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Introduction to the Second Edition of Man, Economy, and State by Joseph T. Salerno
MURRAY ROTHBARD* BEGAN WORK ON this magnum opus on January 1, 1952.1 On May 5, 1959 Rothbard wrote to his mentor, Ludwig von Mises, informing him, “È finito!”2 The more than seven years that it took Rothbard to complete Man, Economy, and State elapsed during, what was up to that time, one of the most sterile and retrogressive decades in the history of scientific economics, dating back to the birth of the science in the systematic treatise of Richard Cantillon published in 1755.3 In view of the progressive degeneration of economic thought throughout the 1950s, the eventual publication of Rothbard's treatise in 1962 was a milestone in the development of sound economic theory and an event that rescued the science from self-destruction.
The era of modern economics emerged with the publication of Carl Menger's seminal work, Principles of Economics, in 1871. In this slim book, Menger set forth the correct approach to theoretical research in economics and elaborated some of its immediate implications. In particular, Menger sought to identify the causal laws determining the prices that he observed being paid daily in actual markets.4 His stated goal was to formulate a realistic price theory that would provide an integrated explanation of the formation of market phenomena valid for all times and places.5 Menger's investigations led him to the discovery that all market prices, wage rates, rents, and interest rates could ultimately be traced back to the choices and actions of consumers striving to satisfy their most important wants by “economizing” scarce means or “economic goods.” Thus, for Menger, all prices, rents, wage, and interest rates were the outcome of the value judgments of individual consumers who chose between concrete units of different goods according to their subjective values or “marginal utilities” to use the term coined by his student Friedrich Wieser. With this insight was born modern economics.
Menger's causal-realist approach to economic theorizing quickly began to attract outstanding followers both in Austria and, later, throughout Continental Europe and the Anglophone countries. What came to be called the “Austrian School” grew rapidly in prestige and numbers and by World War I theoretical research based on the causal-realist approach was considered the cutting edge of economic science. For various reasons, the school suffered an amazingly rapid decline, especially in Great Britain and the United States but also in Austria, after the war. By the 1920s, the causal-realist approach had been overshadowed by the partial equilibrium approach of Alfred Marshall in Great Britain, the U.S., and even parts of Continental Europe. Its star fell further with the importation of the mathematical general equilibrium approach of Léon Walras into the English-speaking world in the early 1930s. A little later Menger's approach was nearly buried by the Keynesian Revolution. Hence, by the advent of World War Two there ceased to be a self-conscious, institutionally-embedded network of economists actively engaged in teaching and research in the Mengerian tradition.6
After World War II, a new and stifling orthodoxy known as the “neoclassical synthesis” had descended upon economics, especially in the United States. This so-called “synthesis” was actually a hodgepodge of the three disparate approaches that had overwhelmed the Mengerian causal-realist approach in the interwar period. It jumbled together the Marshallian and Walrasian approaches to price determination with Keynesian macroeconomics. The first two approaches focused narrowly on analyzing the determination of unreal, equilibrium prices either in single markets (partial equilibrium) or in all markets simultaneously (general equilibrium). Keynesian macroeconomics denied the efficacy of the price system altogether in coordinating the various sectors of an economy confronted with the “failure of aggregate demand.” This latter condition was supposed to have caused the Great Depression and was further alleged by Keynes and his followers to be an endemic feature of the market economy. The neoclassical synthesis thus proclaimed that the price system worked efficiently to allocate scarce resources only if the government deftly employed fiscal and monetary policies to maintain a level of aggregate demand or total spending in the economy that was sufficient to absorb a full employment level of output.
This new orthodoxy also promoted hyper-specialization and a corresponding disintegration of economic science into a clutter of compartmentalized sub-disciplines. Even the theoretical core of economics was now split into “microeconomics” and “macroeconomics,” which had seemingly very little connection to each other. Specialized journals proliferated and resulted in a radical change in the research culture, with a premium on the writing and reading of the latest journal articles. The few books that were published were technical monographs or dumbed-down textbooks; the era of the great systematic treatise on economic theory was at a close.7
Almost the sole holdout against this intellectual revolution was Ludwig von Mises. With the publication in 1940 of Nationalökonomie, the German-language forerunner of Human Action, Mises single-handedly recovered and greatly advanced the system of causal-realistic economic theory.8 In particular, he integrated Mengerian value and price theory with his own earlier restatement of monetary theory. In addition, he provided a rigorous foundation for the entire system of economic theory in a broader science of human action that he himself had expounded in earlier works and now further elaborated. This science of human action he now dubbed, “praxeology.” Unfortunately, Mises's great treatise was almost completely ignored by the postwar economics profession.9 However, while it failed to inspire an immediate renewal of the Mengerian scientific movement, Human Action did lay the foundations for its later revival. This revival was to be ignited by the publication of Man, Economy, and State in 1962.10
When Rothbard initiated work on what would turn out to be a full-blown treatise, he conceived of the project as a book suitable both for lay readers and for college instruction that would bring “to the surface and [clarify] the step-by-step nature of the edifice which Mises had constructed but more or less had taken for granted that his readers would under-stand.”11 This was necessary because Human Action was addressed to a scholarly audience, and Mises had accordingly assumed a great deal of familiarity among his readers with many of the concepts and theorems of what he called “modern subjectivist economics.” Thus Rothbard intended “to do for Mises, what McCulloch did for Ricardo,” that is, to make his work comprehensible to an intelligent lay readership.12
But Rothbard quickly realized that his original plan was flawed and had to be abandoned for three reasons. First the traditional textbook format was too disorganized in its arrangement and treatment of various topics to accommodate the development of economic theory in the logical step-by-step manner that Rothbard had envisioned. As such, it was inadequate to convey a “sense of the grand sweep, of the coherent system integrating and pervading all aspects of sound economic doctrine.”13 Second, Rothbard discovered that there existed “a lot of gaps” in Mises's “economic organon” that he had to “fill in” himself.14 In addition, Rothbard's step-by-step deductions led him to the conclusion that Mises's theory of monopoly, which was held by most economists in the Mengerian tradition, was irreparably flawed and had to be completely revised. The book was thus turning out “to involve a good deal of original contribution” on Rothbard's part. Third, as he proceeded in writing the book, Rothbard was concurrently researching the literature and reading widely, and he began to realize that Human Action had emerged from a very broad tradition that included many more economists than just Mises and his famous predecessors and direct protégés (e.g., Friedrich A. Hayek) in the native Austrian School. Moreover, as Rothbard read and wrote it became increasingly clear to him that the various strands of this theoretical tradition, which included many important American and British contributions in addition to the great Austrian works, had not yet been completely integrated and their principles fully delineated in a systematic treatise. Accordingly, Rothbard concluded, “many essential points must be deduced originally or with the help of other works” and therefore “the book cannot simply be a paraphrase of Human Action.”15 Rothbard's proposed book was thus transformed, in the very process of its writing, from a straightforward exposition of the principles of received doctrine of the Austrian School narrowly conceived to a treatise elaborating a complete system of economic theory and featuring many original, and even radically new, deductions and theorems.
Mises himself immediately recognized the profound originality and significance of Rothbard's contribution. In his review of Man, Economy, and State, Mises wrote that Rothbard
joins the ranks of eminent economists by publishing a voluminous work, a systematic treatise on economics. ... In every chapter of his treatise, Rothbard ... adopt[s] the best teachings of his predecessors ... and add[s] to them highly important observations. ...16
Mises went on to characterize Rothbard's work as
... an epochal contribution to the general science of human action, praxeology, and its practically most important and up-to-now best elaborated part, economics. Henceforth, all essential studies in these branches of knowledge will have to take full account of the theories and criticisms expounded by Dr. Rothbard.17
Given Mises's exacting scholarly standards and his well-known parsimony in paying compliments for scientific contributions, this is high praise indeed for a book published by a thirty-six year old economist.18 More importantly, Mises evidently viewed Rothbard's work as opening a new epoch in modern economic science.
Rothbard himself was not reluctant to indicate the respects in which he considered his treatise to have been a departure from or an advance upon Mises's work. Foremost, among Rothbard's theoretical innovations was his formulation of a complete and integrated theory of production. Previously, production theory in causal-realist analysis was in disarray and had consisted of a number of independent and conflicting strands of thought that treated capital and interest, marginal productivity theory, rent theory, entrepreneurship and so on in isolation. Somewhat surprised by this yawning gap in production theory, Rothbard commented:
Mises has very little detail on production theory, and as a consequence it took me many false starts, and lots of what turned out to be wasted effort, before I arrived at what satisfied me as a good Production Theory. (It's involved emancipation from 90 percent of current textbook material.)19
In Man, Economy, and State, Rothbard elaborates a unified and systematic treatment of the structure of production, the theory of capital and interest, factor pricing, rent theory, and the role of entrepreneurship in production. Furthermore, production theory is presented as part of the core of economic analysis and covers five of the book's twelve chapters and approximately 30 percent of its text. One of Rothbard's greatest accomplishments in production theory was the development of a capital and interest theory that integrated the temporal production-structure analysis of Knut Wicksell and Hayek with the pure-time-preference theory expounded by Frank A. Fetter and Ludwig von Mises. Although the roots of both of these strands of thought can be traced back to Böhm-Bawerk's work, his exposition was confused and raised seemingly insoluble contradictions between the two.20 They were subsequently developed separately until Rothbard revealed their inherent logical connection.
Despite Mises's lavish praise for the book as an epochal leap forward in economic science as well as general recognition among many adherents, observers, and critics of the contemporary Austrian movement that Man, Economy, and State is indeed a foundational work in the renaissance of modern Austrian economics, there are two crucial questions regarding the book that, surprisingly, have never even been addressed, let alone resolved. The first question relates to the precise sense in which Rothbard's treatise can be described as a work in “Austrian economics” and how Rothbard himself conceived the connection between his treatise and this body of received doctrine. The second question concerns Rothbard's perception of the relationship of the theoretical system expounded in his treatise and the neoclassical synthesis of the 1950s. As we shall see, the answers to these questions are not only surprising but are pregnant with implications for interpreting recent developments in Austrian economics and evaluating its future possibilities and prospects.
Before addressing the question of the doctrinal filiation between Man, Economy, and State and Austrian economics, it is instructive to examine Mises's attitude toward the Austrian School because it is not as straightforward as is generally supposed and it clearly influenced Rothbard's view. As early as 1932, Mises had argued that all the essential ideas of the Austrian School of economics had been absorbed into the mainstream of what he called “modern subjectivist economics.”21 According to Mises,
the Austrian and the Anglo-American Schools and the School of Lausanne ... differ only in their mode of expressing the same fundamental idea and ... are divided more by their terminology and by peculiarities of presentation than by the substance of their teachings.22
Now admittedly this opinion was delivered at an economics conference in Germany that was heavily attended by the still influential remnants of the German Historical School who were antagonistic to economic theory of all kinds. It certainly can be reasonably argued that, given this venue, Mises's remarks were intended as a generic defense of theoretical research in economics. In fact, a year earlier Mises had written,
Within the field of modern economics the Austrian School has shown its superiority to the School of Lausanne and the schools related to the latter, which favor mathematical formulations, by clarifying the causal relationship between value and cost, while at the same time eschewing the concept of function, which in our science is misleading.23
In spite of the foregoing caveat, Mises continued to maintain that the label “Austrian School” was an anachronism, arguing in the last publication of his career in 1969, that the Austrian School constituted a closed chapter in the history of economic thought from about the time of Menger's death in 1921. By that time, according to Mises,
all the essential ideas of the Austrian School were by and large accepted as an integral part of economic theory ... [and] one no longer distinguished between an Austrian School and other economics. The appellation “Austrian School” became the name given to an important chapter of the history of economic thought; it was no longer the name of the specific sect with doctrines different from those held by other economists.24
As noted, Mises used the term “modern subjectivist economics” to describe the new synthesis of theoretical approaches that he believed had begun to emerge in the 1920s. There are two problems with this label, which may explain Mises's ambivalent attitude toward the inclusion of the Marshallian and Lausanne Schools under its head. First, by World War I most theoretical economists at least paid lip service to some version of subjective-value theory, so that subjectivism was no longer a distinguishing characteristic of a unique approach to theoretical research. Second, as we have seen in our own time, the term subjectivism is a notoriously elastic term that can be stretched to denote even the nihilistic approach to economic theory famously propounded by George Shackle, the later Ludwig Lachmann, and a number of post-modernist and hermeneutical economists.25
Rothbard evidently followed Mises in construing the term “Austrian School” as the designation for an important movement in the history of economic thought. In the text of Man, Economy, and State, Rothbard uses the terms “Austrian” or “Austrian School” at least ten times enclosed in quotation marks, as he naturally would if he were referring to a movement that had only historical significance to the contemporary reader. The few times he uses these terms without quotation marks, they clearly refer to historical doctrines or controversies such as “the Austrian-Wicksteedian theory of price” or the Austrian School versus Alfred Marshall on the relationship between prices and costs. The single time that Rothbard mentions “Austrian” in his Preface to the first edition, he does so in the phrase “the ‘Austrian’ economists,” placing the word in quotation marks and using it in a sentence featuring verbs in the past tense.26
This textual exegesis is not meant to imply that Rothbard did not consider his work as continuing the great tradition originated by the early Austrian economists. Indeed Rothbard wrote of
the myth among economists that the Austrian School is effectively dead and has no more to contribute and that everything of lasting worth that it had to offer was effectively stated and integrated in Alfred Marshall's Principles.27
Rather, the point is that Rothbard's goal was to recover and advance a much broader doctrinal tradition, for which Menger's and Böhm-Bawerk's works were indisputably the taproot. Thus in his Preface, Rothbard stated, “This book, then, is an attempt to fill part of the enormous gap of 40 year's time.”28 The “gap” Rothbard is here referring to separates the publication of Man, Economy, and State and that of the last three systematic economics treatises to appear in English, by Philip Wicksteed (1910), Frank Fetter (1910), and Frank Taussig (1911).29 The treatises of Wicksteed and Fetter in particular were in what Rothbard called “the praxeological tradition.” Their procedure, like his own, was “slowly and logically to build on the basic axioms an integrated and coherent edifice of economic truth.”30 The main reason that his treatise contains numerous references to the historical Austrian school was because Rothbard judged the members of this school to have “best perceived this method and used it most fully and cogently. They were the classic employers, in short, of the ‘praxeologic’ method.”31
In contrast to Mises's “modern subjectivist economics,” Rothbard's reference to the “praxeologic method” drew a bright line between those who employed Menger's procedure in logically deducing economic laws from a few basic facts of reality and those who did not. “Praxeology” was Mises's explicit and self-conscious elaboration of this venerable procedure for discovering the causal laws governing market phenomena. The early Austrian School and their followers, and even some of the better classical economists, had used this research method without being fully aware of it. The praxeological method begins with the self-evident reality of human action and its immediate implications. It then introduces other empirical postulates that reflect the concrete conditions of action from which emerge the historically specific market phenomena that the economist seeks to analyze. It is, therefore, necessarily about real things. It is for this reason that it has no use for fictions and figments like the “representative firm,” “the perfectly competitive market,” or “the social welfare function”; nor does it concern itself with the existence, uniqueness, and stability of general equilibrium.
The highly selective use that the praxeological method makes of imaginary constructs has a single aim: the systematic elaboration of a unified body of theory comprising meaningful propositions about the causes of economic phenomena in the world as it is, has been, or is likely to be. As Mises put it, the praxeological method,
. . . studies acting under unrealized and unrealizable conditions only from two points of view. It deals with states of affairs which, although not real in the present and past world, could possibly become real at some future date. And it examines unreal and unrealizable conditions if such an inquiry is needed for a satisfactory grasp of what is going on under the conditions present in reality.32
Mises concluded, “The specific method of economics is the method of imaginary constructions. ... [I]t is the only method of praxeological and economic inquiry.”33
Rothbard took Mises's dictum seriously and for seven years immersed himself in employing and perfecting this method in elaborating an integrated system of economic theory. This explains why Rothbard identified the use of the praxeological method, rather than a loose subjectivist orientation, as the hallmark and acid test of scientific economics. During the long period of sustained effort in writing the present volume, Rothbard thus became a master practitioner of the praxeological research method. He not only skillfully used the various imaginary constructs whose nature and specific use Mises had explicitly formulated in Human Action, but also devised new ones as needed to assist in the deduction of new theorems to elucidate unexplained features of economic reality.34
Let us take a detailed example to illustrate Rothbard's procedure. In confronting the daunting task of untangling and systematizing causal-realist production theory, Rothbard postulates an imaginary world of specific factors, in which each and every individual laborer, parcel of land, and capital good is irrevocably committed to the production of a single product and cannot be converted to use in any other production process.35 Rothbard also imagines two variations of this world. In the first, the cooperating factors in each stage of a given production process jointly own the product (i.e., capital good) of that stage and, since the services of all capital goods are embodied in the final product, therefore all factors jointly own the final good that is sold to consumers in exchange for money. The money receipts are then distributed according to the terms of a voluntary contract among all joint factor owners. In the second variation, a single capitalist or consortium of capitalists pay the various factors participating in the amalgamated process in advance of the sale of the final product on the market and in exchange receive ownership of the capital goods from every stage as well as the stock of final consumer goods and the money revenue obtained from its sale to consumers.36 In both variations of the construct, an evenly rotating economy is assumed in order to abstract from the problems of entrepreneurship.
With the assistance of this construct, Rothbard deduces a number of important theorems and principles of production. First, in the case of joint ownership of the product by the collaborating land and labor factors, there are no independent, primordial owners of capital goods, which are intermediate goods in the production process and therefore resolvable into the labor and land inputs that cooperated in producing them. Second, and consequently, all income in production consists of wages and land rents—capital goods, which are merely way stations on the path to the final product, do not earn any net rents for their owners. Third, all cooperating laborers and land owners must wait for their income from the inception of the productive process to its termination and the subsequent sale of the final product to consumers. Therefore, fourth, the size of the aggregate income of the cooperating factor owners depends solely and completely on the demand of consumers for their product. A relative shift in relative consumer demand between final goods will fall solely and completely on the specific factors that are involved in the production of the affected products.
Once the capitalist is introduced into this fictitious world, a fifth principle becomes immediately evident: the function of the capitalist is to relieve the factor owners of the burden of waiting for income, as he advances them present money payments from his accumulated savings for the joint product of their labor and land services. In exchange for these present wages and rents, the capitalist receives an interest return on his invested funds, which is based on time preference and reflects the value discount of the anticipated future monetary revenues he will be receiving relative to the present money payments he expends on the factor services. Conversely, the factor owners agree to this deduction from the full-sale proceeds of their product that is embodied in their discounted wage and rent payments from the capitalist, because these present payments unshackle them from the temporal dimension of the production process. A sixth principle is that, even in a world of capitalist ownership of the entire production process, capital goods still do not generate a net monetary income for their owners, because the net interest return obtained by the capitalist-owners is fully derived from the discount incorporated into the present wages and rents paid to owners of labor and land factors, who are the only net recipients of incomes in a world without capitalists. Thus wage, rent, and interest incomes logically exhaust the entire proceeds from the sale of the final product, leaving no remainder for net payments to capital goods.37
This analysis of Rothbard's hypothetical world of purely specific factors also is pregnant with implications for the role of subjective costs in production and pricing. Given that specific land factors and capital goods have no alternative uses in this imagined world, an immediate inference is that their use in production is “costless” and their respective supply curves perfectly inelastic. Labor, specific to a particular production process though it may be, in contrast, is costly to use because it has an alternative use in the production of “leisure,” which is an instantaneously producible consumers’ good. Thus, in a world without capitalists, labor involves the disutility of foregoing both leisure and present goods. The arrival of capitalists on the scene reduces, but does not eradicate, the disutility of labor. These inferences starkly demonstrate the principle that all production costs are ultimately and essentially subjective. Leisure preferences and time preferences thus determine the ultimate costs of production and these costs are purely subjective and consist of the valuation of the forgone utilities of the producers against the anticipated monetary revenues from consumers. Once these (subjective) producers’ costs have all been incurred, the stocks of the various kinds of consumers’ goods emerge from the production process ready for sale to consumers. Unless their producers have a direct use for the goods, their sale to consumers is completely costless and their relative prices are determined solely by the structure of value scale of consumers. Hence, barring speculation on future price variations, the supply curves for the various stocks of consumer goods are also perfectly inelastic. In sum, “production costs”—that is, the disutilities of labor and waiting that have already been incurred, or the utilities of leisure and immediate enjoyment that have already been forgone, by producers—have no role whatever in determining the prices of the existing stocks of consumers goods.
Rothbard also wields the fictive construction he formulated to demolish Marshallian price theory, according to which prices were determined by two scissors blades: the subjective values of consumers composing one blade while the objective or real costs of production compose the other blade. While Marshall and his contemporary followers concede that, in the transient immediate run the subjective-value blade predominates in determining prices, they maintain that in the long-run equilibrium, where the permanent tendencies of the economy reveal themselves, the cost of production blade governs because the price of every product conforms to its average cost of production. Thus Marshallians superficially conclude that costs must therefore determine prices. However, Rothbard easily demonstrates that this conformity between price and average cost in long-run equilibrium or the ERE, which itself is not real but a useful imaginary construction, is the result of the same principles governing the determination of the actual prices that momentarily prevail and at which exchanges take place in real-world markets. In a world where all factors are purely specific to a single production process, Rothbard shows that in the long run, where entrepreneurial errors are absent and profits and losses have been totally eliminated, the aggregate payments to all factors cooperating in a given production process are rigidly governed by and must perfectly correspond to the aggregate revenues spent on the final product by consumers minus the interest return to capitalists. Accepting this deduction and dividing both aggregate revenues and aggregate factor payments by the quantity of product implies that the direction of causation of the equality between price and average cost, especially in the long run, runs from the former to the latter.
Rothbard's formulation and deployment of this imaginary world of purely specific factors epitomizes the application of the praxeological method in theoretical research. As Mises pointed out,
The main formula for designing of imaginary constructions is to abstract from the operation of some conditions present in actual action. Then we are in a position to grasp the hypothetical consequences of the absence of these conditions and to conceive the effects of their existence.38
Thus Rothbard first imagines that in this world all production processes are owned by the cooperating factors themselves, who must endure without income until the final product has emerged and is sold to consumers. By first analyzing the state of affairs in abstraction from the existence of the capitalist, we are able to grasp his function of advancing his accumulated savings to the factors before the sale of the final product and to comprehend the nature of his income as a return to time preference, which has been previously established much earlier in the chain of praxeological deductions as an immediate inference from the Action Axiom. In assuming away the capitalist we have also assumed away monetary costs of production, since the only money payments are directly from consumers to the joint factor owners of the final product. This enables us to see that total monetary costs are essentially determined by and equal to these total money expenditures by consumers as mediated through capitalists who have previously advanced present wages and rents to the factor owners.
In later chapters, Rothbard proceeds to drop the assumption of purely specific factors and admits varying degrees of specificity among factors into his analysis. The effects of relatively nonspecific factors in the production process can now be identified by investigating how their presence modifies the outcomes of a hypothetical world of purely specific factors. Since nonspecific factors can be converted to use in a wide range of production processes, a relative shift in consumer demand, ceteris paribus, will alter their allocation while only temporarily affecting their prices. But the principles already deduced regarding specific factors still hold sway in this more complex world and so we are able to conclude that prices of the relatively specific factors in any process will bear the brunt of the change in aggregate consumer expenditures on a given final product. Thus, for instance, in the case of a relative decline of the demand for diamonds, all other things equal, the capital values of diamond mines and the wages of highly skilled jewelers will also decline while the wages of diamond miners and rents of electric generators will undergo little change as these nonspecific factors shift to other employments. Furthermore, introduction of nonspecific factors into the analysis will make a large part of the monetary costs of production appear to be given to the capitalist-employer of factors independently of the demand for his particular good. As a result, the capitalist will react to a change in his costs by adjusting his level of production, just as he would in the case of a change in the demand for his product. Hence, in the absence of a long chain of deductive reasoning utilizing imaginary constructs, à la Rothbard and earlier Austrians, a superficial view of the matter will render Marshall's metaphor of the two blades of the scissors as a plausible representation of reality. Without sedulous employment of the praxeological method, it would be impossible to conceive that it is the demands of consumers for the outputs of a wide range of production processes, as mediated through the bids of capitalist-entrepreneurs, as ultimately and exclusively determinative of the prices of all factors, relatively nonspecific as well as purely specific.
This praxeological method so masterfully deployed by Roth-bard had been used, even if implicitly and crudely, as the primary tool of theoretical research in economics up through the 1930s. However, as Rothbard points out, it was precisely “Marshall's distrust of ‘long chains of deduction,’” in addition to “the whole Cambridge impetus toward” making short-cut assumptions designed to make their theory more testable that led to the gradual breakdown of the praxeological method and its replacement by positivism.39 By the early 1950s the praxeological method and verbal logic had been eclipsed by positivism and mathematical models. For example, the leading economist of the postwar era, Paul Samuelson now maintained that the task of economic theory was to “organize the facts into useful and meaningful” patterns and in so doing to provide economical descriptions of complex reality.40 Economic theorems, then, had to be framed in a manner that was “operationally meaningful.” According to Samuelson, a meaningful theorem was “simply a hypothesis about empirical data that could conceivably be refuted, if only under ideal conditions.” Whether such a theorem was “false,” or “of trivial importance,” or even of “indeterminate” validity was not as important to Samuelson as it being framed as a proposition capable in principle of empirical refutation.41 For Samuelson, theorems would thus be embodied and expressed in highly simplified mathematical models that could be subjected to empirical tests if the data were available. Since, admittedly, the requisite data were rarely accessible the most that could be expected from such abstract models was that they “often point the way to an element of truth present in a complex situation” and that they “afford tolerably accurate extrapolations and interpolations.”42 However, in a retrospective, Samuelson lamented the lack of success of the crude positive method in economics, writing:
When I was 20 ... I expected that the new econometrics would enable us to narrow down the uncertainties of our economic theories. We would be able to test and reject false theories. We would be able to infer new good theories. ... [I]t has turned out not to be possible to arrive at a close approximation to indisputable truth [and] it seems objectively to be the case that there does not accumulate a convergent body of econometric findings, convergent on a testable truth.43
Of course this does not mean that Samuelson's faith in the positivist method was shaken. Rather, it confirmed his prior belief that truth was multifaceted and therefore “Precision in deterministic facts or in probability laws can at best be only partial and approximate.”44
If Samuelson downplayed the attainment of truth as a goal of theoretical research in favor of the formulation of operationally meaningful theorems, the other avatar of positivism in postwar economics, Milton Friedman, jettisoned all references to truth and realism in assessing the validity of economic theorems. Rejecting Samuelson's crude logical positivism, Friedman reveled in the falsity or “unrealism” of a theorem's assumptions and offered the seemingly more sophisticated alternative of “falsificationism,” which was allegedly based on Karl Popper's philosophy of science.45 Friedman's position was concisely summed up in Mark Blaug's statement, “No assumptions about economic behavior are absolutely true and no theoretical conclusions are valid for all times and places. ...”46
Despite the formal adherence by most of the profession to positivist methods during the 1950s, Rothbard's quest to recover and reconstruct the edifice of sound economic theory drove him to scour the contemporary literature for new ideas and insights as carefully as he had scrutinized the writings of his predecessors in the causal-realist tradition. Rothbard's treatise contains citations from over 150 books, journal articles, conference proceedings, government documents, dissertations, and policy and research institute monographs published between the appearance of Human Action in 1949 and Man, Economy, and State in 1962.47 Rothbard's deep engagement with the contemporary literature paid off as he discovered that many of these works contained research that clarified, refined or advanced causal-realist theory and he eagerly integrated these contributions into his own work.
For example in his notable development of an explanation of the firm's costs and return on investment that sharply deviates from the Marshallian theory of the firm, Rothbard was heavily influenced by two neglected articles coauthored by André Gabor and I.F. Pierce on “the Austro-Wicksellian” theory of the firm.48 Rothbard cites a discussion by the Cambridge economist Roy Harrod, in addition to a discussion by Böhm-Bawerk, as a source for his own path-breaking identification of a fourth component in the gross business income of the capitalist-entrepreneur. This “ownership” or “decision-making” rent is distinct from and in addition to implicit wages of management, interest return on invested capital, and pure profit.49 In his thoroughgoing critique of the theories of perfect and monopolistic competition doctrines and his original formulation of a positive theory of competition as a dynamic process, Rothbard favorably cites the contributions of a number of his mainstream contemporaries including: G. Warren Nutter; Wayne Leeman; Marshall I. Goldman; and Reuben Kessel. Rothbard singles out a book by Lawrence Abbott published in 1952 titled Quality and Competition for special praise, characterizing it as “one of the outstanding theoretical works of recent years.”50,51 Indeed, the theory of rivalrous competition that Rothbard expounds is clearly influenced by Abbott's arguments on the central importance of the qualitative dimensions of competition.
The fact that theoretical research employing verbal logic and the praxeological method still remained relatively pervasive among academic economists even as late as the 1950s highlights the deep and hardy roots of the causal-realist tradition. It also accounts for the reason why Rothbard did not yet perceive any advantage in appropriating the label “Austrian” to differentiate his treatise from contemporary economics. In fact, in private correspondence dated February 1954, Rothbard expressed confidence that mainstream economic theorists could still be drawn back toward the causal-realist research program and that his work in progress
will, I believe, command the attention of the profession as a treatise because of its considerable elaborations in those areas not developed by Mises, its differences from Mises in such areas as monopoly, banking ethics, and government ... and its refutations of current economic theory.52
While in retrospect we may be tempted to dismiss Rothbard's bold prediction as a burst of youthful optimism, it hardly reflects the attitude of someone intent on completely breaking with the prevailing doctrine and founding a heterodox school of thought.
By the advent of the 1970s, however, mainstream economic theory had sunk to almost unfathomable depths, degenerating into a series of loosely related mathematical models which had little contact with reality. Following the prevailing Friedmanite-positivist methodology, the tentative “validity”—never the truth—of these models was putatively established by empirically testing their ability to predict or, more accurately, “retrodict” using the methods of econometrics. The last vestiges of the Mengerian approach thus disappeared from the curricula of graduate economics programs and causal-realist theoretical research was now completely banished from academic journals, which had become the main, if not the only, research outlet for mainstream economics.
Around the same time as this sea change in economic theory and method, there began to coalesce outside the formal institution of academic economics a new intellectual movement that was directly inspired by Rothbard's reconstruction of the causal-realist theoretical organon in Man, Economy, and State. This movement comprised mainly graduate students and younger faculty members associated with U.S. academic institutions who were disaffected with the orthodox neoclassical synthesis, which had begun to break down with the failure of the Kennedy-Johnson “New Economic” policies to rein in the Vietnam War inflation and the subsequent emergence of stagflation in the early 1970s.
By the mid-1970s the new movement had grown to such an extent that the opportunity presented itself to institutionalize and promote its existence by means of a formal academic conference on Austrian economics, which was held at South Royal-ton, Vermont, in June 1974. The appellation “Austrian” was chosen for this new intellectual tendency mainly for strategic reasons. Since the Rothbardian movement embraced a method and body of doctrine that now shared very little common ground with the entrenched positivist orthodoxy, the label at least provided the movement with a recognizable affiliation with one of the great streams of early marginalist thought that had fed into this modern mainstream. The name also instantly endowed the movement with the great cachet associated with the well-known names of the founding members of the Austrian School, such as Carl Menger, Eugen von Böhm-Bawerk, and Friedrich von Wieser and its later representatives Ludwig von Mises and Friedrich A. Hayek. The prestige of the “Austrian” brand name was further enhanced when Hayek became a co-recipient of the Nobel Prize in economics later in the year. The term had the additional virtue of identifying the movement's general theoretical orientation.
Rothbard and his followers eagerly embraced the new designation and began to refer to themselves as members or followers of the modern Austrian School, which was now positioned as a heterodox challenger to “mainstream economics.” Despite its significant short-run strategic virtues, however, branding the school of thought that coalesced at the South Royalton conference as “Austrian” has engendered a number of serious problems in the long run. First, it has come to obscure the extent to which the modern Austrian School was directly inspired by Rothbard. Indeed it is no exaggeration to say that a large majority of the thirty or so participants in the South Royalton conference adhered to the body of causal-realist theory elaborated in Man, Economy, and State. Second, it conceals the fact, noted above, that in writing this treatise, Rothbard drew from a much broader range of literature than that emanating from the original Austrian School and its direct intellectual descendents. Third, the label diverts attention from Rothbard's primary mission in writing his treatise, which was to purge modern economic science of its alien positivist and mathematical formalist elements and to reconstruct it along consistently causal-realist lines. It cannot be stated too often or too emphatically that engineering a radical break from standard economic theory and establishing a heterodox school of thought that rejected all forms of equilibrium analysis and the use of imaginary constructs was not Rothbard's purpose in writing Man, Economy, and State. Indeed, as we have seen, one of Rothbard's most important contributions in his treatise is his painstaking explication of the content and the proper use of fictitious constructs and imaginary states of the world in deriving meaningful propositions about the causal determinants of observable economic phenomena.
The last and perhaps most significant disadvantage of applying the unqualified term “Austrian” to the post-South Royalton economics movement is the fact that it fosters a conflation of the very different and conflicting research programs that have grown up under this opaque semantic veil. Rothbard recognized and lamented this state of affairs in the Preface to the revised edition of Man, Economy, and State published in 1993:
In fact, the number of Austrians has grown so large, and the discussion so broad, that differences of opinion and branches of thought have arisen, in some cases developing into genuine clashes of thought. Yet they have all been conflated and jammed together by non-Austrians and even by some within the school, giving rise to a great deal of intellectual confusion, lack of clarity, and outright error. The good side of these developing disputes is that each side has clarified and sharpened its underlying premises and world-view. It has indeed become evident in recent years that there are three clashing paradigms within Austrian economics: the original Misesian or praxeological paradigm, to which the present author adheres; the Hayekian paradigm, stressing “knowledge” and “discovery” rather than praxeological “action” and “choice,” and whose leading exponent now is Professor Israel Kirzner; and the nihilistic view of the late Ludwig Lachmann, an institutionalist anti-theory approach taken from the English “subjectivist” Keynesian G.L.S Shackle. (p. xiv)
While this accurately describes the state of Austrian economics in the early 1990s, the situation has become even more contentious and muddled since then. While the Lachmannian branch has waned somewhat in influence, a new, wildly eclectic tendency has developed which proposes to agglomerate indiscriminately selected elements of Menger, Mises, Hayek, Lachmann, Kirzner, and Rothbard with random insights from Adam Smith's economics, Public Choice Theory, New Institutional Economics, transaction costs economics, game theoretic modeling, hermeneutical economics, and ethnographic and historical case studies, all under the rubric of Austrian economics or “good economics.” Needless to say, the situation is even less satisfactory now than it was when Rothbard penned the passage above. Those interested in pursuing theoretical research in the Mengerian causal-realist tradition are now viewed by the profession, thanks to the Austrian label, as part of a splintered and feuding heterodox movement more interested in discoursing on meta-economic esoterica or devising “spontaneous-order” explanations for obscure historical episodes than in analyzing the “mundane” issues at the heart of mainstream economics—value theory, price theory, capital theory, monetary theory, and business cycles.
Fortunately, Man, Economy, and State points the way out of this morass of confusion, which threatens permanent and wholesale marginalization of all branches of Austrian economics. Every page of Rothbard's treatise is imbued with a profound awareness that the causal-realist theoretical system that he was expounding was in the mainstream of an international economic tradition that originated in the Marginalist Revolution. His treatise thus was not intended as the program for a new heterodox movement or the revival of an old one; rather it represented an endeavor to reconstruct orthodox economics on the unshakeable foundation of the praxeological method and to use this method to substantively advance the theory. In a crucial sense, economic science had temporarily lost its bearings and was beginning to stray from its rich heritage and Rothbard aimed at setting it back on course. Consequently, he never conceded the mainstream of economic science to the disciples of mathematical modeling and the positivist method, whom he regarded as an irrationalist cult that had hijacked economics and whose silly doctrines would sooner or later wind up in the dustbin of intellectual history.
Rothbard has been proven correct. Mathematical modeling has revealed itself to be a vain and formalistic exercise incapable of explaining the international currency crises, stock-market and real-estate bubbles, and the global financial crises that have wracked our world in the past two decades. It is increasingly evident even to professional economists that the tortuous posi-tivist detour has led to an intellectual dead end. Hence, bizarre heterodox sects such as behavioral economics, experimental economics, the “happiness” literature, neuro-economics, etc., now abound. Some market-oriented economists have even abandoned modern economic theory altogether for the less rigorous rhetoric and metaphors of Adam Smith's “invisible hand” and Hayek's “spontaneous order.”53
The death knell is now tolling for the mathematical and positivist pretenders to the mainstream of economics. The time is now ripe for Austrians to recover their rightful position as the true representatives of the central tendency of modern economic theory by affirming the praxeological method as the research method of economics. The prodigious fruits of this method stand before us in the integrated theoretical structure expounded in Man, Economy, and State.
- *. The Introduction draws substantially on the information and resources found in the Murray N. Rothbard Papers. The Rothbard Papers are currently held at the Ludwig von Mises Institute, Auburn, Alabama, and include, among other materials, Murray Rothbard's letters and correspondence (1940–1994), memos and unpublished essays (1945–1994), and drafts of published works.
- 1. The Introduction draws substantially on the information and resources found in the Murray N. Rothbard Papers. The Rothbard Papers are currently held at the Ludwig von Mises Institute, Auburn, Alabama, and include, among other materials, Murray Rothbard's letters and correspondence (1940–1994), memos and unpublished essays (1945–1994), and drafts of published works.
- 2. Rothbard to Mises, May 5, 1959; Rothbard Papers. In English, “It is finished.”
- 3. Richard Cantillon, Essai sur la Nature du commerce en Général, ed. and trans. Henry Higgs (New York: Augustus M. Kelley, 1964).
- 4. Carl Menger, Principles of Economics, trans. James Dingwall and Bert E. Hoselitz (New York: New York University Press, 1981). Menger had worked as an economic journalist and market analyst for daily newspapers on and off for over a decade. For an overview of Menger's life and thought see Joseph T. Salerno, “Carl Menger: The Founding of the Austrian School,” in Randall G. Holcombe, ed., 15 Great Austrian Economists (Auburn, Ala.: Ludwig von Mises Institute, 1999), pp. 71–100 and the sources cited therein.
- 5. Thus in his Preface to the book, Menger (Principles, p. 49) wrote,
I have devoted special attention to the investigation of the causal connections between economic phenomena involving products and the corresponding agents of production ... for the purpose of establishing a price theory based upon reality and placing all price phenomena (including interest, wages, ground rent, etc.) under one unified point of view. ... (Emphasis added)
- 6. For the factors underlying the rise and decline of the early Austrian School, see Joseph T. Salerno, “The Place of Mises's Human Action in the Development of Modern Economic Thought,” Quarterly Journal of Austrian Economics 2, no. 1 (Spring 1999): 35–65.
- 7. Indeed, in the Preface to this treatise, Rothbard laments the demise of “the old-fashioned treatise on economic ‘principles’ “ after World War One and the ensuing progressive disintegration of economics, including economic theory, into compartmentalized sub-disciplines. On the factors that exacerbated this fragmentation of economics after World War Two, see Joseph T. Salerno, “Economics: Vocation or Profession,” Ludwig von Mises Institute Daily Article (November 17, 2004), available at http://mises.org/library/economics-vocation-or-profession.
- 8. Ludwig von Mises, Human Action: A Treatise on Economics, Scholar's Edition (Auburn, Ala.: Ludwig von Mises Institute, 1998).
- 9. On the reasons for this, see Salerno “The Place of Mises's Human Action,” pp. 59–61. The books that molded postwar economics were cut from a completely different cloth than Mises's treatise and dealt primarily with the formal techniques, rather than the substance, of economic theory. These included, especially: J.R. Hicks, Value and Capital: An Inquiry into Some Fundamental Principles of Economics Theory, 2nd ed. (New York: Oxford University Press, 1946); Paul A. Samuelson, Foundations of Economic Analysis (Cambridge, Mass.: Harvard University Press, 1947); and George J. Stigler, The Theory of Price (New York: Macmillan, 1947).
- 10. Rothbard's central role in the modern revival of Austrian economics is detailed in Joseph T. Salerno, “The Rebirth of Austrian Economics—In Light of Austrian Economics,” Quarterly Journal of Austrian Economics 5, no. 4 (Winter 2002): 111–28.
- 11. Rothbard to H. Cornuelle, June 28, 1952; Rothbard Papers.
- 12. Rothbard to H. Cornuelle, March 14, 1951; Rothbard Papers. “What McCulloch did for Ricardo” refers to John Ramsay McCulloch's Principles of Political Economy (New York: Augustus M. Kelley,  1965).
- 13. Ibid.
- 14. Rothbard to R. Cornuelle, August 9, 1954; Rothbard Papers.
- 15. Rothbard to H. Cornuelle, June 28, 1952; Rothbard Papers.
- 16. Ludwig von Mises, “Man, Economy and State: A New Treatise on Economics,” in idem, Economic Freedom and Interventionism: An Anthology of Articles and Essays, ed. Bettina Bien Greaves (Irvington-on-Hudson, N.Y.: The Foundation for Economic Education, 1990), pp. 155–56.
- 17. Ibid., pp. 156–57.
- 18. The following statement is indicative of Mises's attitude in this respect: “There never lived at the same time more than a score of men whose work contributed anything essential to economics” (Mises, Human Action, p. 869).
- 19. Rothbard to R. Cornuelle, memo: “Textbook or Treatise?”; Rothbard Papers.
- 20. In Human Action, Mises avoided a deep analysis of the time-spanning structure of production, perhaps because he associated it with the concept of the backward-looking “average period of production” in Böhm-Bawerk's work which he criticized (Mises, Human Action, pp. 485–86).
- 21. Mises, Human Action, p. 3.
- 22. Ludwig von Mises, Epistemological Problems of Economics, 3rd ed. (Auburn, Ala.: Ludwig von Mises Institute, 2003), p. 228.
- 23. Ibid., p. 175.
- 24. Ludwig von Mises, The Historical Setting of the Austrian School of Economics, 2nd ed. (Auburn, Ala.: Ludwig von Mises Institute, 1984), p. 41.
- 25. For an overview and critique of this nihilist turn in economics, see David Gordon, Hermeneutics Versus Austrian Economics (Auburn, Ala.: Ludwig von Mises Institute, 1986); Hans-Hermann Hoppe, "In Defense of Extreme Rationalism: Thoughts on Donald McCloskey's The Rhetoric of Economics,” Review of Austrian Economics 3 (1989): 179–214; and Murray N. Rothbard, “The Hermeneutical Invasion of Philosophy and Economics,” in idem, The Logic of Action Two: Applications and Criticism from the Austrian School (Lyme, N.H.: Edward Elgar, 1997), pp. 275–93.
- 26. Rothbard, Man, Economy, and State, p. xcii.
- 27. Ibid., p. 357.
- 28. Ibid., p. xciii.
- 29. Philip H. Wicksteed, The Common Sense of Political Economy and Selected Papers and Reviews on Economic Theory, ed. Lionel Robbins, 2 vols. (New York: Augustus M. Kelley, 1967); Frank A. Fetter, The Principles of Economics with Applications to Practical Problems (New York: The Century Co., 1910); F.W. Taussig, Principles of Economics, 2 vols. (New York: The Macmillan Company, 1911). Rothbard did not consider Human Action an “old-style Principles” because “it assumes considerable previous economic knowledge and includes within its spacious confines numerous philosophic and historical insights” (Rothbard, Man, Economy, and State, p. xciii).
- 30. Rothbard, Man, Economy, and State, p. xciii.
- 31. Ibid., p. xciii.
- 32. Mises, Human Action, p. 65.
- 33. Ibid., pp. 237–38.
- 34. Ibid., pp. 237–57.
- 35. While this construct is highly unrealistic, it is not unrealizable like the evenly rotating economy (ERE), which abstracts completely from change and uncertainty and is used to analytically isolate interest income and the capitalist function which earns it from entrepreneurial profit. Thus a world in which every factor is suited for one and only one task is not inconceivable or logically contradictory. In contrast, the ERE is indeed an unrealizable and self-contradictory construct. It describes a world in which, for example, the future is known with perfect certainty but action, which is always aimed at changing the future, occurs; and agents hold money balances despite the absence of uncertainty regarding the temporal pattern of their future receipts and expenditures. This is not to imply that proximity to reality makes one imaginary construct better or more useful than another; the sole test of a construct's usefulness is the aid it gives to thought in deducing the causal laws operating in real markets.
- 36. For the explanation of this construct and its variations and the elaboration of its implications, see Rothbard, Man, Economy, and State, pp. 329–66.
- 37. This conclusion of the exhaustion of the income from production among wages, rents, and interest receipts holds true only under the assumption that future market conditions are known with certainty. Once this assumption is dropped and the possibility is admitted of overvaluation or undervaluation of the complements of specific factors by capitalist investors, entrepreneurial profits and losses enter the picture. However, in a world of purely specific factors such profits and losses would not have an allocative function because, by definition, factors cannot shift between production processes. More importantly, it becomes clear that such incomes accrue to the capitalists alone and that, therefore, in the real world of uncertainty, the functions of capitalist and entrepreneur are integrated in the same agent.
- 38. Mises, Human Action, p. 238.
- 39. Rothbard, Man, Economy, and State, p. xcii. While Marshall utilized the method of imaginary constructions, his aversion to lengthy step-by-step deduction runs afoul of Mises's warning: that it is “a method very difficult to handle because it can easily result in fallacious syllogisms. It leads along a sharp edge; on both sides yawns the chasm of absurdity and nonsense” (Mises, Human Action, p. 238).
- 40. Paul Samuelson, “My Life Philosophy: Policy Credos and Working Ways,” in Michael Szenberg, ed., Eminent Economists: Their Life Philosophies (New York: Cambridge University Press, 1993), p. 241.
- 41. Paul Samuelson, Foundations of Economic Analysis, 2nd ed. (New York: Atheneum, 1976), p. 4.
- 42. Paul Samuelson, “International Factor Price Equalisation Once Again,” in The American Economics Association, Readings in International Economics (Homewood, Ill.: Richard D. Irwin, 1968), pp. 58; and idem, “My Life Philosophy,” p. 241.
- 43. Samuelson, “My Life Philosophy,” p. 243.
- 44. Samuelson, “My Life Philosophy,” p. 243.
- 45. Milton Friedman, “The Methodology of Positive Economics,” in idem, Essays in Positive Economics (Chicago: University of Chicago Press, 1970), pp. 1–43. Some methodologists have argued that Friedmanite-positivist methodology shares little more than vocabulary with Popper's philosophy of science. For example, see Lawrence A. Boland, The Foundations of Economic Method (Boston: Allen & Unwin, 1982), pp. 155–96.
- 46. Mark Blaug, Economic Theory in Retrospect, 4th ed. (New York: Cambridge University Press, 1986), p. 3.
- 47. Actually some of the references in the present edition are to works published after 1962, because this volume includes Power and Market which was originally written as the third volume of Man, Economy, and State, but was published separately eight years later. For the story behind the editorial decision to truncate Man, Economy, and State and publish it as two volumes and Rothbard's reaction to it, see Stromberg, pp. lxv–lxxi.
- 48. André Gabor and I.F. Pearce, “A New Approach to the Theory of the Firm,” Oxford Economic Papers 54 (October 1952): 252–65; idem, “The Place of Money Capital in the Theory of Production,” Quarterly Journal of Economics 72 (November 1958): 537–57.
- 49. Roy Harrod, “Theory of Profit,” in idem, Economic Essays (New York, Harcourt and Brace & Co., 1952), pp. 190–95. For a detailed discussion of Rothbard's concept of decision-making rent and its significance for the theories of entrepreneurship and the firm, see Joseph T. Salerno, “The Entrepreneur: Real and Imagined,” Quarterly Journal of Austrian Economics 11 (3).
- 50. Lawrence Abbott, Quality and Competition: An Essay on Economic Theory (Westport, Conn.: Greenwood Press, 1973).
- 51. Rothbard, Man, Economy and State, p. 666, fn. 28.
- 52. Rothbard to R. Cornuelle, memo: “Textbook or Treatise?”; Rothbard Papers.
- 53. Of course the concept of the “spontaneous order” was only one of Hayek's many contributions. Most of these contributions were squarely in the Mengerian causal-realist tradition and dealt with themes of mundane economics such as capital theory, business-cycle theory, international monetary theory, and comparative monetary institutions. For a collection of Hayek's most important works in these areas, see Prices and Production and Other Works: F.A. Hayek on Money, the Business Cycle, and the Gold Standard, ed. Joseph T. Salerno (Auburn, Ala.: Ludwig von Mises Institute, 2008). Also see Peter G. Klein, “The Mundane Economics of the Austrian School,” Quarterly Journal of Austrian Economics 11, no. 3 (Fall 2008), for the argument that the notion of spontaneous order, rightly understood, has roots in Menger's causal-realist economics.