Perspectives on Political Economy
[7] Buchanan, J. 2005. “Afraid to Be Free,” Public Choice, 24, No 2, pp. 19-31.
[8] Chilosi, A. 1997. “Duhring’s Socialitarian Model of Economic Communes and
its Inﬂuence on the Development of Socialist Thought and Practice,” Working
paper, available at SSRN: http://ssrn.com/abstract=55155
[9] De Haan, J. and J. Sturm. 2000. “On the Relationship between Economic Freedom
and Economic Growth,” European Journal of Political Economy, 16, No. 2,
pp. 215-241.
[10] Epstein, R. 2004. “American Lessons for European Federalism: Doubts about
the Proposed EU Constitution,” lecture presented at the Cass Business School,
London, October 14.
[11] Gugler, K, D. Mueller, and B. Yurtoglu. 2004. “Corporate Governance and Globalization,”
Oxford Review of Economic Policy, 20, No 1, pp. 129-156.
[12] Gwartney, J. 2003. “What Have We Learned from the Measurement of Economic
Freedom,” in The Legacy of Milton and Rose Friedman’s Free to Choose, Federal
Reserve Bank of Dallas.
[13] Heilbroner, R. and L. Thurow. 1984. Economic Problem, New York: Prentice Hall.
[14] Heitger, B. 2004. “Property Rights and the Wealth of Nations: A Cross-Country
Study,” Cato Journal, 23, No 3.
[15] Klaus, V. 2009a. “Foreign Policy Lecture Series, Foreign Policy France,” Ledoyen
Restaurant, Paris, February 11.
[16] Klaus, V. 2009b. “Speech of the President of the Czech Republic Václav Klaus in
the European Parliament,” European Parliament, Brussels, February 19.
[17] Kovacic, W and C. Shapiro. 2000. “Antitrust Policy: A Century of Political and
Legal Thinking,” Journal of Economic Perspectives, 14 No 1, pp. 43-60.
[18] Laidler, H. (1927), A History of Socialist Thought, New York: Thomas Crowell,
Co.
Pejovich: From Social Democracy to Liberal Socialism 63
[19] La Porta, R., F. De-Silanes, and A. Shleifer. 1999. “Corproate Ownership Around
the World,” Journal of Finance, 54, No 2.
[20] Manne, H. 1965. “Mergers and the Market for Corporate Control,” Journal of Political
Economy, 73, No 2, pp. 110-120.
[21] Milovanovich, M. 2007. “Property Rights, Liberty and Corruption in Serbia,” The
Independent Review, 12, No 2, pp. 213-234.
[22] Mingardi, A. 2005. Wall Street Journal, January 19, p. A12.
[23] Mitra, P., M. Selowsky, et al. 2000. Transition – The First Ten Years: Analysis and
Lessons for Eastern Europe and the Former Soviet Union, The World Bank.
[24] Nutter, W. 1969. The Strange World of Ivan Ivanov, New York: The World Publishing
Company.
[25] Nutter, W. G. 1983. Political Economy and Freedom, Indianapolis: Liberty Press.
[26] O’Hear, A. 2008. The Landscape of Humanity: Art, Culture and Society, Imprint
Academic.
[27] Pejovich, S. 1971. “Toward a General Theory of Property Rights,” Zeitschrift fur
Nationalokonomie, 31, No 1-2, pp. 141-155.
[28] Samuelson, P. 1980. Economics, New York, McGraw Hill.
[29] Stahl, S. 2001. “Transition Problems in the Russian Agriculture Sector: A
Historical-Institutional Perspective,” in Svetozar Pejovich ed., The Economics of
Property Rights, Cheletenham: Edward Elgar.
[30] Stocker, M. 2005. “Equity Returns and Economic Freedom,” Cato Journal, 25, No
3, pp. 583-594.
[31] Witte, J. 1963. “The Microfoundations of the Social Investment Function,” Journal
of Political Economy, 75, No 5, pp. 441-456.
[32] Zhelyazkova, A. 2003. Albanian Prospects Soﬁa: International Center for Minority
Studies.
ISSN 1801-0938
New Perspectives on Political Economy
Volume 5, Number 1, 2009, pp. 65 – 71
Rejoinder to Machaj on Indiﬀerence
Walter E. Block
JEL Classiﬁcation: B25, B40
Abstract: Nozick (1977) was a methodological critique of the Austrian School of economics.
He took the view that the praxeological school was guilty of a logical contradiction.
On the one hand, it eschews the concept of indiﬀerence. On the other,
it utilizes that of supply. But, Nozick argued, for there to be any supply of a good,
people must be indiﬀerent to constituent elements of it. Block (1980) attempted to
answer Nozick’s criticism, making the point that “supply” is a coherent concept, and
people are indeed indiﬀerent to units of which it is comprised, but before human action.
During human action, there cannot be any such thing as indiﬀerence, in the
technical sense. Machaj (2007) criticizes both Nozick (1997) and Block (1980). The
present paper is a response to Machaj (2007).
Walter E. Block, Ph.D., Harold E. Wirth Eminent Scholar Endowed Chair and Professor of Economics,
Joseph A. Butt, S.J. College of Business, Loyola University New Orleans, wblock@loyno.edu.
66 New Perspectives on Political Economy
Both Nozick (1977) and Block (1980) were published a long time ago. I cannot,
of course, speak for the former, but as author of the latter, I consider it an honor
that Machaj (2007) would, particularly at this late date, see ﬁt to subject my early
publication to scrutiny and criticism. Better late than never: surely, the worst fate
for a publication is to be ignored, not criticized. It is a privilege, now, to be able to
respond to it.
Before introducing the speciﬁcs, and my criticism of him, let it be said that Machaj
and I, paradoxically, at least to some not small degree, are on the same side of this
issue. We are both Austrian economists, who see praxeology as the essence of this
discipline. We both are attempting to defend this school of thought against the criticisms
leveled at it by Nozick (1977). Our goals are the same; we diverge, only, in the
diﬀerent means we employ to this end.
In order to obviate confusion, let us consider Machaj’s (2007) attempt at refutation
of Block (1980) in his own words (cites, footnotes, deleted):
… the law of marginal utility can only be meaningful if we can somehow show
that two units of a good are units of “the same good”. Only then, after introducing
the concept of homogeneity, can we derive from the law of diminishing marginal
utility. If two units of some good are not homogenous, then we can only say that
they are diﬀerent goods, and there is no point in saying they are part of some
wider concept of “supply”.
Homogeneity is a central theme to the law of diminishing marginal utility,
central to the concept of supply or stock, and the pricing process. We have three
possible ways to deﬁne it.
The ﬁrst one is a physical deﬁnition. This means that homogenous units are
deﬁned just by looking at the physical structure of a good that is controlled by
an acting man. Austrian tradition, however, teaches us that the merit of being
a good is not derived from the physical nature of a thing, but rather from the
human attitude toward scarce resources. This means that two goods may have a
perfectly identical structure, but can be treated by human beings in a radically
diﬀerent way. Take the example of a wedding ring. The ring that is given to a girl
by her ﬁancé has a much greater value to her than the exact same ring, when it is
given to her by a total stranger on the street. Although physically these two rings
might be homogenous, they deﬁnitely will be treated as heterogeneous goods.
Block: Rejoinder to Machaj on Indiﬀerence 67
Obviously, then, physical properties of scarce resources cannot be the source of
deﬁning homogeneity, if we are to speak of human action and valuation.
Machaj is, of course, correct in claiming that the girl is not at all likely to view the
two weddings rings as part of the same supply, the one oﬀered her by her beloved
ﬁancé, the other by a stranger in the street. But this is a problematic way of putting
the matter. Garrison (1985) correctly indicates that we cannot play fast and loose
with the ceteris paribus assumption, but, surely, we must be allowed to retain some
semblance of it; that is, we are entitled to rule some counterexamples of supply out
of court, and, if so, this is certainly one of them. In order to make the case for a
thymological or physical deﬁnition of supply, consider not those two wedding rings,
the one imbued with sentimental value, the other not. Instead, look at the couple
at the jeweler’s store, before any of the wedding rings is chosen by the ﬁancé. Here,
we have a true supply of wedding rings, dozens of them we may suppose, all of them
physically indistinguishable from one another. There is no doubt that the law of diminishing
returns holds in the case. The ﬁrst of these rings is of greater value than
the second, etc. Even if we assume polygamy, we reach the same conclusion. If the
man contemplates marrying four diﬀerent women, he will give the ﬁrst of these rings
to his favorite wife, the second to the second, etc.
Our problem with Machaj (2007) is that he is engaged in over-praxeologicalization.
Just because praxeology is the core, the very essence of Austrian economics,
does not mean that it is applicable in all contexts. Thymology, too, has a place, albeit
a secondary one, in the Austrian ediﬁce. And, when it comes to supply and demand,
I contend that the latter takes on its proper role. This author, in contrast, insists that
each element in the supply of a good must be of equal serviceability, namely, must be
seen so by the acting man (or girl, in this case.) That is, of course, praxeologically correct,
but it assumes that praxeology is always and ever appropriate, the very point in
question. My claim is that this opens the drawbridge for the Nozickian (1977) attack:
if supply is deﬁned in such a manner, the economic actor must be indiﬀerent to the
various elements of the stock, and that will never do from an Austrian perspective.
We move, now, to a consideration of Machaj’s third deﬁnition of homogeneity (his
second is indiﬀerence, and we concur with his splendid rejection of that misbegotten
concept):
68 New Perspectives on Political Economy
How can we deﬁne homogeneity in this framework? It’s very easy – two objects
are homogenous if they both can serve the same end. If so, it follows these
are two units of the same supply, because they are capable of satisfying the particular
need. From the point of view of an actor’s particular need they are homogeneous
and interchangeable or equally serviceable. It does not have anything
to do with psychological considerations or psychical characteristics, but rather
with the possibilities of action.
Now, this point cannot be demonstrated through action, and cannot be observed
in action. But as we emphasized before, economics is not only about
actions, but also about diﬀerent possibilities of acting toward the satisfaction of
human needs.
As can be seen from supra, we regard this as precisely the wrong tack to take. It opens
us up to the charge that we must accept indiﬀerence, for, whatever else does indiﬀerence
mean but Machaj’s “homogeneous and interchangeable or equally serviceable.”¹
How, then, does this author attempt to obviate this possible rejoinder? He does
do on the following grounds (Machaj, 2007):
It seems it is possible to have a cake and eat it. This solution rejects the
neoclassical concept of indiﬀerence and saves the concept of homogeneity. Let
us suppose while I’m cold, I have a need to wear a sweater. I have two kinds of
sweaters available, blue and red. From the Mengerian perspective both sweaters
can satisfy the same need. Both blue and red are capable of arriving at the same
end. Hence, they indeed are the part of homogenous supply of goods – sweaters.
In some sense, we can even say that from the point of view of satisfying his
particular need acting man will be indiﬀerent toward the two sweaters. This “indiﬀerence”
will not be psychological, as in the neoclassical analysis, but will be
strictly praxeological: both sweaters are equally serviceable in the light of the
particular need. In the means-and-ends framework those two become a part of
the same supply of goods.
The diﬃculty² here is that Machaj stands condemned out of his own mouth, well,
¹ Mises (1949, 354) does not disparage “equally serviceable” speciﬁcally, but he comes very close: “…
valuing that results in action always means preferring and setting aside; it never means equivalence
or indiﬀerence.”
² Hoppe (2005) also tries to square the circle: reconcile a supply curve being composed of equally
serviceable units in the eye of the economic actor, with a rejection of indiﬀerence. For a rejoinder, see
Block and Barnett (forthcoming).
Block: Rejoinder to Machaj on Indiﬀerence 69
word processor. He admits that, on his account, there will be “indiﬀerence,” and, not,
in the unobjectionable thymological or ordinary language sense; rather, horrors, as
a matter of praxeology. But this completely tears it. What more does Nozick (1977)
need to make his case that Austrianism is internally self contradictory? No, there is
no having of cake and eating of it too; the circle simply cannot be squared. Once we
concede that two units of anything are equally serviceable in the view of the economic
actor, we might as well fold our tents and go home as far as warding oﬀ the charge of
consorting with indiﬀerence is concerned.
Machaj continues (footnotes deleted):
They are homogenous before action and after action. One person acting and
actually choosing one of the sweaters demonstrates his preference for it. But this
does not change the fact that if the end is to keep one warm, then both sweaters
are homogeneous and man is indiﬀerent which one will satisfy this particular
need.
But how would this read were we to substitute the word “indiﬀerent” or the phrase
“the same” for Machaj’s “homogeneous”?
They are homogenous [indiﬀerent] before action and after action. One person
acting and actually choosing one of the sweaters demonstrates his preference
for it. But this does not change the fact that if the end is to keep one warm, then
both sweaters are homogenous [the same] and man is indiﬀerent which one will
satisfy this particular need.
If that is not unwarranted appeasement to the Nozickians (1977), it is diﬃcult to discern
what would be. “… man is indiﬀerent which one will satisfy this particular need,”
indeed. Moreover, Machaj’s attempts to save his position by employing the keen
insights of Long (2004) regarding non-precisive abstraction, ignoring irrelevancies,
avail him nothing. Machaj has surrendered the Austrian position to Nozick (1977),
and no attempts to evade this will suﬃce.
Machaj has zigged when he should have zagged. Homogeneity is, properly, at
least in the context of diminishing marginal utility, a thymological, not a praxeological
category. If homogeneity is praxeological, if it is really equally serviceable, then
70 New Perspectives on Political Economy
Nozick and the critics are correct; Austrians must jettison either the law of diminishing
marginal utility, or, embrace indiﬀerence. No; homogeneity is thymological. It is
satisﬁed when goods are indistinguishable chemically, or physically, not praxeologi-
cally.
Machaj (2007) is dissatisﬁed with my (Block, 1980) attempted refutation of Nozick
(1977). Machaj states:
… the problem with Block’s analysis (Block 1980, pp. 424-25) … [is] he suggested
that goods are homogeneous before action (people are psychologically
indiﬀerent, because there is no action taking place), but during action goods
become heterogeneous. There are two problems with this approach. First of all,
there is no suggestion how to group things into classes (diﬀerent kinds of supply)
and not treat all the billions of billions of goods as homogenous. Since before action
all goods are not part of action, then cars can be homogenous with peanuts.
The second problem is that in Block’s framework homogeneity is psychological
and cannot be praxeological. If that is the case, then the law of decreasing
marginal utility cannot be praxeological and also must be psychological. But this
law should stay within the realm of economics, not of psychology. Otherwise,
we’ll reach an absurd conclusion that the law of marginal utility applies to the
state of non-action and when action is started this law is overthrown.
However, if the concept of supply (and demand) is thymological, not praxeological,
as I aver, supra, then this objection loses its force. Of course cars and peanuts can be
homogenous (non diﬀerentiable) when there is no human action taking place with
regard to them. Their diﬀerences only come to the fore when addressed by human
action. As to the second objection of Machaj, it is my view that decreasing marginal
utility is praxeological, and, for this law to not logically imply illicit indiﬀerence, supply
cannot consist of equally serviceable units; rather, it must be (thymologically)
composed of physically or chemically identical units. Thus, cars and peanuts cannot
be part of the same supply.
Everything doesn’t have to be praxeology, even for the Austrian. There is also
thymology; it, too, is a valuable aspect of overall Austrian economics. Machaj is guilty
of praxeologicalization: over use of praxeology. To take an example from an unrelated
issue, it is praxeologically true that all voluntary human action beneﬁts both parties
Block: Rejoinder to Machaj on Indiﬀerence 71
in the ex ante sense. But, it is also thymologically true that all voluntary human
action beneﬁts both parties in the ex post sense, or, rather, at least, that this is a
correct empirical or historical generalization. We would scarcely ignore this latter
empirical point, merely because it is not grounded in praxeology. In like manner
with indiﬀerence and the supply of a good.
Bibliography
[1] Block, Walter. 1980. “On Robert Nozick’s ‘On Austrian Methodology’,” Inquiry,
Vol. 23, No. 4, Fall, pp. 397-444.
[2] Block, Walter and William Barnett II. Forthcoming. “Rejoinder to Hoppe on indiﬀerence,”
Quarterly Journal of Austrian Economics.
[3] Garrison, Roger W. 1985. “Predictable Behavior: Comment,” American Economic
Review, 75(3) June, pp. 576-78; http://www.auburn.edu/~garriro/j7rheiner.htm;
http://www.jstor.org/stable/1814830
[4] Hoppe, Hans Hermann. 2005. “Must Austrians Embrace Indiﬀerence?” Quarterly
Journal of Austrian Economics, Vol. 8, No. 4, Winter, pp. 87-91;
http://www.mises.org/journals/qjae/pdf/qjae846.pdf
[5] Long, Roderick. 2004. “Realism and Abstraction in Economics: Aristotle and
Mises versus Friedman”; http://mises.org/pdf/asc/2004/long.pdf
[6] Machaj, Mateusz. 2007. “A Praxeological Case for Homogeneity and Indifference,”
New Perspectives on Political Economy, Vol. 3, No. 2, pp. 231-238;
http://pcpe.libinst.cz/nppe/3_2/nppe3_2_5.pdf
[7] Mises, Ludwig von. 1949. Human Action: A Treatise on Economics, San Francisco:
Fox&Wilkes.
[8] Nozick, Robert. 1977. “On Austrian Methodology,” Synthese, Vol. 36, 1977, pp.
353-392.
ISSN 1801-0938
New Perspectives on Political Economy
Volume 5, Number 1, 2009, pp. 73 – 80
Book Review
Jörg Guido Hülsmann and Stephan Kinsella (eds.). Property, Freedom, and
Society: Essays in Honor of Hans-Hermann Hoppe. Auburn: Ludwig von
Mises Institute, 2009.
74 New Perspectives on Political Economy
Many academics toil a thankless life, striving for truth amid a sea of fallacies and
inaccuracies. Some who do this with mediocrity are ignored. Those who do it well
are often subject to intense criticism and ridicule. A select few rise to the challenge,
and with conviction, carry forward – ever aiming to convince the masses that their
truthful pursuit is right. Of this miniscule number of individuals, only a handful may
ever reach the point where their peers recognize them for their insights, and reward
their toils accordingly. Hans-Hermann Hoppe is one such individual.
Jörg Guido Hülsmann and Stephan Kinsella have edited a magniﬁcent Festschrift
to honor Professor Hoppe for his life-long achievements in championing individualism,
private property, rights, and above all else, liberty. The collection of scholars
who have come together to pay their respects reads like a veritable “who’s who” list of
the world’s leading political philosophers. Hülsmann and Kinsella note in their brief
introduction that after Murray Rothbard’s untimely death in 1995, Hoppe assumed a
role of “uncontested leadership” among the Austro-libertarian scholars. The scope of
this leadership is evident as one reads the contributions oﬀered by his admirers in
the following pages.
The book is divided into ﬁve sections delineating ﬁve speciﬁc areas where Hoppe’s
inﬂuence has been greatest. The sheer number of contributions provides a limitation
on giving a full assessment, but in this brief review we may see some of the startling
aﬀects Hoppe has bestowed on some of the individuals’ lives and thinking.
Personal Recollections
The venerable Lew Rockwell opens the book’s contributions by writing a short expose
of his ﬁrst encounter with Hoppe. Listening to a German give a lecture on the pitfalls
of the American constitution provided a learning experience in what would be typical
Hoppean political economy. Challenging the prevailing doctrine would become the
norm for our esteemed honoree, and Rockwell’s recounting of his early experiences
with Hoppe show that not much has changed since the early years of his transatlantic
move.
The rest of the ﬁrst section contains personal recollections of the scholar. Former
Book Review 75
students have come forward with their experiences learning from the master’s knee,
and the eﬀects this has had on their lives. Prominent libertarian scholars recollect
how Hoppe has shaped and changed their own thinking. Ed Stringham provides a
story of his early days as a student with an honors bachelor’s thesis on the privatization
of law. After encouragement from his own professor, Walter Block, he submitted
it to Professor Hoppe for advice on how to proceed. To his astonishment, Hoppe not
only read the whole 120 pages, but oﬀered more than constructive advice on the contributions,
resulting in Stringham’s ﬁrst publication: “Market Chosen Laws,” in the
Journal of Libertarian Studies. The other contributions recount similar stories with
their prominent eﬀects.
Crossroads of Thought
Section two provides an interesting look at some of the controversies that Hoppe has
managed to generate (with good reason). Philipp Bagus provides a brief look at why
radicalism is a promising strategy for current Austro-libertarian thinkers. Taking an
unwavering attitude towards these beliefs, much as Hoppe has espoused his whole
life, provides libertarians with the credibility to continue pushing their theories forward
as a consistent and uniﬁed whole.
Martin Froněk and Josef Šíma provide a detailed analysis of some issues that arise
in the current law and economics literature. Speciﬁcally, they take issue with the Posnerian
analysis that has become prevalent stemming from the University of Chicago
since the 1960s. In pure Hoppean fashion, they deconstruct the myth that wealth
maximization is an attainable standard for legal rulings. By relying on market prices
to achieve such an equitably remedy, legal scholars neglect that these prices must
necessarily reﬂect only past preferences, and hence, are unable to provide any sort of
standard by which to make decisions concerning future events. The standard law and
economics approach is shown to be faulty, something which Austrian economists and
legal scholars have been demonstrating for years, yet are often ignored in the relevant
literature. This is a puzzling development as both economic and legal scholars understand
that the ﬁeld of law and economics must be challenged due to its shortcomings.
Perhaps this speciﬁc paper may do much to change that.
76 New Perspectives on Political Economy
Joseph Salerno provides what may well prove to be the most controversial piece
of the volume. “The Sociology of the Development of Austrian Economics” provides
a print version of a thinly circulated paper written in 1996 which received heated
exposure at the time. Salerno takes issue with many of the issues that arose during
what may be best referred to as the Methodenstreit II of the Austrian school
which followed the famed South Royalton conference of 1974. In it, Salerno takes
issue with the question: “What is Austrian economics?” While specifying a vague
methodological stance based on subjectivism or individualism may seem like an attractive
option, the result is a bifurcation between many strictly unAustrian thinkers
and our more Austrian counterparts – George L.S. Shackle and Milton Freidman, as
examples of non-Austrians who support subjectivism and individualism. In its place,
Salerno strongly reckons that if Austrian economics must be deﬁned by a single tenet,
it must be methodological – praxeology. This approach has been the strictly Austrian
approach since Carl Menger and may be found in several older eighteenth and
nineteenth-century philosophers and economists – notably Cantillon, Say, Senior,
and Cairnes. This methodological foundation is highly inﬂuenced by Hoppe’s work
on the Austrian method, including his 1988 book Praxeology and Economic Science
and his 1995 book Economic Science and the Austrian Method.
Political Philosophy
This third section provides the reader with grouping of articles continuing Professor
Hoppe’s arguments concerning the political sphere.
Frank van Dun gives an interesting essay on the potential conﬂict that arises between
property rights and individual freedom. One well-known case illustrating this
conﬂict is where one person is blocked from exiting (or gaining entrance) to their
property due to being physically surrounded by another’s property. This paradox has
been solved previously via the “Blockean Proviso.” Under such a condition, any individual
who homesteads land encircling unowned land must allow an easement to
permit potential homesteaders access to this unowned property. Van Dun goes further
by questioning whether freedom and property rights can both be considered
compatible goals at all times. The conclusion is that where cases of this conﬂict arise,
Book Review 77
freedom must be given primary consideration. A compromise in property rights in
such cases is not an arbitrary decision, but rather one grounded in natural law and
the attainment of a greater freedom (which must be the overreaching goal of such
actions). The ramiﬁcations for property rights theorists is manifest as it requires a
response or reformulation of the sanctity of the uninhibited right to one’s property.
Much as Salerno’s piece focused on what it is that speciﬁcally deﬁnes an Austrian
economist, Stephan Kinsella delineates “What Libertarianism Is.” Using a belief in
capitalism or the free market as a litmus test seems too narrow. At the same time, using
other metrics, such as property rights seems to include too many other doctrines.
Instead, it is a particular set of property assignment rules which sets apart libertarians
from other political canons. Kinsella’s piece gives added emphasis to van Dun’s
earlier look at the conﬂicts between the end of freedom and the ubiquity of property
rights.
Democracy
Professor Hoppe’s 2001 book Democracy: The God that Failed, marks a high-point
in his intellectual battle with prevailing political principles. In it, he outlines not
only the pitfalls of democracy, but also the advantages that traditional monarchies
have enjoyed due to the principle of continual succession and the resultant beneﬁts
of lowered time preference for the political leaders. This fourth section oﬀers some
novel viewpoints on this ongoing battle against the doctrine of mob rule.
Robert Higgs points out the hereto now largely unaddressed problem of faits accomplis.
Elected rulers seldom face any eﬀective constraints once in oﬃce, except the
looming deadline of the end of their ruling period. Woodrow Wilson was not elected
in 1916 to wage the Great War; Franklin Roosevelt was not elected in 1932 to impose
the New Deal, nor reelected in 1940 to campaign another Great War. In the interim
periods after their elections their electorates were left with little to no recourse to
enforce what the elected oﬃcials had originally been elected for. As Higgs points
out, Goethe’s dictum that “none are more hopelessly enslaved than those who falsely
believe they are free” has never wrung more true.
78 New Perspectives on Political Economy
Doug French defeats the mantra that “we just need to elect the right people,” in
response to the belief that politicians who are incompetent must just be replaced by
the competent. Indeed, the competent are typically those who are busying themselves
servicing consumers’ wants, and not running for political oﬃces to redistribute the
wealth with little regard to real constraints. David Gordon manages in a few short
pages to use the Hoppean arguments contra democracy to destroy David Estlund’s
epistemological justiﬁcation for democracy found in his new book Democratic Authority:
A Philosophical Framework.
Economics
In this ﬁnal section, several key contributions to the current corpus of Austrian economics
literature are expanded upon.
Thomas DiLorenzo provides a comparison of Hoppean political economy and prevailing
Public Choice opinion. Opening by showing that Public Choice commences
with the basic Hobbesian argument viz. the need of government to avoid a life rampant
with theft and violence, he proceeds to demonstrate that Professor Hoppe’s political
economy searches for much more theoretically secure underpinnings. By assigning
the government an explicit right to tax its citizenry (if ever so slightly), a violation
of property rights is undertaken before the state ever reaches a position where
it may protect them. Addressing the fallacy of the majority rule doctrine, DiLorenzo
shows that the idea of “tacit” agreement in political decisions based on the possibility
of unanimous political consent is “patently absurd.” Indeed, DiLorenzo’s piece
has much in common with Jesús Huerta de Soto’s ﬁne contribution “Classical Liberalism
versus Anarcho-Capitalism.” By showing that classical liberals sowed the seeds
for their own demise by accepting as a starting assumption a minimal state, Huerta
de Soto proceeds to reach the same conclusions as DiLorenzo – that even a minimal
amount of state is impossible to sustain over the long-term, and will result in a
reduced quality of life for all citizens under its command.
Nikolay Gertchev delves into the inner workings of securitization to explore its
eﬀects on the business cycle. Its use coupled with fractional reserve banking has
delinked growth in the money supply from the growth in the credit supply. Thus,
Book Review 79
securitization has allowed a new avenue for credit creation, making central banks’
goals for money supply growth targets more or less ineﬀective in light of the credit
growth ﬁgures that can result. As a result, as Dr. Gertchev coherently demonstrates,
securitization has become a tool to spread the illusion of savings-driven growth, for
its real manifestation – a business cycle.
Jörg Guido Hülsmann’s own contribution to his edited work shows that while the
demand for commodity money is not time-neutral, demand for ﬁat money most deﬁnitely
is. Austrian business cycle theory generally rests on the claim that shifts in the
supply of money aﬀect the rate of interest, while shifts in the demand to hold money
do not (i.e., they are time-neutral). Hence, ﬁat money represents a very basic way that
the structure of production is misaligned with the underlying macroeconomic conditions.
The typical result of an Austrian business cycle prevails – the greater tendency
for capital to be wasted.
Mateusz Machaj takes issue with the standard argument against the feasibility of
socialism. The lack of a numerical calculation system is less important, so it seems,
than the underlying characteristics that deﬁne socialism. It exists in a dictatorial form
and necessarily survives as such. The introduction of centrally controlled and produced
accounting ratios cannot change the fact that competition is ruled out of socialism
by deﬁnition.
Some Concluding Remarks
Professor Hoppe, with this honor on his 60th birthday, shows no sign of slowing down.
Currently working on another opus, he is tying together his life’s work to weave together
a new reconstruction of human history. By combining elements of epistemology,
ethics, and rationality, Hoppe aims to provide “a systematic and interdisciplinary
reconstruction of human history (pre-history, hunter-gatherer societies, agricultural
societies, industrial societies).”
His latest endeavor has been the promotion of debate through the Property and
Freedom Society which he founded in August 2005. Challenging the important political
questions of our time, the society seeks to promote Austro-libertarianism with ties
80 New Perspectives on Political Economy
to the French laissez-faire liberal economists Frédéric Bastiat and Gustave de Moli-
nari.
The thirty-ﬁve contributions to his Festschrift – Property, Freedom, & Society: Essays
in Honor of Hans-Hermann Hoppe – show the far-reaching eﬀects that his writings
have had. In many diverse ﬁelds we can see the torch of Hoppean economics
and political philosophy carried on. The quality of the contributions is outstanding
and should result in this work being highly read and inﬂuential in furthering the
Austro-libertarian research paradigm.
In many ways, it is unfortunate that honors such as a Festschrift come along only
once a lifetime for an individual. With so many contributions currently progressing
and many signiﬁcant works yet to come, it will be interesting to see our Herr Professor
Doktor’s sphere of inﬂuence grow as the years continue. Until such a time, the present
work is a succinct place to read the scope and inﬂuence of Hans-Hermann Hoppe’s
works over his lifetime; let’s hope that more is to follow in the future.
David Howden
St. Louis University – Madrid Campus