The Economics Book

146

for the internal workings of a
factory. Von Mises considered
alternatives to money, such as
Marx’s idea of valuing products
by the number of hours of labor
that have gone into making them.
But such a measure ignores the
relative scarcity of different
materials, the different qualities
of the labor, or the actual (as
opposed to labor) time that the
production process takes. Only
market prices take all these
factors into account.

Changing prices
Von Mises, and his followers in the
Austrian School of economists, did
not believe that societies reach
equilibrium, where they “naturally”
hover around a certain level, or
state of balance. He argued that
economies are in constant
disequilibrium; they are always
changing, and participants are
surrounded by uncertainty.
Furthermore, a central planner
cannot simply adopt the prices that
previously prevailed under a market
system. If central planning relies on
prices from a different system, how
could socialism possibly supersede
the market economy?

Von Mises’s challenge sparked

several responses. Some economists

claimed that a central planner could

equate supply and demand through

trial and error, similar to the process

that Léon Walras (p.120) had

suggested for establishing

equilibrium in a market economy.

However, this mathematical

approach was really no different

from the arguments of Barone, and

any discussion of mathematical

equilibrium was considered

unrealistic by the Austrian School.

Von Mises’s supporters, Lionel

Robbins and Friedrich Hayek (p.177),

added that such computation was

not practical. Moreover, the socialist

system could not replicate the risk

taking in the face of uncertainty

undertaken by entrepreneurs in the

market system. In 1936, economists

Oskar Lange and Abba Lerner

proposed a system of “market

socialism” whereby many separate

firms are owned by the state and

seek to maximize profits, given

prices set by the state. Hayek, the

Austrian School’s new champion,

led the response to market socialism

(pp.172–77), arguing that only the free

market could provide the necessary

incentives and information.

Socialism in action

For some of its life the Soviet Union

operated a form of market socialism.

At first it appeared to do well, but

the economic system suffered from

persistent problems. There were

periodic attempts at reform,

shifting targets from output to

sales, and trying to give more

discretion to state firms. But state

firms often hid resources from

central planners, met targets

through shortcuts that did not meet

customer needs, and neglected

tasks outside their plans. There

was considerable waste, and

output fell well short of targets.

When the system collapsed, the

Austrian School’s concerns about

incentives and information seemed

to have been justified by events.

Von Mises was equally critical of

any form of government intervention

in the market economy. He claimed

that intervention produces adverse

side effects that lead to further

intervention until, step-by-step,

society is led into full-blooded

socialism. In the market economy

firms make profits by serving

consumers, and in his opinion—

and that of the Austrian School—

there should be no restrictions

CENTRAL PLANNING

Planned economies lack basic market information about

demand, so a central planning committee has to guess the

type and level of demand for any item. Their ideas about

what people want or need are unlikely to be accurate.

Demand Central planning Production Supply

The central planning

committee sees only a

demand for footwear—

not for types of footwear.

Everyone ends up

with boots, even if

some people wanted

sneakers.

The committee tells

the factories to produce

sensible, long-lasting

footwear—boots.

There is demand
for different types of
footwear in the economy
—for example, some
people want sneakers.