Critique of Interventionism by Ludwig von Mises
A Critique
of Interventionism
by
Ludwig von Mises
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THE HAMPERED MARKET ECONOMY
1. The
Prevailing Doctrine of
the Hampered Market
Economy
With
a few exceptions contemporary commentators on economic problems are
advocating economic intervention. This unanimity does not necessarily
mean that they approve of interventionistic measures by government or
other coercive powers. Authors of economics books, essays,
articles, and political platforms demand interventionistic measures
before they are taken, but once they have been imposed no one likes
them. Then everyone—usually even the authorities
responsible
for them—call them insufficient and unsatisfactory.
Generally
the demand then arises for the replacement of unsatisfactory
interventions by other, more suitable measures. And once the new
demands have been met, the same scenario begins all over again. The
universal desire for the interventionist system is matched by the
rejection of all concrete measures of the interventionist policy.
Sometimes,
during discussion of a partial or complete repeal of a
regulation, there are voices against changing it, but they rarely
approve the given measure; they wish to prevent even worse measures.
For instance, scarcely ever have livestock farmers been
pleased
with the tariffs and veterinary regulations that were adopted in
order to restrict the importation of livestock, meats, and
fats
from abroad. But as soon as consumers demand the repeal or relaxation
of these restrictions, the farmers rise in their defense. The
champions of legislative labor protection have labeled every
regulation adopted so far as unsatisfactory—at best to be
accepted
as an installment on what needs to be done. But if one such
regulation faces repeal—for instance, the legal limitation of
the
workday to eight hours—they rise in its defense.
This
attitude toward specific interventions is readily understood
by
anyone who recognizes that intervention necessarily is
illogical
and unsuitable, as it can never attain what its champions and authors
hope to attain. It is remarkable, however, that it is obstinately
defended in spite of its shortcomings, and in spite of the
failure of all attempts at demonstrating its theoretical
logic.
To most observers, the thought of returning to classical liberal
policies appears so absurd that they rarely bother to give it
thought.
The
defenders of interventionism often appeal to the notion that
classical liberalism belongs to a past era. Today, they tell us, we
are living in the age of “constructive economic
policy,”
namely, interventionism. The wheel of history cannot be turned
back, and that which has vanished cannot be restored. He who calls
for classical liberalism and thus proclaims the solution as
“back
to Adam Smith” is demanding the impossible.
It
is not at all true that contemporary liberalism is identical
with the British liberalism of the eighteenth and nineteenth
centuries. Certainly modern liberalism is built on the great ideas
developed by Hume, Adam Smith, Ricardo, Bentham, and Wilhelm
Humboldt. But liberalism is no closed doctrine and rigid dogma. It is
an application of the principles of science to man’s social
life,
to politics. Economics and social science have made great
strides since the beginning of liberal doctrine, and thus liberalism
also had to change, although the basic thought remained unaltered. He
who makes the effort to study modern liberalism will soon discover
the differences between the two. He will learn that knowledge of
liberalism cannot be derived from Adam Smith alone, and that the
demand for repeal of interventionistic measures is not
identical
with the call, Return to Adam Smith.
Modern
liberalism differs from the liberalism of the eighteenth and
nineteenth centuries at least as much as modern interventionism
differs from the mercantilism of the seventeenth and
eighteenth
centuries. It is illogical to call the return to free trade an
anachronism if the return to the system of protection and prohibition
is not also seen as an anachronism.
Writers
who credit the change in economic policy simply to the spirit of the
age surely expect very little from a scientific explanation of
interventionism. The capitalist spirit is said to have been replaced
by the spirit of the hampered economy. Capitalism has grown old and,
therefore, must yield to the new. And this new is said to be the
economy that is hampered by government and other intervention. Anyone
who seriously believes that such statements can refute the
conclusions of economics regarding the effects of import duties and
price controls truly cannot be helped.
Another
popular doctrine works with the mistaken concept of
“free
competition.” At first, some writers create an ideal of
competition
that is free and equal in conditions—like the postulates of
natural
science—and then they find that the private property order
does not
at all correspond to this ideal. But because realization of this
postulate of “competition that is really free and equal in
conditions” is believed to be the highest objective of
economic
policy, they suggest various reforms. In the name of the ideal, some
are demanding a kind of socialism they call
“liberal” because
they apparently perceive the essence of liberalism in this ideal. And
others are demanding various other interventionistic measures.
But the economy is no prize contest in which the participants compete
under the conditions of the rules of the game. If it is to be
determined which horse can run a certain distance in the shortest
period of time, the conditions should be equal for all horses.
However, are we to treat the economy like an efficiency test to
determine which applicant under equal conditions can produce at
lowest costs?
Competition
as a social phenomenon has nothing in common with competition in
play. It is a terminological confusion to transfer the postulate of
“equal conditions” from the rules of sport or from
the
arrangement of scientific and technological experiments to economic
policy. In society, not only in the capitalist order, but in
every conceivable social order, there is competition among
individuals. The sociologists and economists of the eighteenth and
nineteenth centuries demonstrated how competition works in the
social order that rests on private property in the means of
production. This was an essential part of their critique of the
interventionistic policies of the mercantilistic police and welfare
state. Their investigations revealed how illogical and unsuitable
interventionistic measures were. Pressing further they also learned
that the economic order that corresponds best to
man’s
economic goals is that built on private property. Surely the
mercantilists wondered how the people would be provided for if
government left them alone. The classical liberals answered that the
competition of businessmen will supply the markets with the
economic goods needed by consumers. In general they couched their
demand for elimination of intervention in these words: the
freedom of competition must not be limited. With the slogan of
“free competition” they demanded that the social
function of
private property not be hampered by government intervention.
Thus the misunderstanding could arise that the essence of liberal
programs was not private property, but “free
competition.”
Social critics began to chase a nebulous phantom, “genuinely
free
competition,” which was nothing more than a creature of an
insufficient study of the problem and occupation with catchwords.
The
apology for interventionism and the refutation of the critique of
interventions by economic theory are taken much too lightly with the
assertion, e.g., by Lampe, that this critique
is justified only when
it is shown simultaneously that the existing economic order
corresponds to the ideal of free competition. Only under this
condition must every government intervention be tantamount to a
reduction in economic productivity. But no serious social
scientist would venture today to speak of such a pre-established
economic harmony, as the classical economists and their
optimistic-liberal epigones envisage it. There are tendencies
in
the market mechanism that bring about an adjustment of
disrupted
economic relations. But these forces prevail only “in the
long
run,” while the readjustment process is interrupted
by more or
less sharp frictions. This gives rise to situations in which
intervention by “social power” not only can be
necessary
politically, but also suitable economically . . . provided expert
advice on the basis of strictly scientific analysis is available to
the public power and that it is followed.
It
is most remarkable that this thesis was not written during the 1870s
or 1880s when the Socialists of the Chair untiringly offered to the
high authorities their infallible remedies for the social problem and
their promises for the dawn of glorious times. But it was
written in 1927. Lampe still does not see that the scientific
critique of interventionism has nothing to do with an “ideal
of
free competition” and “preestablished
harmony.”
He who scientifically analyzes
interventionism does not
maintain that the unhampered economy is in any sense ideal,
good, or free from frictions. He does not contend that every
intervention is tantamount to a “reduction in economic
productivity.” His critique merely demonstrates that
interventions
cannot achieve the objectives which their authors and
promoters
want to achieve, and that they must have consequences which even
their authors and sponsors did not want and which run counter
to
their own intentions. This is what the apologists of
interventionism
must answer. But they are without an answer.
Lampe
presents a program of “productive
interventionism”
consisting of three points.
The first point is that the
public authority “must possibly
stand for a slow reduction of the wage level.” At least Lampe
does
not deny that any “public authority” attempt at
holding wage
rates above those an unhampered market would establish must create
unemployment. But he overlooked the fact that his own proposal
would bring about, to a lesser degree and for a limited time, the
intervention which he himself knew to be unsuitable. When
compared with such vague and incomplete proposals, the
advocates
of all-round controls have the advantage of seeming logical.
Lampe reproaches me for not caring how long the transitional
frictional unemployment will last and how severe it may be.
Now, without intervention it
neither will last long nor affect
many. But undoubtedly the enactment of Lampe’s proposal can
only
bring about its prolonged duration and its aggravated
severity.
Even Lampe cannot deny this in the light of his other discussion.
Anyway,
we must bear in mind that a critique of interventionism does
not
ignore the fact that when some production interventions are
eliminated special frictions are generated. If, for instance,
all import restrictions were lifted today, the greatest difficulties
would be evident for a short time, but there would soon be an
unprecedented rise in the productivity of human labor. These
inevitable frictions cannot be mitigated through an orderly
lengthening of the time taken for such a reduction of the protection,
nor are they always aggravated by such a lengthening. However,
in the case of government interferences with prices, a slow and
gradual reduction, when compared with their immediate abolition, only
prolongs the time during which the undesirable consequences of
the intervention continue to be felt.
The
two other points of Lampe’s “productive
interventionism”
require no special critique. In fact, one of them is not
interventionistic, and the other actually aims at its
abolition.
In the second point of his program, Lampe demands that public
authority eliminate the numerous institutional obstacles that stifle
the occupational and regional mobility of labor. But this means
elimination of all those government and labor union measures that
impede mobility. This is basically the old demand of laissez
passer, the very opposite of
interventionism. And in his third
point, Lampe demands that the central political authority gain
“an
early and dependable overview of the whole economic
situation,”
which surely is no intervention. An overview of the economic
situation can be useful to everybody, even to government, if
the
conclusion is reached that there should be no interference at
all.
When
we compare Lampe’s interventionistic program with others of a
few
years ago, we recognize how much more modest the claims of this
school have become. This is progress of which the critics of
interventionism can be proud.
2. The
Thesis of Schmalenbach
Considering
the dismal intellectual poverty and sterility of nearly all books and
papers defending interventionism, we must take notice of an attempt
by Schmalenbach to prove the inevitability of the “hampered
economy.”
Schmalenbach
starts from the assumption that the capital intensity of industry is
growing continuously. This leads to the inference that fixed costs
become ever more significant while proportional costs lose in
significance.
The fact that an ever
larger share of production costs is fixed causes the old era of a
free economy to draw to a close, and a new era of a hampered
economy
to begin. It is a characteristic of proportional costs that they
occur with every item produced, with every ton delivered. . . . When
prices fall below production costs, production is curtailed
with
corresponding savings in proportional costs. But if the
lion’s
share of production costs consists of fixed costs, a production
cutback does not reduce costs correspondingly. When prices then
decline it is rather futile to offset their fall through production
cutbacks. It is cheaper to continue production with average costs. Of
course, the business now suffers a loss which, however, is smaller
than it would be in the case of production cutbacks with nearly
undiminished costs. The modern economy with its high fixed
costs
thus has been deprived of the remedy that automatically coordinates
production and consumption, and thereby restores the economic
equilibrium. The economy lacks the ability to adjust production to
consumption because to a large extent proportional costs have become
rigid.
This
shifting of production costs within the enterprise
“almost
alone” is “guiding us from the old economic order
to the new
one.” “The old great era of the nineteenth century,
the epoch of
free enterprise, was possible only when production costs
generally were proportional in nature. It ceased to be possible when
the proportion of fixed costs became ever more
significant.”
Since the growth of fixed costs has not yet stopped and will probably
continue for a long time, it is obviously hopeless to count on a
return of the free economy.
Schmalenbach
at first offers proof for the relative rise in fixed costs with the
remark that the continuous growth of enterprise size “is
necessarily connected with an expansion, even a relative expansion,
of the department that is heading the whole organization.”
I doubt that. The superiority
of a larger enterprise consists,
among other things, in managerial costs lower than those of
smaller enterprises. The same is true for the commercial departments,
especially the sales organizations.
Of
course, Schmalenbach is completely correct when he emphasizes that
the costs of management and many other general costs cannot be
reduced substantially when the enterprise works only at
one-half
or one-fourth of its capacity. But as management costs decline with
the growth of the enterprise, calculated per unit of output,
they are less significant in this age of big business and
giant
enterprises than formerly in the age of smaller operations.
But
Schmalenbach’s emphasis is not here; it lies on the rise in
capital
intensity. He believes that he can simply conclude from the
continuous formation of new capital and progressive application of
machines and equipment—which is undoubtedly true in a
capitalist
economy—that the ratio of fixed costs will rise. But he must
prove
first that this is actually the case for the whole economy, not just
for individual enterprises. In fact, continuing capital
formation leads to a decline in the marginal productivity of capital
and an increase in that of labor. The share that goes to capital
declines, and that of labor rises. Schmalenbach did not
consider this, which negates the very premise of his thesis.
But
let us also ignore this shortcoming and examine
Schmalenbach’s
doctrine itself. Let us raise the question of whether a relative rise
in fixed costs can actually precipitate entrepreneurial behavior that
deprives the economy of its ability to adjust production to demand.
Let
us look at an enterprise that either from the start or because
of a changed situation does not come up to its earlier expectations.
When it was built its founders hoped that the investment capital not
only would be amortized and would yield the going rate of interest
but, in addition, would pay a profit. Now it has turned out
differently. The product price has fallen so much that it covers only
a part of production costs—even without allowance
for the
costs of interest and amortization. A cutback in output cannot bring
relief; it cannot make the enterprise profitable. The less it
produces, the higher will be the production costs per unit of
output and the greater the losses from the sale of each unit
(pursuant to our assumption that the fixed costs are very high
relative to proportional costs, disregarding even the costs of
interest and amortization). There is only one way out of the
difficulty: to shut down entirely; only then can further losses be
avoided. Of course the situation may not always be so simple. There
is hope, perhaps, that the product price will rise again. In
the
meantime, production is continued because the disadvantages of
the shutdown are thought to be greater than the operating losses
during the bad time. Until recently most unprofitable railroads were
in this situation because automobiles and airplanes entered the
competition. They counted upon an increase in traffic, hoping to earn
profits some day. But if such special conditions do not exist,
production is shut down. Enterprises laboring under less
favorable conditions disappear, which establishes the equilibrium
between production and demand.
Schmalenbach’s
error lies in his belief that the cutback in production, necessitated
by the decline in prices, must take place through a proportionate
cutback of all existing operations. He forgets that there is
yet
another way, namely, the complete shutdown of all plants working
under unfavorable conditions because they can no longer stand the
competition of plants producing at lower costs. This is true
especially in industries producing raw materials and staples.
In
finishing industries, where individual plants usually
manufacture
various items for which production and market conditions may
vary, a cutback may be ordered, limiting output to the more
profitable items.
This
is the situation in a free economy unhampered by government
intervention. Therefore, it is utterly erroneous to maintain that a
rise in fixed costs denies our economy the ability to adjust
production to demand.
It
is true that if government interferes with this adjustment
process through the imposition of protective tariffs of appropriate
size a new possibility arises for producers: they can form a cartel
in order to reap monopolistic gains through reductions in output.
Obviously, the formation of cartels does not result from some
development in the free economy, but is rather the consequence of the
government intervention, i.e., the tariff. In the case of coal
and brick, the transportation costs, which are so high
relative
to product value, may, under certain conditions and without
government intervention, lead to the formation of cartels with
limited local effectiveness. A few metals are found in so few places
that even in a free economy the producers may attempt to form a world
cartel. But it cannot be said too often that all other cartels owe
their existence not to a tendency in a free economy, but to
intervention. International cartels generally can be formed only
because important production and consumption areas are
sheltered
from the world market by tariff barriers.
The
formation of cartels has nothing to do with the ratio of fixed to
proportional costs. The fact that the cartel formation in the
finishing industries is proceeding more slowly than in staple
industries is not due to the slower rise in fixed costs, as
Schmalenbach believes, but to the complex manufacture of goods
nearer to consumption, which is too intricate for cartel
agreements. Furthermore, it is due to the dispersal of
production over numerous enterprises that are more vulnerable to
competition by outsiders.
The
fixed costs, according to Schmalenbach, prod an enterprise to
embark upon expansion in spite of lacking demand. There are
facilities in each plant that are used very little; even at full
plant operation they are working with degressive costs. To
utilize these facilities better the plant is enlarged. “Thus
whole
industries are expanding their capacities without
justification
by a rise in demand.”
We readily admit that this is the case in contemporary Europe
with its interventionistic policies, and especially in highly
interventionistic Germany. Production is expanded without
consideration of the market, but rather in view of the
redistribution of cartel quotas and similar considerations.
Again, this is a consequence of interventionism, not a factor
giving
rise to it.
Even
Schmalenbach, whose thinking is oriented economically in
contrast to that of other observers, could not escape the
error
that generally characterizes German economic literature. It is
erroneous to view developments in Europe, and particularly in Germany
under the influence of highly protective tariffs, as the result of
free market forces. It cannot be emphasized too often and too
emphatically that the German iron, coal, and potash industries
are operating under the impact of tariff protection, and, in the case
of coal and potash, also under other government intervention, and
these are forcing the formation of syndicates. Therefore, to draw
conclusions for the free economy from what is happening in those
industries is completely incorrect. The “permanent
inefficiency”
so sharply criticized by Schmalenbach,
is no inefficiency of the free
economy, but inefficiency
of the hampered economy. The “new economic
order” is the
product of interventionism.
Schmalenbach
is convinced that in the not-too-distant future we must reach
a
state of affairs in which the monopolistic organizations will
receive their monopolistic power from the state, and the state will
superintend “the performance of the duties incumbent on the
monopoly.”
Surely, if for any reason we
reject the return to a free
economy, this conclusion completely agrees with that to which
every economic analysis of the problems of interventionism
must
lead. Interventionism as an economic system is unsuitable and
illogical. Once this is recognized it leaves us with the choice
between lifting all restrictions, or expanding them to a system in
which government directs all business decisions—in which the
state
determines what to produce and how, under what conditions, and to
whom the products must be sold. This is a system of socialism in
which private property at best survives in name only.
A
discussion of the economy of a socialistic community does not belong
with this analysis. I have dealt with it in another place.
See
the critique of such errors,
Halm, Die
Konkurrenz [Competition],
Munich and Leipzig, 1929, especially p. 131 et
seq.