Economics of the Free Society

CHAPTER IX STRUCTURE OF THE ECONOMY; ECONOMICS AND THE WORLD CRISIS

“It is a pity that the philosopher and the reformer cannot set up models of their republics and of their reforms, for it requires a high order of talent in philosophical speculation to be able to predict that such schemes will not work. On the other hand, it needs only a combination of boldness and enthusiasm to cause the more naive members of the public to barter their ancestral acres for a share of stock in the riches of the South Sea.”

G.CH. LICHTENBERG (1742-1799)

1. Structure and Mechanism of Our Economic System

This book has set itself the difficult task of describing the several parts of the economic system and the way in which these parts work together. The author’s task would have been easier and do doubt he could have ingratiated himself with many a contemporary reader if he had given free rein to his feelings and, out of his own antipathy to the many degenerate features of our economic system, had constructed an arsenal of charges against it, culminating in a demand for its complete overthrow. But these degenerate aspects are so obvious to everybody, they are the subject of such an extensive and overly emotional literature, that it is the duty of the scholar to emphasize the other side of the picture and to lead the discussion back to an understanding of the foundations of our economic system. And thereby it becomes clear that a number of these degenerate features are, in fact, closely linked to fatal lack of understanding of what constitutes the real character of our economic structure.

Sheer indignation, no more than impassioned pleas for economic revolution, can accomplish very little. The urge to surrender to emotions of this kind is very strong, for it is a normal human trait to set small store on what one already possesses and to clothe with the romantic aura of perfection what one would like to possess. The first duty of an economist aware of his immense responsibility is, nevertheless, to oppose with all his strength this natural inclination and to establish an exact understanding of two things: the economic system which we have and the one which we would establish in its place. The next step is to apply this deepened insight into the real nature of the economic structure to the discovering of ways by which it can be freed of its imperfections and degeneracies, and its power to function increased instead of diminished. Only when this step has been taken are we at liberty to choose between our economic system and a more or less collectivistic one, for only then will we have the full awareness of all that we would give up, and all that we would receive, in choosing the one or the other. If the welfare of our fellow men means anything to us, we should not risk the surrender of an economic system whose structure we have not even taken the trouble to study, against one which has existed up to now only in our over-stimulated imagination and which might cruelly deceive our hopes.

It is, indeed, disquieting to find how small a minority in any country really understands the essence of our economic system. Actually this should occasion no surprise, for such understanding is gotten only by patient and thorough study of the science which investigates economic interrelationships, unruffled by the attacks to which it has been subject at all times—today more so than ever (a point to which we shall return later on). But how many bother to make this effort? That the number is so small is in itself a cause for concern, since the overwhelming majority of those who are engaged in passing random judgments on our economic system seek to disparage the minority who do understand it as ignorant and biased—a spectacle to be met with in no other science. Probably the very fact that our time has so little understanding of its own economic system is not the least of the reasons why the world finds itself in its present lamentable condition.

As these reflections show, there will always be a tendency to misjudge our economic system in the absence of a clear realization that its replacement by a collectivist system would change the form, but not the substance, of many phenomena. This fact makes it more than questionable whether such a change would be for the better. Thus, the great to-do which is made about advertising and distribution costs is coupled with a failure to take into account the fact that a collectivist economic system would also have to reckon with the corresponding costs connected with the setting up of an apparatus for the distribution of goods (including propaganda). The only question would be, then, whether these costs in a collectivist economic system would be lower than under the existing system; and there are enough reasons for assuming that they would be higher. Still another instance of where complaints are brought to the wrong department is found in the case of big industry, among the less happy features of which the depersonalization of work and the dependence of the worker stand foremost. It is, however, clear that the techniques of production such as are found in big industry would certainly be taken over by the collectivist state, with the result that the dependence of the worker would actually become even greater since he would no longer be able to choose among different employers. As the collectivization of agriculture in Russia demonstrates, we must actually expect an extension of mass-production techniques to areas which, in our economic system, have this far successfully preserved the form of the small enterprise. This is an expectation which is supported by the fact, among others, that every totalitarian state has for political reasons a burning interest in the agglomeration of dependent, easily fanaticized and controlled masses.

Finally, we know from preceding chapters that phenomena such as costs, prices, profitability, interest, and rent can in no way be construed as devilish inventions of “capitalism.” On the contrary, they constitute an ingenious and thoroughly intelligible mechanism and serve for the fulfillment of tasks with which any economic system whatsoever is faced. Together they comprise that apparatus needed to achieve general economic equilibrium for which the collectivist state must find an equivalent, though, as we have already seen, the probability of its being able to do so is remote.

It appears that there are many people who, even though they have a clear understanding of the regulatory mechanism of our economic system, experience especial difficulty when it comes to a proper appreciation of the dominant role played by the profit principle in the sphere of production. In their legitimate indignation over everything that seems to them to emphasize self-interest at the expense of the community, in their anger at cupidity and usury, they sense behind the dominance of the profit principle something vaguely immoral. In reality, things are far more complex than they appear. True, men today, as always, strive for maximum satisfaction of their desires, but these desires, as always, are very different from one another. Some seek honor and power, others a modest degree of happiness, still others are most content when engaged in the service of the commonweal, and the rest have ambitions only to satisfy to the maximum their purely material needs. But all fear poverty and social degradation. The dominance of the profit element in production is no proof, therefore, that the springs of economic activity are less diverse today than at other times. This circumstance shows only that in the profit principle we have a sure and indispensable criterion for determining whether or not any given enterprise may be fitted into the context of the national economy or not. The dominance of the profit principle merely brings it about that an entrepreneur who fits into this context is rewarded by the market; he who does not is punished by the market. The reward is as high as the penalty is severe, but it is precisely in this way that we are assured of the selection of persons qualified to direct the process of production. And since the fear of loss appears to be of more moment than the desire for gain, it may be said that our economic system is (in the final analysis) regulated by bankruptcy/ The collectivist state must find an equivalent regulatory principle: in the place of profitability it will have to establish another criterion of success and another system of selecting the managers of production. It is very doubtful if such an equivalent can be found. In any case, the fact that those who direct the process of production (the entrepreneurs) personally enjoy the fruits of success and personally suffer all the losses incident on failure is one of the most important (if unfortunately often abused) principles of our economic system. It would be difficult to prove that it is either unnatural or unpurposeful.

These reflections should help us to clear up another prevailing misunderstanding. This is the notion that our economic system is one based on “production for profit” in which mere profitability determines what should be produced, whereas the collectivist economic system ensures “production for use,” i.e., production oriented to the needs of mankind. Our investigations up to now, however, leave no doubt that insofar as the principle of service is safeguarded by competition, our present economic order guarantees “production for use,” since the delicate and incorruptible scales of the market determine what is profitable and what is not. This means, simply, that the dominance of the service principle is synonymous with the sovereignty of the consumers. Can our economic system be described as anything else than as production for use when, through the simple working out of its principles, the desires of the consumers incite producers to attain maximum levels of output? And have we not even a greater right to so describe our economic system, the more doubtful it has become (upon mature deliberation and in the light of the experiences undergone in the meantime) whether a collectivist economy, even conceding that its leaders have the best of intentions, can be oriented to the “needs” of the population? If we examine the real conditions obtaining in the collectivist countries, both those that have collapsed and those still carrying on, does it not appear to be a cutting bit of sarcasm to describe collectivism as “production for use”?

2. The Collectivist Alternative

Since the collectivist alternative owes a good part of its allure to a lack of understanding of the competitive system and the possibilities which it encompasses, the subject need not detain us too long. As the example of the slogan “production for use” has already shown, many of the labels tacked on to collectivism are hopeful but misleading. The same holds true for the fashionable comparison of the collectivist “planned economy” with “capitalist anarchy.”

Since everyone today uses planned economy in a most imprecise way, an exact definition of this term should be our first order of business. The expression is frequently used in such a general way as to include every politico-economic activity of the state since in every such instance a plan of some kind is involved. Thus, the imposition of a tariff is part of the government’s plan to build up the productive potential of the country. Streets and railroads are always built according to a given plan drawn up for the economy as a whole, so that it is incorrect to designate as examples of planned economy the public works projects which are initiated in many countries as emergency measures to combat depression. Cities, too, have, as a rule, been built according to a certain plan without its being necessary to resort to the term planned economy. Finally, the monetary and credit policies of many countries have for decades been based on certain principles aimed at regulating the economy, and they too have nothing to do with the concept of “planned economy.” If all of this is planned economy, the concept loses all meaning. In such case, we would have had planned economy as far back as the beginnings of human economy, for economic life has always been subject to certain norms and influences at the bottom of which was the idea of some sort of purposeful direction. In this sense, the present-day market economy is, of course, also a “planned economy”; for the legal-institutional framework of this economic system was also constructed on the basis of systematic deliberations respecting the whole of the national economy.

But even if we take the concept of planned economy in a narrower sense and understand, thereby, a centrally administered economy as distinguished from a self-regulating one, we cannot deny that the present-day economic system possesses the attributes of a planned economy. For although our economic system, as we have seen in an earlier part of this book, may lack the conscious central direction of a collectivist economy, it is nevertheless directed in a certain way by the market and the formation of prices. In an undistorted competitive system, the plan of production is established by persons whose qualifications for the job we cannot very well question, viz., the consumers. The collectivist state, on the other hand, is placed before the dilemma either of imitating the competitive system, more or less, and basing its production plan on the wishes of the consumers (however ascertained), or of establishing a plan based on other considerations to which the consumers will be compelled to submit. In the latter case, the decisions as to what will or will not be produced will be made on the basis of the thoroughly subjective notions of the leaders of the collectivist state; consumer freedom is at an end, and the population must agree to that use of the productive forces of the country which the dominant group in the government of the moment has decided is good. This, as can be easily shown, is how every planned economy in fact ends up. What results then is a thoroughgoing economic dictatorship which is inconceivable with-out a simultaneous political dictatorship possessed of the necessary means of coercion. So incompatible is the collectivist planned economy with freedom and the development of personality that this very statement would be added to the long list of crimes meriting death which the penal code of the collectivist state must include. Hence, to want to fight simultaneously for freedom and for planned economy would be to give evidence of a serious degree of mental confusion.

The collectivist planned economy differs from the “plan” of the market economy not only because it forces the population to submit to a plan designed to operate over a long period of time but also by reason of the particular methods with which it carries out its plan. Whereas the market economy is founded on the complicated interplay of the decisions freely made by all groups entering the market, the collectivist planned economy aims at replacing this spontaneous process by commands from above, and at turning over to a group of government officials the responsibility for decisions respecting the use to be made of the economy’s productive resources. The collectivist planned economy thus substitutes a government fiat for the spontaneous reaction mechanism of the market, so that in the interest of clarity it might better be designated as economy of the bureaucrats or command economy. It is not necessary to list here again the enormous, even insurmountable difficulties which such a system would have to struggle with. We can sum up in one sentence all that we have thus far said: the uncorrupted market economy is the functioning planned economy of those whose business it is; the collectivist economy is the non-functioning planned economy of those whose business it is not.

That the collectivist economy is indeed the non-functioning economy of those whose business it is not, thus combining inferior economic performance with serfdom, is shown by the continuous failure of the Soviet Government’s propaganda efforts to prove the contrary. In order to avoid being misled by this propaganda, and by the judgments of those who consciously or unconsciously lend themselves to Soviet purposes, the following facts must be stressed.

The Iron Curtain, with its barbed wire, mined border strips, machine guns, walls, and dire penalties for every attempt to escape from the prison, proves that the Communists seek by all possible means to hide two things: on the one hand, they endeavor to prevent their own subjects from learning about real conditions in the non-Communist world, and on the other, they permit the non-Communist world to learn only so much about life in Communist countries as is considered useful. In both cases, an unhindered investigation of the truth is prevented wherever possible.

But those who are so anxious to conceal the truth admit their own weaknesses in so doing. If the Communist state could proudly point to economic accomplishments as can the United States, France, Italy, Switzerland, or Germany, there would be no reason for it to shun the light like a night owl. This circumstance alone makes it probable that economic conditions in the Communist world are, today as yesterday, as bad as economic theory would lead us to expect they would be. Nowhere is this more apparent than in that part of the Communist empire which—to the vexation of Communists everywhere—is not able to completely seal off the truth, viz., the Soviet Union.

Only this isolation of the Communist world, joined with the thoughtlessness of the Western world, can explain the recent success of Communist propaganda in spreading the idea that Communism is at the threshold of economic achievements which can stand comparison with those of the free countries and the free economy. Here and there the suggestion is even taken seriously of the possibility that the Communist Assyrians may one day overtake us. This intellectual confusion in the free world—exhibited even by many whose economic training should have made them know better—has been all the more successful to the extent that Communist propaganda has been able to beat the drums for such technical marvels as Sputnik and its successors. But is it not obvious that while such enormously costly individual accomplishments give evidence of a number of things, for example, of special abilities in certain areas (and the ruthless concentration of scarce means in these areas), they are no proof at all of the existence of an efficient economic system? Do not such “accomplishments” in a country where the most basic consumer goods are lacking represent the pinnacle of waste? Is it not clear that they are no more useful in terms of the people’s welfare than the Egyptian pyramids (which were the result of the same combination of technical genius and inhuman concentration of economic power), but considerably more ugly and ephemeral? And what are we to think of the streams of naive tourists to Russia who repeat with the pride of a Marco Polo that they were not required to do without anything?

In the light of such confusion in the evaluation of the Communist economic system, it is urgently necessary to draw attention to the following fundamental considerations. It is clear in the first place, that such a regime will make every effort to create as favorable an image as possible of its economic accomplishments and that in its dressing up of the facts, it can go much farther (thanks both to its insulation from the outside world and to the circumstance that no internal contradiction of the official line is permitted) than many a statistician of the free world would believe imaginable. Every piece of information originating in the Communist world must be regarded as colored by propaganda (unless the opposite can be proven), if not as plain swindle. In the interpretation of these data, expert detective techniques are required and even then there is no assurance of being able to extract the truth from such slippery witnesses.

But sufficient evidence is available, and this is the second point, to put a very unfavorable light on the Communist economy. What is undeniable, and more or less openly conceded by the Communist despots themselves, is the failure of Communism in agriculture, i.e., in precisely that branch of production upon which the population depends for supplies of the most elementary and essential goods. What this failure, which is tantamount to catastrophe, really signifies may be seen in figures published in a recent issue of the American Monthly Labor Review and derived from official Soviet sources. The data show that the Russian population constitutes a pyramid of wage earners—the base of which, equaling two-thirds of all wage earners, consists of 40 million persons earning the lowest wages (less than 600 rubles a month)—who even in 1960 were hardly able to buy more than the barest essential foodstuffs. For these foodstuffs, moreover, the wage earners in question had to work longer hours than in 1928 (18 per cent longer for bread, 153 per cent longer for milk, and 190 per cent longer for eggs). All experience shows that the totally inadequate performance of Communist agriculture is a result of the application to this sector of the Communist principle of collectivism (collective farming), with a resulting paralysis of incentives to produce. Tito proved himself cleverer in his decision to abandon this Communist principle and to restore the individual peasant economy.

But even when the illusions of statistics are disregarded, the very concept of economic growth which underlies all these comparisons is one which must be regarded with serious misgivings. Many persons—among whom the American professor W.W. Rostow must count as having made a particularly egregious contribution to the prevailing confusion—conceive of the process of growth as one in which the prime consideration is to increase investment in industry as much and as rapidly as possible so that the economy, like an airplane, will “take off” and climb ever higher. This is a purely technical concept in which the problem of economic order is completely overlooked. The belief that a functioning economic system results from the simple addition of individual production statistics betrays little thought and little real training in the fundamentals of economics. Apart from the fact that such statistics tell us nothing of the quality of the commodities in question (which in the Communist economy is usually notoriously poor), they relate merely to purely physical productivity. But this is of no help in answering the question of whether the problem of economic order has been satisfactorily solved: whether the factors of production have been properly allocated, whether the right things have been produced in the right proportions, whether the various branches of production are properly coordinated one with another so that the well-known “bottlenecks” are avoided; or whether, on the contrary, there are not continuous wastes and mistakes with the result that physical increases in output are converted into a general improvement in living standards only at great cost and after long delay.

Here then we discover the reason—this is the fourth point—why the exceptionally large increases in the output of important raw materials in the Communist countries have produced only very small improvement in their general living standards. Substantial shortages of every conceivable sort of commodity and bottlenecks of all kinds are a matter of course in the Communist economy. The foreign tourist customarily receives only a very inadequate impression of these conditions since he is continuously shepherded through model developments and never learns what it is like in a Communist country to have to buy a pail or to have a broken pane of glass replaced. He never learns what it means in such a country to have to find food, shelter, and clothing and to be plagued day in and day out by insufficiencies of every sort. He will receive even less information about the fact that wherever the Communist economy functions well to some extent, it is due only to manifold concessions made to the market economy (more or less legally free markets, free migratory workers, etc.) and to a substantial degree of corruption and bribery. Without these departures from “planned economy” the system would function even worse than it does.

In the fifth place, the tourist, like many others, is inclined to measure Communist development against the wrong yardstick. For the person who is condemned to dwell in such countries, and who has the misfortune to be cut off from the rest of the world, it is not unnatural to compare the present provision of commodities in his country with some earlier period, and to be impressed by what may seem to be a noticeable improvement. It would indeed be very surprising if decades of striving and sacrifice to improve the apparatus of production had not produced some kind of result. Something, in the end, must come out of such a machine. But if we want to know whether the Communist economic system has justified all the struggles and all the sacrifices we must apply to it an entirely different yardstick. We must not compare the present situation with some prior situation, but rather we should ask what a free economy would have achieved with such striving and such sacrifices, or by how much less effort and how many fewer sacrifices the present (Communist) living standards could have been attained in such a free economy. Otherwise expressed: that an improvement has occurred is undeniable, but it is an improvement which is not only pitifully inadequate to the need, but accomplished at a cost to the people that a free economy would have made unnecessary. Still otherwise expressed: the Communist economy suffers from a huge disproportion between outlay and yield because it is burdened with enormous losses, diseconomies, and wastes.

Therewith we arrive at the final and most important point. No reasonable person has ever maintained that a Communist economy is an impossibility, but the proofs have always been overwhelming that a Communist economy—as a system designed to serve the needs of the people—is a tragic failure. Conversely, however, Communism’s very ability to operate without regard for the people’s welfare enables it, with slave-driving techniques, to extract the uttermost both from workers, who are subject to the edicts of the sole employer, the state, and from consumers who are deprived by a variety of cunning devices of the fruits of their labor to the end that state investments shall increase.

The real accomplishment of Communism consists in the fact that it can concentrate economic resources wherever it appears politically purposeful to do so, be this in spectacular buildings and industrial projects, in the propagandizing and undermining of the rest of the world, or in armaments with which it can simultaneously hold the world in the spell of its threats.

If the results of the Communist economy are to be judged negatively in respect to its services to the welfare and happiness of mankind, it is equally necessary to give it positive marks for its unexampled concentration of economic effort in the service of a policy whose openly avowed objective is the conquering of the world. Communism—”The greatest organized unhappiness of the greatest number,” as it was called recently by the London Times in a parody of Jeremy Bentham’s well-known aphorism—represents on these selfsame grounds an immense and still increasing danger for the whole world.

All of us have the feeling that a fair judgment of Communism must avoid both underestimating it and overestimating it. Many incline, on the one hand, toward underestimation because they wish to avoid supporting the efforts of Communist propaganda, because they believe complacently in the superiority of the free world, or because they welcome reasons which dispense us from the need for vigilance and for constant effort to keep pace militarily and economically with our Communist rivals. Many incline, on the other hand, to over estimation because they are anxious to avoid self-deception, or because without being Communists they are collectivists, to the extent of feeling a certain sense of satisfaction at alleged proofs of the economic capabilities of Communism, and finding therein reasons for promoting their own collectivist ideas. Still others incline in this direction because they are intellectual snobs, and yet others because they are looking for a new reason for slackening the vigilance and efforts of the free world: viz., the alleged hopelessness of ever being able to match the Communist colossus.

What this amounts to is an extremely confused and therefore dangerous situation which must be put to an end. We must avoid overestimating Communism as an economic system serving mankind. But it is equally incumbent on us not to underestimate it as a system of the most extreme concentration of economic power in the service of politics—in the service of a politics whose ultimate goal to destroy and enslave the free world can be ignored only by the hopelessly blind among us. To our misfortune, most of those who in the free world belong to the Left, conspire to do the exact opposite in that they vastly overestimate the Communist economy as an economic system but simultaneously woefully underestimate it as the instrument of a world imperialism. The result is that they refuse to draw the hard conclusions required for the strengthening of our own economic counter-weapons. To allow ourselves neither to be bluffed nor lulled—that is what is required if we want to learn how to deal with Bolshevism.

3. The German Experiment in Noninflationary Market Economy

It would seem as if one of the world’s most important industrial countries deliberately subjected itself to the experiment of demonstrating in succession (1) that collectivism requires not only political unfreedom but leads to disorder, waste, and low living standards, and (2) that the opposite economic system of the market economy is not only a prerequisite for political and intellectual freedom, but also the road to economic order and to prosperity for all the people as well. The country in question is Germany. Under the rule of the National Socialists it gave the world the example of a collectivist economy—which of necessity became increasingly inflationary and of which the chief marks were planned economy, price control, wage control, capital control, and exchange control. And the whole world showed great zeal in endeavoring to follow this example as rapidly as possible. Indeed, until quite recently the almost universally encountered brand of economic policy was, in essence, the National Socialist variety; and in not a few countries—the so-called underdeveloped ones—it is a policy which is still very much in vogue. Where this system led in Germany has been described in an earlier section of the book (Chapter IV, Section 4) which dealt with the phenomenon of repressed inflation.

It was the complete bankruptcy of this inflationary collectivism which (as indicated earlier) made possible the subsequent legendary economic revival of the non-Communist half of Germany. The success of this reform was so extraordinary, and the transition from poverty and hopelessness to prosperity and feverish economic activity so sudden, literally from one day to the next, that the term “German economic miracle” gained world-wide currency.

But the German accomplishment was nonetheless—in economic terms—no miracle at all, if the essence of the reform of 1948 is clearly understood. Its success was on the contrary precisely what its architects had expected. The real miracle lay in the fact that in this particular country and in a world still under the spell of inflationism and collectivism, it proved possible politically and socially to return to the economic reason of the market economy and to monetary discipline. It was then that the spectacular success of this reform which, from election to election, broadened the initially narrow political base of the market economy and finally compelled even the socialists to throw away, more or less convincingly, most of the planks in their economic platform.

It was, to be sure, a long time before the inflationists and collectivists of every kind and degree bowed to the irrefutable evidence of the facts and abandoned their attempts, as numerous as they were scientifically untenable, to minimize or even deny the unexampled and historically unique success of the German economic reform of 1948. Outside Germany there still appear to be some diehards who—either out of ignorance of the facts and interrelationships, or against their better judgment—resist admitting that here is to be found the most convincing case in all history against collectivism and inflationism and for market economy and monetary discipline.

The reform of 1948 was constituted, then, of two parts: the overcoming of inflation and the dismantling of the apparatus of repression. The first was accomplished by the monetary reform, the second by the economic reform represented in the restoration of the market economy. Thus were the twin pillars of genuine economic order reconstructed from the chaos and the paralysis of the inflationary planned economy: the steering and motive power of free prices and the stability of the value of money. Both made it possible in a few years for a war-devastated rump state, swollen with refugees, whose cities had been destroyed to the extent of 50 per cent and more, to develop a “hard,” fully convertible currency, to become the chief creditor nation of Europe, and finally, even to be found worthy of helping the leading power of the free world, the United States, out of its balance of payments difficulties with credits of one kind or another. German foreign trade, after having fallen to zero during and after the war, expanded within a decade to the point where Germany assumed the number two position in world trade (after the U.S.). Later, Japan—using the same recipes-achieved similar results.

In reality, as we have suggested, the situation was more complex than we have presented it here. It was not always easy to maintain, uninterrupted, the course of such a noninflationary market economy. The temptation was strong to give in to an anchronistic Keynesianism and to fight the persisently high level of unemployment, due to the continuing stream of refugees from the East, with a program of inflationary investments. The American occupation authorities exerted, over a considerable period, strong pressure on the German government and the German central bank in this direction. Fortunately, the Germans withstood both the pressure and the temptation, so that Germany was preserved from a relapse into the National Socialist policy of repressed inflation. But it was a long time before this problem of structural unemployment was solved by a patient policy of adaptation and adjustment. An essential prerequisite for this policy, as well as for the enormous increase of investment (which represented the real motor of the German revival), was the restrained wages policy of the German labor unions, who had the good sense to wait upon the fruits of real prosperity, and a tax system which provided the necessary incentives for entrepreneurs to invest.

Thus it was that Germany, with its particular version of market economy (termed “social market economy”), gave the world an example of a constructive and internationally responsible economic policy, following its prior repellent example, under the National Socialists, of an economically destructive and internationally disintegrative economic policy. This was a not ignoble way of attempting to make good the damage caused by the former bad example. It is certainly not at all flattering to our age that the world—so quickly, zealously, and obstinately—determined to follow Germany’s former bad example of a collectivist-inflationary policy, that the occupation authorities in Germany in the immediate postwar period insisted on the continued implementation of such policies in the conquered country, and that this same world delayed as long as possible in following Germany’s new good example, and then only with mistrust, incomprehension, and hostility. But the weight of the evidence and the sheer logic of the situation finally won the day. The events of the German case spoke too clear and compelling a language to be misunderstood, with the result that one country after another followed the German lead, more or less faithfully, more or less successfully, but unquestionably in the direction of more market economy and greater monetary discipline. A particularly impressive example of this general development is the case of France which, by finally (end of 1958) adopting the German recipes of monetary discipline and market economy, succeeded in converting its chronic balance of payments deficit into a sizable surplus.

4. The Third Road

Having had a glimpse of the rather unattractive future which the collectivist alternative holds in store for us, let us return now to our own economic system. We find that this system is composed of a complicated network of contractual relationships which, however, join together to produce an ordered whole—thanks to the mechanism of the market. It is a combination of freedom and order, representing what is probably the highest level to which these two ideals can simultaneously attain. Moreover, it is a combination which has bestowed on the human race an unparalleled increase in its standard of living. Obviously, this combination of freedom, order and progress is far from being perfect. Often the three principles are found to be in conflict with one another so that frequent compromises must be made among them, sometimes at the cost of the one, sometimes at the cost of the other.

To the admission that our economic system is characterized by unstable equilibrium, we must hasten to add the fact that small disturbances, affecting a limited sector of the economy, can generally be overcome with ease and with hardly perceptible effort by means of the steering mechanism of the market. The market economy is also able to adjust with surprising rapidity and elasticity to most changes in economic “data” (methods of production, size of population, consumption habits, etc.). However, from time to time grave and total equilibrium disturbances take place: we have spoken of them in the previous chapter, and we have seen how they may be most effectively overcome.

The admission that our economic system undoubtedly contains within itself the seeds of crisis does not really signify too much. For the admission must be qualified by two circumstances, neither of which we can afford to overlook. The first of these is the undeniable fact that the disturbances, which for decades have affected the economic life of most countries and which finally culminated in the Great Depression (1929-33), owe their severity and extent primarily to the external shocks which have afflicted the world since 1914. It is a real miracle that our economic system has not completely collapsed in consequence, and we have the right to ask whether another sort of economic system would have exhibited similar powers of resistance. The point is that our economic system ought not to be made the scapegoat for the political sins of our generation. Moreover, it is a fact that in this same period our economic system has been deformed in ever-increasing degree by interventions and degeneracies of every conceivable sort, to the point where it is almost unrecognizable. The result is that the system has become increasingly less able to fulfill its functions, less elastic, and less maneuverable. It has lost this adaptability and this flexibility precisely at a time when these qualities are most urgently needed, since economic conditions are changing more quickly and more radically than ever before. But in a fatal chain of reactions, the disproportion between the need and the ability to adapt have led to measures of policy and to interventions which as an end result have served only to widen the gap.

To find a way out of this vicious circle is one of the most important of the many crushing responsibilities which our generation has to shoulder. This is so difficult that not a few have turned away from their responsibility in despair. It remains, nevertheless, one of those problems upon the satisfactory solution of which hangs the fate of our Western civilization.

There is no doubt about the fact that our economic system needs a complete “overhaul,” if we wish to arrest the process of degeneration before it ends in an intolerable degree of unproductivity and—what is worse—corruption and injustice. To accomplish this, some-thing more is required than a mere freeing of the system from “nonassimilable” interventions of the state. The job cannot be done by merely adopting a negative approach and abstaining from action, i.e., by a return to simple “laissez-faire” methods. Of much more significance in the shaping of a constructive policy are the abundant proofs that the structure of the market economy is not nearly as simple as its friends, as well as its enemies, have maintained. We now know that its functioning depends upon a whole series of economic, juridical, moral, psychological, and political conditions, none of which are simply “given,” and which, in any event, must be largely restructured to fit the changed needs of the present. Above all it will be necessary to overhaul, with the help of trained economists, the legal framework of our economic system (bankruptcy laws, corporation laws, patent laws, monetary and banking laws, and antitrust laws).

Just as we ought not to let ourselves be led astray in the execution of this task by ideological name-calling, so ought we to take care not to allow ourselves to be paralyzed by the weak-willed fatalism of those who would have us believe that the dissolution of our economic system is a matter of fate, to struggle against which would be mere quixotism. This belief that economics is subject to ineluctable laws of evolution—a part of the abundant residue of Marxist thought still current in our time—is no more justified today than it was previously, and is all the less appropriate to a generation which prides itself on possessing more courage and energy than did its predecessor.

There is in our time hardly a more urgent task than to find a way out of the sterile struggle between the champions of a “free” economy, as it was formerly known, and the protagonists of a socialist economic order which, with its endless disappointments, we have come to know so well. It is the economist who is especially inclined to warn against over-emphasis of the economic factor in history; but he may nevertheless be permitted the observation that our whole civilization is everywhere entangled in seemingly insoluble problems because it has not succeeded in the elementary task of constructing an efficient and humane economic order. We may add that our world has failed in this task precisely because it has not clearly understood what the issues really are.

Our first duty, then, is to determine precisely what the problems are which must be solved. The truth is that it would be hard to exceed the confusion which today prevails on this point. The origin of the confusion is rooted in two basic fallacies. In the first place, there is too little regard for the fact that there are a number of different problems to be solved, most of which must be kept separate from one another. Stemming directly from this fallacy is the second fallacy, viz., the belief that all these different problems can be solved once for all with a single ready-made solution, be it that of the flagwavers for the free or for the socialist economy. Both errors must be avoided.

If we now examine the present condition of the Western world, and ask ourselves where we must begin in reforming our economic and social system, we find but four cardinal problems, each of which is different from the others and each requiring its own solution: 1) the problem of order; 2) the social problem; 3) the political problem of the distribution of power and 4) the moral-vital problem, as we may describe it in brief.

As far as the problem of order is concerned, the reader of this book is now sufficiently aware of what is at issue. Just as the individual farmer must reflect on the use he will make of each unit of his land, capital and available labor power—in order that the right items will be produced and in the right proportions—so too must the national economy as a whole reflect on the use it will make of its resources. Not only individuals but society as a whole is faced with the question: what use shall be made of the given productive resources? Ought we to produce this or that, and how much of this or that? It is unnecessary to comment again on the enormous difficulty and complexity of this task. Suffice it to say that a well-ordered economy results in the right things being produced in the right proportions at the right time in the right place and with the right methods of production. It ensures simultaneously that an optimum effort will be made by all those engaged in the process of production, so that the right goods will be produced, and that they will be of the best possible quality and available in the largest possible quantities. It also sees to it that people will take heed of the future, that they will save and invest.

We can clarify what has been said with an illustration. Just as a watch needs not only a balance wheel to regulate its running, but also a spring to keep it running, so is a satisfactory economic system not possible without an efficient system of regulatory and propulsive forces. The present condition of many countries is characterized by a serious lack of these regulatory and propulsive forces. Because the problem of economic order familiar to previous generations is no longer understood, our contemporaries have destroyed the existing system of regulatory and propulsive forces and are unable to find a substitute for it. Indeed, they have failed to realize that anything has been destroyed. Inexperienced fingers have been meddling with the delicate machinery of the watch: they have bent its spring and balance wheel. It makes little difference how much the watch is shaken; it will not run properly as long as the spring and balance wheel are not repaired.

Order and incentive in the economy—these, then, are the two cardinal problems around which everything revolves and which from minute to minute must be freely and noiselessly solved. We find, however, if we extend our inquiry back to first principles, that there are only two possible solutions to these problems (if we exclude the special case of the self-sufficient peasant economy). The two possible solutions, as we know already, are those of freedom and command. That of freedom means the strict adherence to an order functioning with astonishing regularity through the medium of the free market with its freely fluctuating prices. That of command, however, means an economic order in which order and incentive are placed in the hands of the consciously ordering, planning, inciting, commanding, and command-enforcing state. The one we call market economy, the other command economy, planned economy, centrally administered economy, collectivist (socialist) economy. It cannot be too strongly emphasized that as far as the task of ordering economic life is concerned, we have only this exclusive choice between market economy and command economy. We cannot take refuge in some third alternative, in cooperatives, trade unions, in undertakings patterned after the much-cited but much misunderstood Tennessee Valley Authority, corporatism, industry council plans, vocational orders, or any other form of “ersatz” socialism. We must choose between price or state command, between the market or the authorities, between economic freedom or bureaucracy. Having tried out both systems, however, we know only too well that, in fact, we have no further choice in the matter. It has been shown that Western man is not free to opt for a collectivist system, since the latter is unable to guarantee an effective system of order and incentives which would be compatible with freedom and with the existence of an international community. He who chooses the market economy must, however, also choose: free formation of prices, competition, risk of loss and chance for gain, individual responsibility, free enterprise, private property.

This choice—and herewith we return to the heart of our argument—has nothing whatsoever to do with what was formerly understood under the terms “free economy” or “capitalism.” The new orientation of economic policy—along a path which the author has designated as the “third road”—consists precisely in this: that we recognize the impassibility of the socialist road without our feeling it necessary, on that account, to return to the old worn-out road of “capitalism.” Two important planks must be included in this new program whose aim it is to ensure the existence of a natural order. The first calls for a stable framework which, as already observed, is indispensable to a well-ordered market economy. This in itself means that the state has a number of important tasks to fulfill: the establishment of a healthy money system and a prudent credit policy which together will serve to eliminate an important source of economic disturbances. Such a framework will also necessitate a legal system carefully constructed to prevent, as far as possible, abuse of the freedom of the market and to ensure that the road to success will be entered only through the small door of reciprocal service. In a word, this framework should be designed so as to reduce to a minimum the numerous imperfections of the market economy.

This is the first part of the program, one which of itself will provide the state with enough to do. The second becomes necessary due to the fact that, in addition to solving the problem of order, there are further tasks to be done. The market economy, of itself, will furnish a solution only to the problem of order. To determine whether it can provide answers to the other problems, even if only partially, requires more exact investigation. We want not only to produce maximum quantities of the right goods as economic order prescribes, but also, once this problem has been satisfactorily solved, to see other ideals realized as well.

And herewith we come to the other three key problems with which we began our main discussion. There is, to repeat, the social problem. This means that we are not satisfied with the existing order as a whole, but are concerned to provide security and protection to the weak by a certain correction of the distribution obtaining under the market economy. It is not necessary, however, to sacrifice order for the sake of social policy, nor social policy for the sake of order. There is, further, the political problem of the distribution of power. This, too, should be carefully distinguished from the problem of order, though it is necessary to add that the problems connected with the distribution of power are to a large extent solved by the whole process of the market economy, in which no economic and consequently no political power groups can long prosper.

Such a “road” signifies, above all, the favoring of the ownership of small and medium-sized properties, independent farming, the decentralization of industrial areas, the restoration of the dignity and meaning of work, the reanimation of professional pride and professional ethics, the promotion of communal solidarity. The prospects for the success of such a policy would be not too good, were it not for the fact that a slow-down in population increases is eliminating one of the principal causes of the rise of the proletariat, and were it not obvious that the advantages which up to now have been attributed to large scale enterprises have been seriously exaggerated. The notion that we are faced with an irresistible trend toward large-scale enterprise has been shown to be completely inapplicable to the broadest and most important segments of the economy, particularly agriculture, the handicrafts, and small business. Even with respect to industry, it can be assumed that the notable increase in average-sized enterprises in recent decades is explainable less in terms of the technical-economic advantages which would be thereby gained, than as a reaction to that megalomania to which the world has so heedlessly surrendered. It is everywhere apparent that the dimensions of many areas of our lives—economic as well as noneconomic—have expanded far beyond the optimum, and that they must be deflated to more reasonable proportions, a process which will prove to be painful but, in the long run, beneficial. In this connection, there must be due recognition of the fact that contrary to a widely held opinion, technological development itself has very often had the effect of strengthening the viability of the small as opposed to the large-scale enterprise.

But whatever specific form the economic policy of the future will take, it will stand no chance of success if it is not shaped by experts thoroughly acquainted with the structure and mechanism of our economic system and if it is not executed with the understanding, the support and the cooperation of the broad masses of the population who know what is at stake. To bring this to pass is the great practical task of the science of human behavior which we call economics. Economics can successfully accomplish this task only if it is not itself sucked into the vortex of the contemporary crisis of civilization, and if it does not finally fall victim to the uncomprehending attacks to which it is exposed at present. It is reported that Napoleon once took umbrage at the obstinate behavior of one of his officials and reprimanded him for it. The honest servant replied: Sire, one can support oneself only on that which offers resistance. The same may be said of the science of economics.