I'm trying to explain it to a fried on facebook, but I don't understand it that well.
Thanks.
Reading the Mises Wiki page on the issue (http://wiki.mises.org/wiki/Economic_calculation_problem), I am becoming more and more convinced that Austrian capital theory is extremely important.
Wheylous,
It really is. It's more or less the crux of the entire school.
@ Neodoxy
I love how you took that quote from Clayton on Austrian girls and made it your sig.
I find the calculation argument to be pretty interesting. It reveals a lot about Austrian economics. It's kind of its raison d'etre.
I think it is difficult to understand because the reasoning behind it is very tricky, very mischievous. I should say that while I reject the argument, I am not entirely convinced that a nonmarket economy would be better than some sort of market one. Some of the periphery arguments hint at interesting problems. However, the reasoning I've seen behind what I take to be the core of the argument seems flat out wrong to me.
I hope to make an in depth analysis of the economic calculation argument my third major economic writing project, following my exploration of value theory, which is next up on my list. But here might be a good place to make a few preliminary inquiries.
Aristippus: No, that's not the economic calculation problem. In framing it, Mises grants that the planners know all opinions and valuations of each and every individual. But those valuations only apply to final goods and not to the factors of production, and therefore the rational calculation of the inputs remains impossible.
But doesn't Mises say that the price of inputs are determined by the price of final goods? If the planners knew the valuations of the final goods, then wouldn't they also know the valuations of the factors of production?
This apparent problem occurred to me during the course of discussion in this thread. It seemed to me that the only way the price of labor (a higher order good) could be determined by consumer goods is if the labor was heterogeneous, nontransferable. This would seem to mean that price changes in labor are due to the fact that they can't be reallocated. If these price changes then are due to the inability to reallocate, then the obvious question is, how are these prices supposed to help with allocation?
FOTH,
Recently I've been working upon exactly that problem. I'm increasingly coming to the conclusion that you are right that if planners had some objective way of determining final prices for goods that the calculation problem could be solved through a mock-market. The problem is that price is determined by supply and demand. Even if you perfectly know the demand curve for every finished good, you would still have to determine what price should be charged for it.
Clayton: Uncertainty. The future is uncertain - no one knows for sure how things will turn out. For example, a farmer might plant a drought-tolerant crop because there was a dry year last year and then his fields get flooded in unseasonal rains this year. Not only does impersonal Nature change unpredictably, but human preferences also change unpredictably. Last year, there was high demand for red clothing, this year, there is high demand for blue clothing. [...] The economic calculation problem arises from the abolition of entrepreneurship. Reference the first point above: "Uncertainty". Nobody knows what is the right combination of goods which will be demanded in the future, and what is the correct configuration of the time structure of production to best meet those future demands. The entrepreneurial market process discovers this mix of consumer production and capital structure by means of trial and error, that is, ventures that either succeed or go bankrupt.
Clayton: Uncertainty. The future is uncertain - no one knows for sure how things will turn out. For example, a farmer might plant a drought-tolerant crop because there was a dry year last year and then his fields get flooded in unseasonal rains this year. Not only does impersonal Nature change unpredictably, but human preferences also change unpredictably. Last year, there was high demand for red clothing, this year, there is high demand for blue clothing.
[...]
The economic calculation problem arises from the abolition of entrepreneurship. Reference the first point above: "Uncertainty". Nobody knows what is the right combination of goods which will be demanded in the future, and what is the correct configuration of the time structure of production to best meet those future demands. The entrepreneurial market process discovers this mix of consumer production and capital structure by means of trial and error, that is, ventures that either succeed or go bankrupt.
Maybe I don't understand you, but I don't see how uncertainty can enter into it. So let's take your example of the red and blue clothing. Since the preference is unpredictable, then businesses must guess as to what color people want. In the first year, Business A produces red clothing and Business B produces blue clothing. By chance, Business A gets it right, succeeds, and is empowered to produce again next year. Business B, on the other hand, goes bankrupt. So year 2 comes around. The demand for blue clothing, as you say, is unpredictable. But if it is truly unpredictable, then it doesn't matter that Business A survived and Business B went under. Business A's correct guess the previous year has nothing to do with conditions this year. If the future is truly uncertain and up to pure chance, then it doesn't help consumers at all to reward those who make correct guesses.
On the other hand, if what you are saying is that some entrepreneurs are more skillful at predicting future demand, then in fact there is something in the current conditions that gives away the future preferences. If this is the case, there is no reason to assume ipso facto that a central planner can't learn to analyze the data in the same way, or that the best central planners can't be democratically selected, or that socialism is "impossible." To call the basis of this argument "uncertainty" is really misleading. What you would actually be arguing is that some people know the future more than others.
Trade. When people trade voluntarily, we know they are better off because they reveal their true preferences by acting on them. [...] While both of these are fatal problems in any economic proposal whose aim is to abolish trade or abolish money, these are still not the economic calculation problem, which is more serious yet. [...] It is also a crucial point that true preferences are only revealed in exchange. By definition, the bureaucrat who will supposedly get promoted or demoted on the basis of his job performance in allocating economic resources is not acting in an entrepreneurial role.
Trade. When people trade voluntarily, we know they are better off because they reveal their true preferences by acting on them.
While both of these are fatal problems in any economic proposal whose aim is to abolish trade or abolish money, these are still not the economic calculation problem, which is more serious yet.
It is also a crucial point that true preferences are only revealed in exchange. By definition, the bureaucrat who will supposedly get promoted or demoted on the basis of his job performance in allocating economic resources is not acting in an entrepreneurial role.
I'm confused here. First you say that trade reveals peoples' true preferences, but that this isn't the calculation argument. Then you seem to say that true preferences revealed in exchange is crucial to the calculation argument. Is this or is it not a part of the calculation argument?
But assuming it is part of the argument, the statement that true preferences are only revealed in exchange strikes me as very misleading. Why wouldn't my true preferences be revealed in all of my actions and not just those that pertain to exchange? If I illegally download the latest Katy Perry album, do I not express my true preferences?
This seems to be an argument of the form that I've seen many here make: "everyone benefits from voluntary exchange, therefore we should all engage in voluntary exchange." The problem with this argument should be obvious (in some ways, it's similar to the ontological argument). When we say that everyone who engages in voluntary exchanges benefits, we do so because we are taking those exchanges as actual. That is, if we see someone do something, we must conclude that he expected to benefit. The problem comes in when we try to transfer that conclusion to hypothetical exchanges. I could imagine going into Best Buy tomorrow and buying the latest Katy Perry CD. Thus this is a hypothetical exchange. If I actually do go into Best Buy tomorrow and buy the CD, then you could conclude that I expected to benefit from doing so. But at this moment, as I contemplate going to Best Buy tomorrow, as I imagine walking in and buying the CD, I cannot conclude that this voluntary exchange would actually benefit me. In fact, since I prefer to download the CD, I can conclude that such a voluntary exchange would not benefit me. Thus you can see that there is nothing beneficial in the pure form of a voluntary exchange. Rather the conclusion we draw about the expectation to benefit comes from the exchange's form of actuality. Thus, since libertopia consists purely of hypothetical voluntary exchanges, we can't conclude that anyone can expect to benefit from any such exchanges!
[Aside: I wonder how the calculation argument applies to intellectual property markets. If there was no IP, would Katy Perry have trouble correctly allocating her vocal resources to meet consumer demand? Would she mistakenly start singing punk? Would the phenomena of musicians becoming "reverse sellouts" impoverish modern culture?]
[Aside 2: I don't actually plan on downloading the latest Katy Perry album. That was only a hypothetical actuality!]
Even if you perfectly know the demand curve for every finished good, you would still have to determine what price should be charged for it.
That's easy, you just find the point where your aggregated isocost is tangential to the highest aggregated indifference curve :)
I suppose I could wait for Clayton to respond, but I thought these really needed to be addressed:
What happens when everyone wants blue clothing next year? Tastes change. People use to wear mullets. Thank god that tastes change.
Entrepreneurs do not know the future. Ideally, the successful entrepreneurs knew their market well enough to know what others would find useful, but they can never know for sure. And that's if the entrepreneur knows their market really well. Not all do. Many businesses fail. That's a lot of entrepreneurs who were unable to predict the future. There is no reason that the class of central planners can outpredict the class of entrepreneurs. At best they could predict at the same rate. And that's if they were to know the relevant sector of the market as well as the entrepreneur.
There is a difference between something being the argument and being part of the argument.
Perhaps you've never heard of autistic exchange?
This is a massive failure of being unable to use counterfactual thinking. IF I were to buy the Katy Perry CD from Best Buy, THEN that voluntary exchange would benefit me. And so what if you would prefer to download the CD? If you buy it, then you found it beneficial. If you download it, then you found that beneficial. Perhaps you do both, and you find both beneficial.
"This seems to be an argument of the form that I've seen many here make: "everyone benefits from voluntary exchange, therefore we should all engage in voluntary exchange." The problem with this argument should be obvious (in some ways, it's similar to the ontological argument). When we say that everyone who engages in voluntary exchanges benefits, we do so because we are taking those exchanges as actual. That is, if we see someone do something, we must conclude that he expected to benefit. The problem comes in when we try to transfer that conclusion to hypothetical exchanges. I could imagine going into Best Buy tomorrow and buying the latest Katy Perry CD. Thus this is a hypothetical exchange. If I actually do go into Best Buy tomorrow and buy the CD, then you could conclude that I expected to benefit from doing so. But at this moment, as I contemplate going to Best Buy tomorrow, as I imagine walking in and buying the CD, I cannot conclude that this voluntary exchange would actually benefit me. In fact, since I prefer to download the CD, I can conclude that such a voluntary exchange would not benefit me. Thus you can see that there is nothing beneficial in the pure form of a voluntary exchange. Rather the conclusion we draw about the expectation to benefit comes from the exchange's form of actuality. Thus, since libertopia consists purely of hypothetical voluntary exchanges, we can't conclude that anyone can expect to benefit from any such exchanges!"
FOTH, this is a massive failure in logic, and I believe it is also a strawman. I kind of don't know where to begin here, but I guess I just have to say that if no one expected to benefit from voluntary exchanges, then no libertarian would... Advocate voluntary exchange?
Maybe I don't understand you, but I don't see how uncertainty can enter into it. So let's take your example of the red and blue clothing. Since the preference is unpredictable, then businesses must guess as to what color people want. In the first year, Business A produces red clothing and Business B produces blue clothing. By chance, Business A gets it right, succeeds, and is empowered to produce again next year. Business B, on the other hand, goes bankrupt. So year 2 comes around. The demand for blue clothing, as you say, is unpredictable. But if it is truly unpredictable, then it doesn't matter that Business A survived and Business B went under. Business A's correct guess the previous year has nothing to do with conditions this year. If the future is truly uncertain and up to pure chance, then it doesn't help consumers at all to reward those who make correct guesses. On the other hand, if what you are saying is that some entrepreneurs are more skillful at predicting future demand, then in fact there is something in the current conditions that gives away the future preferences. If this is the case, there is no reason to assume ipso facto that a central planner can't learn to analyze the data in the same way, or that the best central planners can't be democratically selected, or that socialism is "impossible." To call the basis of this argument "uncertainty" is really misleading. What you would actually be arguing is that some people know the future more than others.
I think your second para describes the Goldman Sachs theory of capitalism - among the public, there are "Michael Jordans of economic forecasting" and these ultra-talented individuals are so much better at guessing the future than anyone else, that they can earn zillions of times the average income just by trading the market. Hence, to attract these supernaturally-talented individuals away from their stock-trading profits and apply their prognisticating capacities to something other than stock trading, companies like Goldman Sachs are compelled to offer them stratospheric salaries complete with golden parachute packages. This is why they say government should not cap CEO salaries... if they did, all these ultra-elite CEOs would just disappear back into the ether and earn their zillions trading directly on the market.
Hence, the role of the market (and market-makers like GS) is to "discover" these ultra-brilliant, crystal-ball-gazing individuals who can peer farther into the future than anyone else. These individuals, then, can helm the corporate ships of GS or AIG or GM or whatever.
The Misesean view is much less dramatic. Generally, everyone is equally clueless about what consumers will demand in the future. As Steve Jobs put it: consumers don't know what they want until you show it to them. But then, entrepreneurs don't know what to show to consumers until consumers go bonkers for it. And that's just the consumer goods market. Then there are the higher-order goods markets (the realm of capitalists proper).
So, you nailed it in your first para. "Business A's correct guess the previous year has nothing to do with conditions this year." But your next sentence does not follow: "If the future is truly uncertain and up to pure chance, then it doesn't help consumers at all to reward those who make correct guesses." You're missing the point. If Business A goes on producing red clothing (say, through a government subsidy) when consumers no longer want red clothing, the cost of blue clothing is higher than it otherwise could have been... Business A could have gone bankrupt and its assets liquidated and reused by another venture - let's say Business C - who may have begun producing blue clothing again (which consumers happen to be demanding).
Just to be clear, this is not an argument or proof of anything, it's merely an illustration.
I'm confused here. First you say that trade reveals peoples' true preferences, but that this isn't the calculation argument. Then you seem to say that true preferences revealed in exchange is crucial to the calculation argument. Is this or is it not a part of the calculation argument? But assuming it is part of the argument, the statement that true preferences are only revealed in exchange strikes me as very misleading. Why wouldn't my true preferences be revealed in all of my actions and not just those that pertain to exchange? If I illegally download the latest Katy Perry album, do I not express my true preferences?
*sigh - you really need to read HA, I've told you this a dozen times. It would save an awful lot of this needless back-and-forth. Of course I don't mean only exchanges reveal preferences versus all other types of action... what I meant is that exchange reveals true preference by contrast to filling out a survey form or any other kind of hypothetical discussion of preferences on the part of the individual. Action consists in actual choice, actual exchange, not hypothetical choice or exchange.
You're confusing revealed preference with the psychology of the acting individual. Mises explicitly rules out consideration of what is going on inside the head of the acting individual because he places that within the realm of psychology - it's just a different subject. Of course there's something going on inside your head regarding hypothetical choices when you act... no one has asserted otherwise. But those have nothing to do with the theory of exchange itself, which stands on its own regardless of the psychological factors of action.
Clayton -
gotlucky: There is no reason that the class of central planners can outpredict the class of entrepreneurs. At best they could predict at the same rate.
And how do you conclude that (the second sentence)? I do not mean to assert that the central planners could outpredict the entrepreneurs, but neither am I convinced that the opposite is true. Do you think this is something that we can know a priori?
I have, but didn't think that was what the calculation argument was referring to. Does that mean socialism is based on voluntary exchanges--since every action is a voluntary autistic exchange?
This is a massive failure of being unable to use counterfactual thinking. IF I were to buy the Katy Perry CD from Best Buy, THEN that voluntary exchange would benefit me.
I can buy the CD. Therefore, I can think about what would happen if I bought it and what would happen if I didn't buy it. I can only decide to buy it by considering what would happen if I bought it. If I were to simply conclude that I would benefit if I bought it, then I would have no basis for making the choice to buy it. If I bought it, then I would have spent money on something I would never listen to. Therefore, I can conclude that I wouldn't benefit from buying it.
If you buy it, then you found it beneficial. If you download it, then you found that beneficial. Perhaps you do both, and you find both beneficial.
You put these in past tense, which indicates that you are taking them as actual. I would agree in these cases. But my point is that the category of voluntary exchange also exists in the hypothetical form, where this doesn't apply.
Neodoxy: FOTH, this is a massive failure in logic, and I believe it is also a strawman. I kind of don't know where to begin here, but I guess I just have to say that if no one expected to benefit from voluntary exchanges, then no libertarian would... Advocate voluntary exchange?
You might be right that it is a strawman. That's what I'm trying to find out.
And yes, I almost added that qualifier. If someone advocates a society solely based on voluntary exchange, then that person expects to benefit from those exchanges. But you can't use this line to persuade other people. You can't say that I will expect to benefit from voluntary exchanges. And what I was considering this in relation to was the calculation argument. I had presumed that the calculation argument held that it would apply to anyone, whether that person wanted a libertarian society or not. How exactly is voluntary exchange necessary for people who want socialism? That's what the calculation argument needs to answer.
Thank you, Clayton, for the clarifying post.
I think your second para describes the Goldman Sachs theory of capitalism - among the public, there are "Michael Jordans of economic forecasting" and these ultra-talented individuals are so much better at guessing the future than anyone else, that they can earn zillions of times the average income just by trading the market.
That does sound like my second interpretation. I'm glad we cleared that up.
But if things are uncertain, then Business A who goes on producing red clothing with a government subsidy has just as much of a chance at getting future demand right than does Business C who decides to produce blue clothing. Perhaps you are saying that uncertainty is only relevant in the long-term but not in the short-term? So if people are buying blue clothes today, we can assume that they will buy blue clothes tomorrow, but we can't assume that they will buy blue clothes next year? If uncertainty applied in the short-term, then I don't see how transferring assets from A to C would be of any help. By the time they got there, there would be an equally likely chance that the demand would have shifted back to red clothes.
I have read Human Action. I thought you might have meant that--and I understand Mises's point in that regard--but my impression remains that in order for the calculation argument to work, exchange must be contrasted with other forms of action. After all, the argument ultimately elevates exchange over other forms of action--not action over something which is not action, such as knowledge or desire.
But by the same token that surveys don't reveal preferences for future actions, neither do past actions. So I don't see how the facts of revealed past preferences can help entrepreneurs plan for future demand anymore than a central planner using a survey. Once a preference is revealed, it is already too late to do anything about it.
But surely the calculation argument is not concerned with past actions but with hypothetical future ones. Wouldn't then the psychology of decision making be a better reference point in analyzing the concepts than the form of revealed preferences that are only applicable to past actions?
If the first sentence is true, then the second is also true.
That's not how this interaction went. First, Clayton was talking about (unqualified) exchange revealing preferences. Then you started talking about how actions reveal preferences. Seeing as Clayton didn't specify either autistic or voluntary exchange, it seemed strange that you would choose for him. Perhaps it wasn't Clayton's intention, but I saw no reason to interpret what he said as specific to only voluntary exchange, especially because what he said about exchange in general was already true.
Now, what is this business about voluntary autistic exchange? I have no idea why you are bringing that up, and I've never heard of that before anyway...
Like I said, you have a massive failure to comprehend counterfactual thinking. Somehow I doubt that this happens to you normally.
IF you were to buy the CD, then you benefitted, else you would not have done it. I am not talking about why you might buy it. Do you really not know what counterfactuals are?
Right, if you are thinking counterfactually, then you can create hypotheticals about voluntary exchange? See what I did there?
I never said that the first sentence was true. If you would prefer to justify that one instead of the second one, go ahead.
That's not how this interaction went. First, Clayton was talking about (unqualified) exchange revealing preferences. Then you started talking about how actions reveal preferences. Seeing as Clayton didn't specify either autistic or voluntary exchange, it seemed strange that you would choose for him. Perhaps it wasn't Clayton's intention, but I saw no reason to interpret what he said as specific to only voluntary exchange, especially because what he said about exchange in general was already true. Now, what is this business about voluntary autistic exchange? I have no idea why you are bringing that up, and I've never heard of that before anyway...
I didn't know "autistic" exchange was contrasted with voluntary exchange. I had always thought it was contrasted with interpersonal exchange. I had thought either could be voluntary.
I find the use of the word exchange to include "autistic" exchange to be confusing. No one talks like that outside of the Austrian community. Why not just use the term action? Anyway, that issue has been cleared up.
Like I said, you have a massive failure to comprehend counterfactual thinking. Somehow I doubt that this happens to you normally. IF you were to buy the CD, then you benefitted, else you would not have done it. I am not talking about why you might buy it. Do you really not know what counterfactuals are?
I don't think you understand what I am getting at. Your sentence is mixing up tenses. Even though "were" often refers to the past, here when it is followed by an infinitive, it communicates something about the conditional future. The sentence should read in one of the following two ways:
1. If you were to buy the CD, then you would benefit.
2. If you bought the CD, then you benefited.
Do you see the difference?
If I were to buy the CD, then I would not benefit.
There's nothing contradictory about that sentence. That's precisely the type of answer I would expect if I asked you why you weren't planning on buying the CD tomorrow.