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Socialism and Capital Stock

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Tags Capital and Interest TheoryOther Schools of Thought

09/16/2002William L. Anderson

The decision by Amtrak, the nation's socialist passenger rail system, to pull all 18 of its Acela high-speed locomotives out of service highlights once again the truism that socialism and capital do not mix very well. What is being touted in the news media as simply a maintenance issue is actually another example of the fact that, under socialism, it is impossible for individuals to engage in necessary economic calculation. As Ludwig von Mises noted more than eight decades ago, socialism is not only impossible in a practical sense, it is also impossible in theory.

Amtrak’s highly-touted Acela, which was supposed to bring European-style high-speed rail to the United States, has been plagued from the start with cost overruns and maintenance problems. Even before the latest revelation that there were serious problems with its shock absorbers, Amtrak riders already were seeing the famed fast locomotives being pulled into repair shops on a regular basis. For all intents and purposes, the Acela has been a colossal failure, one that most likely would not have occurred had a profit-seeking private enterprise owned passenger rail in this country.

The real issue in this sorry case is not the Acela itself. Instead, this high-speed fiasco is a small part of the larger quandary brought on with the futile attempts in socialist enterprises to engage in meaningful economic calculation, and the failure of people to recognize the actual problems.

In examining the economic difficulties of everyday life in the old communist-bloc nations, free-market economists tended to concentrate on the ubiquitous shortages that meant people would have to stand in line for hours just to obtain basic items. Economists correctly pointed out that the artificial price systems in socialist countries prevented goods from being sold at market-clearing prices. Unfortunately, they tended to stop with that analysis instead of looking at the larger underside of socialist failures, the creation and maintenance of capital stock. Yet, it is here that the greater problems of socialist "calculation" were clearly revealed.

Before going into the problem in greater detail, let me say that this important omission was not an accident or just a simple oversight by mainstream economists. Indeed, like socialism itself, the failure to recognize the capital problem in socialism is the result of deficiencies in the mainstream economic theories. Although mainstream economists have chosen to ignore the Austrian theories of capital creation and maintenance, this does not mean Austrian theory is intellectually deficient. Instead, Austrian economics better explains economic problems from shortages in the old Soviet bloc to the failure of Amtrak to keep its Acela on the tracks--or even to have purchased these locomotives in the first place.

Mainstream theory, as developed by Frank Knight and his followers, properly declares that capital consists of the tools that enable workers to create goods more abundantly and efficiently. Knight, however, never did clearly specify how and why capital is created, other than to say that it exists. Furthermore, Knight insisted that capital "maintains itself," and that once capital is created, its owners will somehow know how to keep it operating and when to replace it. In Knight’s view, private ownership was not an important factor in the decision-making process.

Such a theory clearly meshes with the Keynesian notion that aggregate demand is the key to a successful economy. In the Keynesian view, whenever there is adequate aggregate demand in the system, owners of capital automatically will create and maintain the necessary amounts of capital. The process, they believe, is self-sustaining, so all that is needed is for the government to ensure that the system enjoys enough demand through "appropriate" monetary and fiscal policies.

Austrians, on the other hand, see capital as being much more organic to the workings of individuals within a market setting. Capital, as Murray Rothbard correctly notes, comes from the pool of individual savings.1 While economic thinkers as early as Adam Smith understood the role of savings in the creation of capital, mainstream economists have led the whole analysis off the correct path, while Austrians further developed and perfected the early theories.

Furthermore, Austrians point out that, in a modern economy, capital is connected with time preference, which determines the prevailing rates of interest. In fact, Mises and other Austrians, including F.A. Hayek, developed the famed Austrian business cycle theory by tying central monetary authorities' attempts to artificially lower interest rates to malinvestments of capital that must be liquidated when an economic boom turns into a bust.

Thus, in the Austrian view, the "correct" amount of capital within an economy is determined by the combination of time preferences of individuals acting within an unhampered market system of free prices and private property. To attempt to do so otherwise results in the case of the blind leading the blind.

When I visited the former East Germany 20 years ago, I was struck by how run-down everything appeared to be, from official buildings, to apartment complexes, to the rail lines. The entire place--considered by most to be the "showcase" of the former communist world--seemed to suffer from decay and neglect. Friends who had visited other communist countries reported the same thing to me.

The problem was that the capital stock clearly was not maintaining itself, as Knight had claimed it would. The East German government was permitting the capital stock to deteriorate to very low levels before making attempts--however feeble--to repair or replace it. One of the hidden stories of communist failure was the fact that much of the "vaunted" industrial system could not operate because of mechanical breakdowns of farm and factory machinery that could not be repaired quickly or efficiently.

This phenomenon was more than just a problem with "incentives," as mainstream economists claim. Granted, the lack of private enterprise did create perverse systems of incentives, but that is only part of the story. The real issue was that, under socialism, capital becomes a liability rather than an asset, and the problem is not limited to the former communist bloc economies. We can see this very problem in any socialistic enterprise, and especially in those sectors for which there are strict monopoly privileges for the state-run operations.

Let us take Amtrak, for example. As a government "corporation," Amtrak faces very different issues than does an entity like Delta Airlines. Although fares make up an important portion of Amtrak’s revenues, the firm is assured that taxpayers will always make up the difference between revenues and expenses, no matter how great the deficit, effectively socializing the company’s liabilities.

While traveling on Amtrak last year, I noticed that one of the restrooms in a passenger car not only was dirty and smelly but also had a number of implements held together by duct tape. I cannot imagine even a troubled entity like U.S. Airways (which recently filed for bankruptcy) using duct tape in restrooms on its planes.

Why would Amtrak permit such inferior capital stock onto the tracks? The reason is that the directors of Amtrak (who have no ownership stake in the company) are faced with scarcity problems of where to spend their revenues. Should they invest in better passenger cars with cleaner bathrooms, they must use funds that otherwise would go to their unionized workforce, which is much more interested in receiving raises than assuring passengers have a bathroom sans duct tape. 

In a private, profit-seeking system in which passenger revenues would provide the firm’s income, that would be an easy decision: passenger comfort and hygiene would come first. However, even though nasty bathrooms would ensure that some people would not want to travel on Amtrak, the fact that Congress will vote each year to cover Amtrak’s losses serves as a powerful incentive for the firm’s management to seek to keep its most militant workers happy with pay raises.

This principle is seen even better in Canada’s national health system, which many leftists here tout as the way medical care should be organized in the United States. The government in Canada provides all medical funding, as private payments are a violation of the law. Canadians do not have easy access to the kind of medical capital that is par for the course for Americans. For example, someone needing an MRI in Canada is likely to have to travel to another city and wait in a long line, unlike medical consumers here. (Even the small city of Cumberland, Maryland, where I live, has two MRI facilities.) Other kinds of medical capital, such as CAT scan machines, are also rare in the Canadian system and require a near act of God for someone to actually use them.

The explanation is simple and is demonstrated by the following example. Assume that I am the manager of a Canadian hospital and am told by the government that I will receive a fixed sum of money for the year. My incentive would be to use as much money as I could to assure that my unionized employees (typical in Canada) would receive the pay and perks to keep them off the picket lines.  

Since patients would have no choice, given the monopoly aspects of Canadian medicine, they would have to come to my hospital no matter what its condition. Thus, if one from this country were to visit a Canadian hospital, most likely that person would find himself in a time warp dominated by an antiquated capital structure, especially in comparison to U.S. medical facilities. In the way that my visit to East Germany was a step back in time, the same can be said when one examines avenues of socialized medical care.

Because Canadian medical services are, in effect, owned by the state, the principles of the system must engage in economic calculation without the benefits of private ownership.2 As Mises pointed out in Socialism, private enterprise is essential for accurate economic calculation to occur within an economy.

How, then, does one explain Amtrak’s purchase of the ultra-modern Acela? After all, it would seem that the addition of this up-to-date capital stock would contradict my earlier points of capital being a liability within a socialist system. Why, then, would Amtrak spend hundreds of millions of dollars for high-speed locomotives when it cannot even afford to keep its rolling stock and passenger cars in decent shape?

There are two reasons for this action, and both are compatible within Austrian analysis. First, the Acela locomotives were purchased for Amtrak’s Northeast Corridor, which actually turns a profit once in a while. It would seem that high-speed rail could be a highly demanded form of transportation for this region. In that category, Acela would make perfect sense.

Unfortunately, the second reason for Amtrak’s purchase also makes sense--if one understands bureaucratic incentives. Amtrak’s management has been trying to "make a statement" with this acquisition, that they want to be the creators of a "modern" rail system. Never mind that Amtrak pretty much is a second-rate entity, complete with inferior passenger cars, bad service, and an on-time record that would make Mussolini’s Italian rail system a model of punctuality.

Furthermore, it is questionable, given the condition of the tracks of Amtrak’s Northeast Corridor, that true high-speed rail is even viable. While the Acela locomotives can move at up to 150 miles per hour, there are few places where the trains can even run that fast. Moreover, the time savings created by Acela are not so much because of the increased speed capabilities of the new locomotives but rather because they make fewer stops. In other words, Amtrak could have obtained the same, quicker routes by using its present fleet of less-expensive and somewhat slower engines.

In a private, for-profit enterprise, it is doubtful that the management would have made the Acela purchase, given the sets of constraints that the firm would have been facing. At best, Acela is a public relations ploy, an attempt to make Amtrak look like a successful entity instead of the banana republic of a firm that it really is.

The Socialist Calculation Debate did not end with the fall of the communist systems of the former U.S.S.R. and Eastern Europe. Socialism is alive and well today, and is still wreaking havoc wherever it is implemented. There is also, however, an intellectual antidote to socialism: Austrian economics.

  • 1. Rothbard develops capital theory through the use of "Robinson Crusoe" economics in his classic Man, Economy, and State in which he clearly shows the role of savings (abstinence from current consumption) in the creation of capital.
  • 2. Although Canadian providers technically are private entities, the fact that all of their funding comes from the government effectively socializes their operations. The Canadian arrangement is known as a "single-payer system."
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