Murray N. Rothbard The Making of an Austrian Economist

PART II

A Misesian Textbook, 1949–1953

MURRAY ROTHBARD’S ECONOMIC PERSPECTIVE CHANGED significantly in 1949 when he met Ludwig von Mises and read his magnum opus, Human Action. With the financial support of the Volker Fund, Rothbard accepted Mises’s offer to write a textbook rendition of his treatise. Early on, Rothbard evinced a thorough understanding of Mises’s monetary transmission mechanism and praxeological method. This allowed him to further develop the theories of value and price formation the emerging neoclassical synthesis had neglected. In particular, Rothbard used the means-ends relationship to deduce the law of ordinal marginal utility rankings and contrasted it with modern theories of utility. He then showed how this law logically resulted in demand schedules that always sloped downward, which in turn led to a theory of pricing that explained the process of equilibration to the market clearing price. Finally, he extended his analysis to price formation in a monetary economy. In addition to exhibiting his own intellectual progress, Rothbard’s developments significantly advanced economic science because Mises assumed these logical deductions but never actually derived them.

The Textbook Project

When Rothbard started to read Human Action, the twenty-three-year-old experienced what he later described as “an enormous revelation . . . on the economic theory front.” Where before Rothbard felt an inchoate dissatisfaction with the contemporary state of economic theory, now he clearly recognized and articulated the serious problems in the traditions dominant at Columbia University and other leading research centers. Rothbard revealed his radical change of perspective in letters he wrote to Mises in September 1949 and May 1950 while he was still a graduate student at Columbia.

Writing to Mises before he had finished reading half of the treatise, Rothbard already perceived the importance of the praxeological method that Mises deployed to develop his theoretical structure. Rothbard considered praxeology strikingly different from the institutionalism and positivism he learned at Columbia, deeming Mises’s “development of the relationship between praxeology and economics . . . a tremendous contribution.” Mises’s “masterful analysis” had moved beyond Lionel Robbins’s Nature and Significance of Economic Science and “for the first time established a firm methodological base for economics in praxeology.”

Rothbard’s discovery of praxeology caused him to reject the strictures he heard at Columbia about the relative unimportance of doctrinal history for the progression of economic theory. He boldly proposed that Mises “now undertake the task of providing us with a Dogmengeschichte [i.e., doctrinal history]” because “no good history of economic thought exists” and Mises could clarify the differences between the Austrian and neoclassical approaches. Rothbard’s proposal was partially motivated by his understanding “that Professor [Joseph] Schumpeter,” a leading Walrasian with some Austrian leanings, “is at work on a history of economic thought.”  Rothbard feared that if Schumpeter’s “interpretations and evaluations are allowed to go unchallenged, it is sure to have an injurious effect on present and future generations of economists” by diluting the Austrian tradition with the Walrasian neglect of time and uncertainty. (Schumpeter died shortly after the letter was written, in January 1950.)

In mid-1950, after finishing the book and attending the seminar, Rothbard reflected on how Human Action had totally revolutionized his understanding of economic theory. He now characterized the eclectic approaches that he had been taught at Columbia as “a vast inchoate labyrinth of disintegrated compartments.” The neoclassical synthesis treated core elements of economics, particularly “monetary theory” and “price theory,” no differently than peripheral topics like “agricultural economics” and “transportation economics,” each existing “in its own void” and unconnected with all the other parts. This sharply contrasted with Human Action, which contained “the revelation of economics as one magnificent, complex, but integrated structure of thought.” “The concept of praxeology,” Rothbard stated, “is a brilliant new conception.”

Rothbard went as far as to suggest to Mises for the following year’s seminar at New York University “two topics of great importance.” The first was a comparison of “sound economics as exemplified by Human Action” and the prevailing “neoclassicism as exemplified by such works as Marshall’s Principles [of Economics], Hicks’ Value and Capital, and Stigler’s Theory of Price.” The second topic suggested by Rothbard was the epistemology of economics, “another course grievously neglected in all graduate schools.” This lacuna in the curriculum has dire consequences for students, who “flounder among conflicting methodologies” and “usually give up theory altogether, and take refuge in what they conceive to be ‘solid fact’—such as compiling index numbers.”

It is clear that Rothbard had completely moved beyond his Columbia foundations to embrace Austrian economics and the Misesian paradigm. He now grasped the significance of the axiomatic-deductive, praxeological method for formulating a unified structure of economic theory. This impressed the fastidious Mises, who responded in early 1950 with delight “to learn that your ideas agree with mine.” “What separates the various ‘schools’ of economics from one another,” Mises wrote to his budding protégé, “is their epistemological approach.” Mises hoped Rothbard would soon earn his doctorate so he could “write a great book on the problems [Rothbard] refer[red] to in [his] letter.” These powerful words motivated the young Misesian.

Mises did not know it, but the seeds of Rothbard’s “great book” had already sprouted. The previous November, Rothbard had written to Herbert C. Cornuelle that Mises “discussed with [him] the project for an economics textbook and guide for the intelligent layman” along the lines of Human Action. This project would be financed by the Volker Fund and allow Rothbard to continue to learn Austrian economics, thereby preparing him to write the larger book Mises had envisioned. When Rothbard agreed, Mises “asked [him] to prepare an outline.” Mises “like[d] the outline” and “suggeste[d] that [he] write a representative chapter.” In 1950, Rothbard wrote such a chapter on the crucial topic of monetary economics, which Mises told Cornuelle was “very satisfactory. It certainly proves his ability to write a textbook much better than all those [he] had the opportunity to see.”

Rothbard then brainstormed how he would write the book and described his outline in detail to Cornuelle in early 1951. He began by criticizing contemporary neoclassical economics as represented by a widely used textbook, Mary Jean Bowman and George Leland Bach’s Economic Analysis and Public Policy. He characterized this 931-page work as “a fantastic jungle, a hodgepodge of almost every conceivable fashionable doctrine and set of facts (most of them fallacious) and presented in an amazingly chaotic fashion.” Surveying textbooks of the pre-1920 era did not yield much better results and, in Rothbard’s opinion, Frank A. Fetter’s Economic Principles was still “about the best text available,” although it contained several expositional gaps and theoretical flaws relating to utility, price, and capital theory.

The “sound textbook” that Rothbard envisioned would thus be “a pioneering project” and require a significant amount of time and Volker Fund resources. But the results would be well worth it. Using the praxeological method, Rothbard would “create an edifice . . . namely, a logical step by step development of the Misesian theoretical structure.” “I am convinced,” Rothbard wrote, that the student, following this step-by-step logic that started with “simple praxeological axioms,” would “realiz[e] the absurdity of his socialist and interventionist beliefs. He would become a libertarian in spite of himself.” Rothbard would thereby “do for Mises what [J. R.] McCulloch did for [David] Ricardo, i.e., presenting the content and spirit of the master in a purified, remorselessly logical manner, to serve as [an] economic guide for the serious student and intelligent layman.”

Eager to start the project, Rothbard decided that he did not want to “waste time waiting” for Joseph Dorfman and Arthur Burns to settle their disagreements over his dissertation. He would not spend his time revising his PhD. Instead, he would write his textbook on Austrian economics while remaining a graduate student. This momentous decision delayed his academic career, but it did provide ample time to immerse himself in his new undertaking.

The Money Chapter

As noted, in preparation for his projected textbook, Rothbard wrote a sample chapter on money that Mises approved, which he titled “Money and Banking on the Unhampered Market.” Rothbard “had the aid of Mises’s Theory of Money and Credit, which served as an admirable elaboration of the money section of Human Action.” The chapter demonstrated Rothbard’s facility in mastering Mises’s praxeological method and monetary theory and provided him with ample training on using the praxeological method for a principles textbook.

Rothbard’s chapter spelled out Mises’s theory of money and criticized the monetary economics of Mises’s old rival, Irving Fisher. Fisher’s influential Purchasing Power of Money advanced a holistic quantity theory of money—an increase in the money supply causes a proportional increase in the prices of goods, or inversely, a fall in the purchasing power of money (ppm). According to Fisher, the ppm is “the reciprocal of the level of prices” and changes in it could be measured with an aggregative price level index. Though changes in the money supply caused short-term transitional effects, in the long-run end state it only changed overall prices and hence was neutral to relative prices and real activity. Rothbard, already anti-Fisher from his class with Benjamin H. Beckhart, set out to dismantle Fisher’s theory.

In sharp contrast to Fisher’s neoclassical monetary theory, the centerpiece of Mises’s monetary doctrine is the monetary transmission mechanism’s uneven adjustment of the ppm to a change in the supply of or demand for money. This equilibration ripples out from the source of the disturbance and unevenly affects different individuals and markets, altering the entire structure of relative money prices, the allocation of resources, and the distribution of real income. Contra Fisher, money is nonneutral both during the transitional short run and in the long run.

There are two important implications of this long-run nonneutrality. First, because a change in the money supply does not cause a proportional change in the ppm, Fisher erred when he spoke of movements in “price levels.” Second, changes in the money supply do not affect social welfare. The monetary adjustment process only changes the real income and wealth of some individuals at the expense of others.

The core of Rothbard’s money chapter is the explication of the nature and operation of the monetary adjustment process and its effect on social welfare in sections 5, “Determination of the Purchasing Power of Money,” and 6, “Utility of the Supply of Money.” Rothbard closely adhered to Mises’s exposition in The Theory of Money and Credit and Human Action and fleshed it out considerably.

Rothbard began by explaining how an increase in the supply of money disrupts the ppm equilibrium, thereby demonstrating the short- and long-run nonneutrality of money. The first receiver, a “Mr. Jones,” finding himself with “excess cash balance,” increases his demand for various goods and services, particularly apples and adding machines (calculators). The sellers of these goods then spend their excess cash balances on the goods they desire—clothes and automobiles. As a result, the prices of apples, adding machines, clothes, and automobiles increase and production of these goods expands as businesses “shift . . . resources, capital and labor, from” the production of other goods. As this sequential process continues, “the new supply of money becomes diffused throughout the economy” until it reaches the late receivers, the prices and production of all goods finally change, and there is no longer a surplus of cash balances at prevailing prices. Upon the completion of this equilibrating process, the “new equilibrium of purchasing-power will have an entirely different price-structure than the old equilibrium. Some prices will have risen further than others.” In other words, the monetary adjustment process completely changes relative prices and production.

This nonneutrality of money still holds even if increases and decreases in the supply of money cancel each other out in the aggregate. Suppose Jones’s “money supply increases . . . at the very moment that Smith” lost his money in a shipwreck, which leaves Jones with an excess supply of cash balances and Smith with an excess demand. Jones will thus reduce his cash balances by expanding his demand for apples and adding machines, while Smith does the opposite and replenishes his diminished cash holdings by selling wheat and furniture at a lower price: “the money supplied by Jones sets up eddies of increased prices for apples, adding machines, and other goods. . . . The money withdrawn from the market by Smith sets up eddies of lower prices for wheat, furniture, etc.” Rothbard shows conclusively that, although the overall money supply remains constant and “the general purchasing power may remain about the same, the structure of prices may change considerably.”

Having established the nonneutrality of money with respect to prices, Rothbard proceeded to criticize attempts to precisely measure the ppm and changes in it. This is because the ppm is the list of the reciprocals of individual money prices—that is, the array of alternative quantities of goods and services that can be purchased with a unit of money. For example, the “Purchasing Power of [the] Money Unit” could be “1 pair shoes, 1/100 plow, [or] 10 dozen eggs.” Therefore, since the ppm “must encompass every commodity that can be purchased with the money, [it] cannot be subject to precise quantitative expression.”

It is even harder to measure changes in the ppm because the monetary transmission mechanism demonstrates that “prices do not all move together as do the waters of the ocean in a ‘price level.’” Rothbard provided an example: if the money supply increases by 20 percent, the uneven adjustment process causes some prices to increase more than 20 percent and some less. This means that “there is no warrant for concluding that there will be a 20% drop in the purchasing power of money.” Overall, “there is no method of measuring changes in the purchasing power of money over time.”

Rothbard continued his discussion of the ppm’s immeasurability in a paper he presented at Mises’s nyu seminar in October 1952 titled “Fisher’s Equation of Exchange—A Critique.” Rothbard argued that the equation of exchange (money supply times the velocity of money equals the price level times total goods bought) is “a pernicious one” because “there is no price level . . . there are only individual prices of specific goods.” Prices cannot be averaged without engaging in the impossible activity of “adding or multiplying of the quantities of completely different units of goods.” This means that “the holistic equation is false, and the price level remains pure myth, an undefinable concept.” Rothbard mentioned in a letter that he was “flattered by Mises’ reaction.” Mises encouraged him to “elaborate on [his paper] and try to publish it,” although Mises was “of course pessimistic about the chances of this or any other good economics article being published in the journals.” Rothbard thought it “worth a try” because of Fisher’s prominence in economics textbooks and other publications, but no record exists of his attempting to publish the paper.

After discussing in his chapter the nonneutrality of money and the immeasurability of the price level, Rothbard explained the social welfare effects from a change in the money supply. Following Mises, Rothbard recognized that consumer goods provide “utility for each individual on the basis of [their] direct use” in consumption and “capital goods are evaluated indirectly by businessmen on the basis of the consumer goods that they can assist in producing.” Consumer goods are scarce “in relation to the vastness of individual wants . . . [and] the resources needed to produce these goods—the supply of labor and capital goods—[are] severely limited.” An increase in the “supply of shoes,” for instance, can occur through “increased saving and capital investment in shoe production.” Scarcity means “that any increase in the supply of goods, consumer or capital, constitutes a net increase in general public welfare.” In making this welfare judgment, Rothbard is not “imply[ing] that there exists any measurable ‘total welfare.’” Instead, he is tying the Pareto unanimity principle “that some or all individuals benefit by the change, while none loses as a result of the change,” to the supply of produced consumer goods and services.

In contrast, money “has no direct uses; its sole utility is its superior marketability and use as a medium of exchange.” Changes in the money supply do not increase the supply of resources or savings. Instead, during the nonneutral reconfiguration of prices and production, there are “transition gains by some at the expense of transition losses by others, as well as some permanent gains at the expense of permanent losses.” Therefore, since changes in the money supply do not alter the supply of consumer goods, an expansion or contraction of the money supply can neither increase nor decrease general welfare and “an increased supply of money constitutes no net social benefit [and] a decreased supply of money is not a net social loss.”

Following Mises, Rothbard notes two exceptions and explains how changes in the money supply could affect savings and hence the supply of consumer goods. First, an increase in the money supply may bring about a situation in which “the gainers of wealth . . . will increase their savings by more than the losers decrease theirs.” In this case, total savings and capital goods formation increases, leading to additional consumer goods and improved general welfare. But this is not due to the increase in the money stock per se. In fact, it is no less reasonable to assume that “the gainers[’] added savings . . . will be less than the lowered savings of the losers.” In other words, “whether the supply of money increases or decreases, total savings . . . may either increase or decrease,” and economic theory cannot say with certainty which will occur.

Second, “large increases in the money supply and the consequent large fall in purchasing power tend to falsify economic accounting” through traditional bookkeeping methods that evaluate assets at their original cost. Increases in the money supply and prices tend to lead to “illusory ‘profits’” because inflated current revenues exceed historical costs. This leads the owners of the firms to spend their false profits on consumption, resulting in an inadvertent consumption of capital (savings). Conversely, decreases in the money supply and prices “exaggerate business losses” as revenues plunge below historical costs. Consequently, business owners retrench on consumption and “the supply of capital is unwittingly increased.”

Rothbard did not discuss the third exception Mises made in his monetary welfare analysis, that an increase in the supply of commodity money, such as gold, is a resource that could be used to produce goods. Although earlier in the chapter Rothbard discussed how money demand is partially determined by the “demand for direct consumption,” because he now assumed money “has no direct uses” he did not show how changes in the purchasing power of money induce actors to use more or less of the monetary commodity for producing consumer goods.

After he read and approved Rothbard’s sample money chapter, Mises continued to be impressed by the graduate student’s writing on monetary economics. When he presented on free banking in April 1953, Rothbard reported that he thought “Mises liked the report; he said it was ‘very interesting.’” In it, Rothbard discussed how free-market competition among banks limits credit expansion, a topic he mentioned in his sample money chapter. Rothbard believed that “the economic analysis is pure Mises, but the political conclusions differ,” particularly regarding whether fractional-reserve banking was fraudulent. But Rothbard noted that in his comments that Mises “gave special mention to the distinction, which I found in [William Stanley] Jevons, between a ‘special deposit warrant’ and a ‘general deposit warrant,’ which he said derives from old Roman law.” A couple of years later, Mises commented on a pamphlet Rothbard wrote for the Foundation for Economic Education titled “Money, Free and Unfree.” Mises declared that Rothbard had “succeeded rather well in giving to the general reader a correct interpretation of the intricate problems involved. . . . There is little doubt that Dr. Rothbard’s draft can provide the discriminating layman with knowledge that no other available publication could furnish.” However, Mises considered Rothbard’s “plan for a reform of the American currency and banking system . . . unworkable.” Although Rothbard disagreed with his mentor over the legal aspects of banking and his plan for returning to the gold standard in the 1953 edition of The Theory of Money and Credit, there is no question that very early in his career he demonstrated strong command of Mises’s monetary economics.

Rothbard’s immersion in Mises’s monetary economics set the stage for explaining in his textbook how prices on individual markets adjust to changes in the data. In his chapters on money and prices in Human Action, Mises failed to expound the causal process by which individual prices actually adjust. It was left to Rothbard to fully develop this realistic theory of price formation that undergirds Mises’s monetary adjustment process.

The Praxeological Method

When writing his monetary chapter, Rothbard made skillful use of the praxeological method. Moving beyond Columbia’s methodological hodgepodge of positivism and institutionalism was essential to writing a textbook that presented Mises’s theoretical system, especially price theory, as a step-by-step deduction of the implications of human action and several broadly empirical postulates.

Rothbard explained to the Volker Fund how he could use the praxeological method in his textbook to derive the general laws of human behavior. He “realized that it is possible to begin with one simple, self-evident assumption: human existence, and deduce all propositions in economics from it. The essence of human existence is human action, and once action is defined, all further economic truths can be deduced by logical implication.” Because the purpose of his textbook was to develop economic theory and not discourse on finer points of method, Rothbard restricted his discussion of methodology to journal articles and presentations for the Mises seminar. This allowed him to engage with the economics profession on current techniques regarding the testing of theories and measurement of economic phenomena.

One of his first discussions of the relationship between the praxeological method and empirical testing concerned a negative review of Human Action in the 1950 volume of the American Economic Review, one of the profession’s leading journals. The critic was George Schuller, who criticized Mises’s praxeological method and a priori epistemology. Fresh from writing a laudatory review of Human Action for Frank Chodorov’s analysis, Rothbard defended Mises’s approach and stated its tenets in a comment and then in a reply after Schuller responded. That the journal published Rothbard’s remarks shows that one of the discipline’s leading outlets valued what he had to say on the matter. In his comment, Rothbard emphasized the simple “test of observation” required for the action axiom, the disutility of labor, the variety of resources, and other axioms. “The important consideration,” Rothbard continued in his reply, is that obtaining knowledge of the axioms requires “certainly a different type of ‘empiricism’ from the study of historical events and is definitely ‘a priori’ to those events, and that such a situation has no parallel in the physical sciences.”

These remarks reveal an important point: Rothbard, who adhered to an Aristotelian perspective stressing that knowledge can only be learned from the apparent facts of experience, could still readily defend Mises’s neo-Kantian perspective, which argued that humans can know certain phenomena without reference to the external world. Indeed, Rothbard had sent Mises a copy of his comment before it was published, expressing doubt that the American Economic Review “will print it,” while proudly proclaiming that he “tried as best [he] could to answer Schuller’s fallacious statements.”

No record exists of Mises’s response, but Rothbard apparently impressed his mentor enough to earn the opportunity to present on methodology at the nyu seminar. In November 1953, Rothbard presented “The Methodology in Gunnar Myrdal’s Monetary Equilibrium,” showing he had come a long way from Ernest Nagel’s positivist strictures against institutionalism. In his 1939 book, Myrdal criticized institutionalism and praxeology, which he described, respectively, as “naïve empiricism” and “classical scholasticism.”  Rothbard approved Myrdal’s “cogent criticisms” of institutionalism, which were similar to Nagel’s remarks, but also attacked Myrdal’s positivism along Misesian lines. Rothbard summed up Myrdal’s methodological stance as follows: “abstract theory is first formed, then is organized and systematized, asks questions of the data, and then if the observed answers contradict or are not consistent with the theoretical questions, these questions must be altered so as to contain elements of the answers and be consistent with them.” Rothbard trenchantly described Myrdal’s position as “a bald, stark assertion of the position of most present-day economists. On the one hand theory is upheld, against the fact-grubbers. On the other hand, empirical fact still reigns sovereign.” Rothbard criticized Myrdal, and hence his former teacher Nagel, for failing to realize that “the complex structure of economic theory” can be deduced from “the existence of human action” and “a very small number of very broad ‘observations’ . . . such as variety of skills, and resources.” No empirical testing is needed.

In his notes on this session of Mises’s seminar, Rothbard indicated a favorable reception of his presentation by Mises, who thought Myrdal “typical of methodological confusion of eco. textbooks (theory plus verification by fact, etc.).” Rothbard also revealed that “Mises conceded my point that the axioms of the science of human action are observed, but disagrees with [John] Locke that it must be sense-observation. OK to use term observation so long as not strictly sensate.” This comment once again indicates the absence of conflict between Rothbard’s Aristotelian and Mises’s Kantian understanding of the nature of economic axioms.

Shortly thereafter, Rothbard wrote a memo for the Volker Fund in which he evaluated a proposal for a seminar at the University of Southern California based on Stigler’s textbook The Theory of Price. It was the first of Rothbard’s many attacks against the Chicago School for failing to appreciate Austrian economics. He noted that his former professor attempts to inject into economic theory “greater ‘realism’ by empirical research and testing.” This approach especially weakens the book “in the really crucial areas of theory.” Rothbard gave the example of Stigler’s analysis of the law of returns—there exists an optimal amount of the variable factor of production that maximizes average product—as emblematic of Stigler’s faulty method. Stigler dismisses the “a priori” proof that deduces “the law from self-evident propositions” as “essentially tautological.” Instead, he refers to the empirical proof and how “no one has discovered any important exceptions to the doctrine.”  Rothbard described this as “extremely weak” because “instead of generalizing the old classical view of labor and capital applied to land, Stigler abandons reasoning altogether and resorts to an irrelevant ‘empirical proof.’” 

Rothbard’s most telling defense of deducing economic theory from self-evident axioms was his critique of a 1955 essay by the positivist Fritz Machlup and the subsequent discussion between Machlup and Terence Hutchison. Machlup, an associate and admirer of Mises, subtly tried to homogenize him with the mainstream position by arguing that “all the proponents of pure, exact, or aprioristic theory,” particularly Mises, adhered to John Stuart Mill’s method and do not “propose to put the assumptions of economic theory to empirical tests, but only the predicted results that are deduced from them.” Rothbard recognized that Machlup’s position, which he described as “the assumptions need not be verified so long as their deduced consequents may be proven true,” contradicted Mises’s actual views. Defending the praxeological method, Rothbard stated that economic theories can be deduced “as absolutely true” from a “tiny handful of premises . . . [which are] so generally true as to be self-evident, as to be seen by all to be obviously true once they are stated, and hence they are not in practice empirically falsifiable.” This means that “the theorems and conclusions deduced by the laws of logic from these postulates are therefore absolutely true [and] there is consequently no need for empirical ‘testing.’” Once again, Rothbard emphasized that the praxeological method does not rely on empirical data in the same manner as the positivist method.

Significantly, Rothbard saw the article not only as a defense and clarification of Mises’s position but as an attempt to advance his mentor’s methodology “by an expansion and elucidation of the axioms and postulates of praxeology.” In July 1956, Rothbard sent the “Machlup–Hutchison interchange” and his comment to Mises, expressing “hopes that it might be published.” The following month, Rothbard mentioned its forthcoming publication and reported that “Mises was very complimentary about the article.” After the publication of the article, the Austrian Ludwig Lachmann wrote to Rothbard and stated that although “as to your positive doctrine I have some misgivings,” he was “delighted” with his paper because he “thought your exposition of the differences between Hutchison and Machlup was brilliant.” The economics professor John V. Van Sickle, a friend and admirer of Mises, praised Rothbard’s article as “the best short statement of the Misesian position I have ever read.”

While defending the praxeological method against empirical methods, Rothbard delivered reports at Mises’s seminar that criticized new attempts to mathematically model and measure the economy. Such procedures were a striking contradiction to the qualitative nature of praxeological theorems. A month after the Myrdal critique, Rothbard presented on “Gerhard Tintner’s ‘Econometrics’” and criticized Tintner’s attempt to construct supply and demand curves using “mathematical economic models.” Following Henry Schultz, another pioneer of econometrics, Tintner sought to discover the constant “numerical estimates” in history, such as price elasticity, that could be used to construct modern-day supply and demand functions. For example, based on data from 1919 to 1941, Tintner estimated that the constant price elasticity of demand for meat was −0.47, meaning that every 1 percent increase in the price of meat induced about a 0.5 percent reduction in quantity demanded. This matters for the present day because “if conditions are assumed to be the same, the price elasticity can be considered the same today” and the econometrician could then construct a demand curve that could “predict the numerical results of different policies . . . and . . . estimate the effect of a tax or subsidy for meat.”

Rothbard pointed out multiple problems in Tintner’s econometric modeling. First, the supposedly constant elasticities were subject to a large degree of error. Tintner’s meat elasticity is only statistically significant at “95% confidence limits” between price elasticities of −0.71 and −0.24. This means that a 1 percent increase in the price of meat may cause anywhere between roughly a 0.24 and 0.71 percent decrease in the amount purchased, a result not very useful for government policymaking. Second, even if the elasticities were accurate, they could not be used to construct a demand curve. Tintner derived the price elasticity of meat from statistics that only showed “the intersecting point of the market supply and demand curve.” This temporal series of exchanges will yield a demand curve “only if the demand curve is considered to be constant over” the twenty-year period. But “there is no warrant for assuming that the curve is constant” because preferences, incomes, expectations, and other factors mean that it is “changing continually.” Third, whatever demand curve that could be constructed was highly unrealistic because it had only one elasticity regardless of the price. In reality, demand curves are jagged and “elasticity changes for each price,” with alternating stretches of elasticity and inelasticity. Tintner’s demand curve was thus irrelevant and would not be useful for measuring what he wanted it to.

Rothbard criticized other modeling literature in his 1956 presentation on the National Bureau of Economic Research’s Input-Output Analysis, a study spearheaded by the work of Wassily Leontief. Rothbard recognized input-output analysis as “staunchly econometric” and “an attempt to arrive at a statistical estimation of the mathematical equations of [Léon] Walras’ general equilibrium.” To attain his goal, Leontief, the creator of this analysis, had to make “some drastic simplifications” in the Walrasian system of simultaneously determined prices. These included reducing the number of equations for each commodity into a few industrial sectors, dropping supply equations for land and labor and demand equations for consumer goods, and assuming that each “sector’s purchases from every other sector are technologically related, in fixed proportions, to the buying sector’s level of physical output.” With these “fallacious assumptions,” the “given level of consumer demand uniquely determines all physical outputs in all industrial sectors.”

Rothbard immediately pinpointed the major problem with this approach. By invoking the fixed proportions assumption, Leontief and his followers in effect homogenize the multitude of producers’ goods into one primary resource. This enormously simplifies the economic problem to one of minimizing the amount of the homogeneous resource used per unit of any output. Thus the “estimated equations, if they were accurate, would determine the physical level of output in each and every sector.” There would hence be no need for prices, “especially prices of producers’ goods,” nor other market phenomena such as “entrepreneurship, etc.” But the price system is absolutely indispensable in allocating scarce and differentiated resources to their most highly valued uses. Input-output analysis was a striking example of how attempts to model the Walrasian system are irrelevant for understanding real-world economic phenomenon.

Rothbard’s remarks demonstrate his knowledge of the praxeological method and how it can be distinguished from competing methods. The correct procedure for economic science is to deduce absolutely true and qualitative laws from the action axiom and subsidiary self-evident assumptions. False assumptions cannot form the basis of economic theory, which does not need to be tested on the basis of its predictive power or some other measure. Quantitative models prioritize mathematical sophistication over understanding economic principles that explain the real world and are not useful for economic theory. The budding economist had demonstrated to Mises and others that he had taken his place as a leading proponent of Misesian praxeology and was a methodologist to be reckoned with.

Reconstructing Utility Theory

The proficiency in the praxeological method that Rothbard gained while writing his money chapter and critiquing alternative methodologies served him well in writing his textbook’s chapter on value theory, the logical antecedent of price theory. Assuming a great deal of basic economic knowledge on the part of the reader, Mises only offered a skeletal outline of the theory in Human Action, discussing the law of marginal utility and the general pricing process in fewer than fifteen pages. It was time for the protégé to fill in the mentor’s missing chains of reasoning by deducing the Austrian theory of value and price from the action axiom and other realistic assumptions in a step-by-step manner.

Rothbard started to write his textbook in January 1952, tentatively titling it “The Principles of Economics.” In a May letter, Rothbard indicated that he was beginning to develop his “utility and value-scale analysis.” He reiterated that he was using the praxeological method, explaining how “the divisions of economics are all tied in with each other—more than most economists realize—and are all deduced from the fundamental praxeological assumptions.” There is little doubt that Rothbard consciously followed this rigorous axiomatic-deductive method when deriving his theoretical edifice. Indeed, Rothbard wanted to revise his sample money chapter because “any chapters that are worked out in isolation from this network [of logical deductions] are likely to be revised after the network is developed step-by-step.” 

In his manuscript for his textbook’s chapter 1, “Fundamentals of Human Action,” Rothbard showed how the “concept of action” and the desire to satisfy ends implied a “scale of values, or scale of preferences,” which in turn led to “further implications” regarding the valuation of means, or goods, that can satisfy various ranked ends. He used this means-ends framework, which was absent in mainstream indifference curve analysis, to establish the “Law of Marginal Utility”—an increase in the supply of a good by one unit leads to a lower utility ranking for the added or marginal unit because it satisfies a lower-ranked end. Rothbard recognized the supreme importance of this demonstration: “this fundamental law of economics has been derived from the fundamental axiom of human action.” 

In a letter in September 1952, Rothbard compared his findings with the current state of “utility theory,” which he had “become greatly interested in.” Neoclassical theory split along “two main deviations” from Mises’s important insight of marginal “utility as only ordinal, not measurable.” The first and older group harkens back to Jevons and Marshall by assuming “measurable utility”—that is, cardinal utility. The second deviation follows John R. Hicks and “toss[es] out [marginal] utility altogether in favor of ‘indifference curves.’” The latter group, dominant in the neoclassical synthesis, properly purged utility analysis of cardinality. At the same time, however, it jettisoned the concept of utility preference rankings, which meant that it jettisoned the means-ends framework, which actually explained why actors value goods.

In his appraisal of utility theory, Rothbard did not dismiss the profession in toto. Ever the indefatigable researcher looking for new insights from doctrinal history, Rothbard discovered the “promising” work of Harro F. Bernardelli, admittedly a mathematical economist but one who made “pure Misesian [assumptions] in this basic utility area.” In a series of papers and exchanges spanning roughly fifteen years, Bernardelli defended the concept of ordinal marginal utility against Paul Samuelson, who argued marginal utility required cardinality and therefore the economics profession should adopt the indifference curve framework. Rothbard’s respect for Bernadelli was evident when he recounted “one of Bernardelli’s great feats.” When Samuelson criticized an article of Bernardelli’s on marginal utility, “Bernardelli mopped the floor with him—in Samuelson’s favorite field of mathematical economics.” In a later letter the following year, Rothbard praised a contemporary article by the former Misesian Lionel Robbins because he still “sets forth some Misesian methodology” and “implies that he learned all about ordinal utility from Mises.”

Rothbard’s research for chapter 1 led him to read widely in contemporary histories of the ordinal utility approach of the Austrians, particularly the work of Emil Kauder. According to Rothbard, Kauder “demonstrates very effectively” that Austrian utility theory derived from the ideas of seventeenth- and eighteenth-century Italian and French economists who preceded Adam Smith and David Ricardo, whose theories of value actually “set economics back for 100 years” in the “vital value-sphere” and influenced Alfred Marshall’s fallacious approach to pricing. Rothbard went so far as to state that “no more worthwhile project in the economics field” existed than Kauder’s plan to write a full-fledged history of marginal utility theory.

Rothbard’s extensive reading in the utility literature inspired him to extend the ordinal law of marginal utility to its corollary “law of total utility”—an actor ranks a larger sized unit of a good higher on his value scale than a smaller sized unit. He decided to expound the logical relationship between the two laws in “A Note on Marginal and Total Utility,” which he wrote in 1954. The paper contributed to the ongoing dialogue between Bernardelli, Samuelson, and others by clarifying the relation between “the concepts of marginal and total utility” using the praxeological method—that is, “the classical method of verbal logic.” Mises had previously demonstrated this relationship, but the economics profession ignored his insights.

As Rothbard pointed out, “lured by the calculus, economists have treated ‘total’ utility as an integral of the marginal utility, and therefore they conclude that, e.g. the marginal utility of a unit with a supply of six units, is equal to the ‘total utility’ of six units minus the ‘total utility’ of five units,” which logically implies that marginal utility is a quantifiable entity. Thus, once economists abandoned the cardinality concept, they discarded marginal utility altogether. But Rothbard explained that this was an incorrect step. Assuming that the economist is analyzing “an ‘economic’ good and therefore an object of desire by the individual . . . it follows that a man will always value two units higher than one unit.” Therefore, “the marginal utility of a single, larger unit, of a good is always higher than the marginal utility of a single unit of a smaller size,” and “there is no relationship whatever between the marginal utilities of one unit at different supplies, and the marginal utilities of single units of varying size . . . except an obvious ordinal one.” The ordinal law of total utility is simply an application of the ordinal law of marginal utility to units of different sizes of a homogeneous good.

One of the most important aspects of Rothbard’s analysis was his ordinalist reinterpretation of the meaning of marginal: “Instead of infinitely small unit, it means relevant unit. Any relevant unit, whether large or small, is marginal.” Although this conceptual revision was put forward by both Mises and Bernardelli, it was “still virtually revolutionary,” and to Rothbard goes the credit for trying to bring it into contemporary economics discourse.

Significantly, because of the misperception that marginal utility is inherently cardinal, “economics has been largely deprived of what the present writer believes to be the correct theory of consumer demand, one based on ordinal marginal utility.” In other words, fallacious reasoning in the field of value theory led to further errors in price theory. As a practitioner of the step-by-step, praxeological method, Rothbard clearly recognized that economics required the correct theory of marginal utility based on the means-ends relationship to properly deduce the theory of pricing.

In September, Rothbard sent his paper to Mises and informed him that he submitted it to the journal Economica “in hopes that they will publish it.” While Mises did not send Rothbard back any comments, he highly esteemed the work that built upon his advances in utility theory. Many years later, Israel Kirzner recalled a “September 1954 evening” when Mises read Rothbard’s paper and “found [it] to be excellent. He briefly but warmly complimented Murray on that piece of work, and expressed the hope and the prediction that Murray would continue to produce a great deal of future work of similar excellence.” Unfortunately, despite Mises’s praise, the mentor’s old prediction that the journals no longer would accept a “good economics article” proved to be true. In a November letter Rothbard stated that “Economica sent my article back ‘with reluctance’” because they “decided not to print any more articles on the subject [of utility theory] for a while.”

He experienced a similar setback with “Welfare Economics, Ethics and Governmental Policy,” a paper that built on his earlier understanding of Mises’s general welfare analysis presented in his sample money chapter. In May of that year, Rothbard submitted it to the high-ranking Journal of Political Economy, which was published by the University of Chicago. The editor of the Journal of Political Economy, Earl J. Hamilton, found the manuscript “interesting and well done in many respects” but rejected it “owing to the large mass of material on hand.” These rejections constituted Rothbard’s first real setbacks in publishing articles and portended the growing difficulty he would face in communicating Misesian insights to the economics profession.

Instead of editing his utility and welfare papers to resubmit to other journals, Rothbard combined them into an article for an upcoming Mises Festschrift. He titled it “Toward a Reconstruction of Utility and Welfare Economics.” In this paper, Rothbard elaborated on his criticisms of contemporary utility theories and explained why Mises’s remained the most accurate depiction of how individuals value goods. In doing so, Rothbard presented his own advancements and improved upon the Misesian approach.

One of his prime targets was Hicks, whom Rothbard believed changed utility theory for the worse. In his classic exposition in Value and Capital, Hicks declared that to reject “all concepts which are tainted by quantitative utility . . . the first victim must evidently be marginal utility itself.” Rothbard showed that Hicks was in error because of Mises’s ordinalist theory of marginal utility. Rothbard then discussed Hicks’s replacement, “the concept of indifference classes.” This approach to utility theory hypothesizes rankings of various bundles of two goods between which the individual is indifferent. Marginal utility rankings are absent and there is no reference to the individual’s ranking of ends on his value scale and its causal relationship to the ranking of goods. With the Misesian insight that every choice demonstrates a preference, Rothbard exposed the fallacy of this approach: “indifference can never be demonstrated by action. . . . Every action necessarily signifies a choice, and every choice signifies a definite preference.” Therefore, indifference can play no fundamental role in a utility theory grounded in the basic fact that individuals value the goods they receive more than the goods they give up because the former satisfy a higher-ranked end.

Rothbard’s article caused little splash in the economics profession, but the small Austrian community praised it. Rothbard learned of Trygve J. B. Hoff’s “flattering remarks,” and Ludwig Lachmann confided that he read the paper a second time and “liked it even better than the first time; all you say is exactly the kind of thing that needs saying.” Lachmann was also “glad to note” that Hicks’s recent work, A Revision of Demand Theory, was “giving up indifference curves for the reasons you mentioned, and is merely postulating scales of preference.” Most importantly, Mises approved Rothbard’s indifference curve analysis and included it in his revised second edition of Human Action. In the original edition, Mises wrote that one of the “fundamental principles of the theory of value” is that “action always means preferring and setting aside; it never means equivalence.” In the revised edition, Mises now wrote that “it never means equivalence or indifference,” a clear recognition of Rothbard’s contribution.

Rothbard thus rescued Misesian utility theory from oblivion and showed how starkly it contrasted with theories of consumer choice not deduced from the action axiom. In fully developing this ordinal theory of marginal utility in chapter 1, Rothbard emphasized a key point about the means-ends relationship in Mises’s exposition. Means are never directly ranked and valued by the actor in vacuo, as is the case with the mapping of indifference curves; rather, the marginal utility and value of all means, including consumer goods, are completely dependent upon the ranking of the ends the actor intends them to serve. This recognition meant that Rothbard firmly rooted the law of marginal utility in the action axiom. His achievement set the stage for future deductions of even greater importance.

Pricing in a Barter Economy

Armed with a Misesian theory of marginal utility, Rothbard proceeded to deduce the theory of demand. This, in turn, enabled him to construct a realistic theory of pricing that did not require perfect information among market participants. In other words, he elucidated the equilibrating forces of the free market and how prices actually changed, an adjustment Mises only assumed in his monetary transmission mechanism.

After his utility analysis in Human Action, Mises referred only to his own mentor, Eugen von Böhm-Bawerk, as the source of the “modern theory of value and prices.” He considered Böhm-Bawerk’s “masterful expositions . . . essentially irrefutable. As far as they need to be amended, it must be done by a consistent elaboration of the fundamental thoughts of their authors rather than by a refutation of their reasoning.” But Mises never undertook this task of elaboration and failed to analyze price formation in his treatise, thereby leaving a gap in the praxeological edifice for his young protégé.

Rothbard set out to repair this lacuna in chapter 2, “Economics of the Unhampered Market: Direct Exchange,” which he completed by April 1953. He planned to use “logical derivation from the fundamental assumption of human action in order to explain the determination of all prices in interpersonal exchanges.” This undertaking consumed the vast majority of the chapter, as Rothbard built his price theory on the insights of Böhm-Bawerk and other economists in the Austrian tradition, particularly Carl Menger, Frank Fetter, and Philip H. Wicksteed.

To explain the formation of prices, Rothbard needed to define the preconditions of exchange between two or more individuals. In contrast to chapter 1, which focused on “the actions of isolated individuals,” chapter 2 considered “interactions between individual human beings.” Rothbard explicitly stated that he was going to first analyze exchange and the “workings of a society based purely on voluntary action, entirely unhampered by violence.” Then, after analyzing “the laws” that elucidated pricing and production on the free market, the textbook’s later chapters would analyze actions “based on violence or threat of violence”—that is, the government. This approach was essential to spelling out the Misesian implications of human action because the economist first needs to understand how the market works before elucidating the ways in which government intervention alters the network of exchanges.

Beginning his analysis of the free market, Rothbard derived the downward-sloping buyer’s, or “exchange,” demand curve for horses using the “Law of Marginal Utility . . . as a man’s stock of goods increases the marginal utility of each unit declines.” He showed that for an individual demanding horses by exchanging fish, because additional horses will be used to satisfy successively lower-ranked ends, “the marginal utility of the additional horse will be less than the utility of the first one . . . result[ing] in lower maximum-buying prices for each successive horse bought.” This, in turn, implies that quantity “demand[ed] must either increase or remain unchanged” as the price in terms of fish decreases.

Rothbard’s derivation of the law of demand was a highly important accomplishment: he filled in a gap in Human Action’s theoretical system by showing how Mises’s means-ends framework and marginal utility theory logically imply an apodictically downward-sloping exchange demand curve. This contrasted with the neoclassical indifference curve approach, which abstracts from the causal relationship between the rankings of ends and means when constructing a demand curve and admits the theoretical existence of upward-sloping demand curves.

Rothbard extended his demand analysis to the case of the seller’s “reservation demand,” or his “demand to hold stock,” an analysis originated by Wicksteed. From this perspective, the supply curve of horses can be represented as a demand to retain possession of the horse. A lower price of horses causes the individual to increase his quantity demanded to hold horses either for his own consumption or for sale at an anticipated higher price in the future. In either case, the horse has a higher marginal utility ranking than the fish that would be received. Thus, the ordinal marginal utility theory also leads to a downward-sloping reservation demand curve. With the exchange and reservation demand curves combined, the market for horses can be represented with a vertical line for the fixed stock of horses and the downward-sloping total market demand curve.

This Wicksteedian “total demand-stock analysis” abstracts from production and thereby “focuses more sharply on the fundamental truth that price is determined solely by utility. . . . The supply curve is not based on some sort of ‘cost’ that is independent of the utility on individual value-scales.” This insight is crucial to the development of a realistic theory of price equilibration on the free market. For prices are always determined in the immediate run—that is, after goods have already been produced and exist in sellers’ inventories awaiting exchange.

Rothbard then showed how the horse market reached its equilibrium price when individuals are “liable to error” and trades occur at non-market-clearing prices. In such an uncertain world, entrepreneurship, or to “act speculatively,” guides the market. By making the realistic assumption that market participants can recognize errors and adjust their behavior, Rothbard describes how, given the total demand and an already produced stock, “the approach to equilibrium takes place through actual purchases at the various prices.” First, sellers “use [their] judgment in estimating the market price” and sell their stock at the price expected “to be the greatest that they can attain.” They will often err in their initial estimations and set prices too high or too low. Then, speculative exchanges at “provisional resting point[s]” and sequential “revelation[s] of error” occur. “The shortages or the surpluses reveal the over-bidding or under-bidding” and sellers realize their mistakes and change their course of action. Furthermore, the “growth of specialized speculation”—that is, that some market participants adapt more quickly than others—“improve[s] forecasts.” The revisions change the market price until quantity demanded is equal to quantity supplied. At this point, remaining exchanges are made and “the market for this good has come to a close. . . . There is no longer an active ‘ruling market price’ for the good.” Imperfect estimates thereby set in motion a correction process that causes individuals to revise their forecasts and push the market to the equilibrium price and quantity of exchanges.

Markets that close are often reactivated and “renewed.” This occurs because of new demand or new stock is brought to the market, which results from “a change in the relative position of the two goods under consideration on the value scales.” The new market conditions may “set a different quantity of exchanges at the old equilibrium price,” a different quantity of exchanges “at a new price,” or “the same quantity of exchanges and same price as on the old market.” “In those cases where the market does not arrive at equilibrium before supply or demand schedules themselves change,” the market becomes “continuous, moving toward a new equilibrium position before the old one has been reached.” In these markets, the changing data means that the equilibration process does not end and buyers and sellers keep revising their forecasts and modifying their behavior. In markets where the schedules are given and do not change, however, “a market tends quickly to ‘clear itself’ by establishing its equilibrium price.”

Rothbard thus used the praxeological method to deduce the law of price formation in an economy without government intervention. After proving that demand curves always slope downward, Rothbard fleshed out the orderly pricing process of the free market, explaining how error and changing market conditions lead to price adjustments and a clearing of the market. This logical analysis was something that Mises only implied in his price theory. Rothbard, however, spelled out the analysis, thereby demonstrating his mastery of Misesian economics.

Pricing in a Monetary Economy

Rothbard was not content to rest there; a realistic theory of pricing required the inclusion of money. Up to this point, Rothbard assumed a barter economy where individuals only exchanged goods for direct use. He was now ready to take “demand and supply analysis of money” and integrate it “into the utility system” by rewriting his sample money chapter into three new chapters on money. This elaboration would allow Rothbard to analyze a “large variety of topics” relating to money, particularly “prices, incomes, the value of money, interest, profits, costs, calculation and the market, etc.” Rothbard needed to fully integrate his analysis with the previously deduced utility and price theories because “most existing textbooks tend to present this material in a series of disconnected chapters, and the effect is to fail to present an adequate analysis.” “The various parts of economic analysis,” Rothbard concluded, “can only be correctly presented and fully comprehended as integral parts of a total picture,” and this included joining together monetary and price theory.

Even the Austrian economists before Mises neglected money. In the Mises seminar from the end of 1952 to early 1953, Rothbard records his mentor stating that “Jevons, Menger, [and] Bohm-Bawerk [sic], generally neglected dealing with money,” and “Walras also was of mixed virtues on money.” They believed that “marginal utility theory . . . does not hold true for money; the marginal utility of money does not decrease” as its supply increases. These economists “in the great revolution of marginal utility doctrine” asserted that “to search for economic reality, they must ‘remove the veil of money’ over the reality.” They did not realize, Rothbard recalls Mises as stating, that “this ‘veil’ has its own rules and laws which must be dealt with,” and “there are in the market effects that are only due to money.” Rothbard realized that his textbook would need to elaborate upon Mises’s theories concerning the marginal utility of money and make sure that his price theory included it.

In chapter 3, titled “The Pattern of Indirect Exchange,” Rothbard explained “the various defects of a system of direct exchange” and “the process by which a medium of exchange develops on the market.” Understanding the differences between barter and indirect exchange is crucial, for money is not a veil: “direct exchange . . . leave[s] very little scope for the market or for production” while money facilitates the “splitting of production into minute branches.” This is because money allows for calculation—the computation of revenues, costs, profits, and losses—an essential tool for the “investor-producer”—that is, the “entrepreneur” who needs to use “personal judgment” to forecast the future and avoid production errors. The entrepreneur needs “to keep a rather fine account of whether his estimates were correct, and moreover, how far they erred.” Therefore, the entrepreneurial judgment that money enables constitutes an essential precondition for the existence of multiple production stages and complex and interconnected markets. Contrary to writers who wish to “analyze direct exchange only and then to insert money somewhere at the end of the analysis,” the economist must analyze an economy in which money is exchanged for goods and services.

Rothbard then used his utility analysis to describe the “principles of [money] allocations in accordance with individual value-scales.” He showed that an individual allocates his money on the basis of the marginal utility of consumer goods that satisfy present ends, producer goods to satisfy future ends, or a cash balance that deals with the uncertainty over how and when to spend money. These are the “three and only three ways” to allocate money, and for a given unit of money, he will choose whichever option has the highest marginal utility ranking and satisfies the most highly ranked end. As the individual spends additional equally sized amounts of money, the marginal utility of each successive unit will decline “because each further unit spent will be devoted to less urgently desired” ends. “It is in accordance with these principles,” Rothbard concludes, “that each man will allocate his money stock.” Rothbard had thus shown how the allocation of money follows Mises’s ordinal law of marginal utility, like the allocation of all other goods.

Rothbard then integrated these monetary principles into his price theory in chapter 4, titled “Money and Prices,” which he described as dealing “with the crucial concept of money-prices . . . in all their ramifications.” He applied his earlier deductions from chapter 2 to derive “supply and demand schedules,” “money-prices,” and the equilibration process. He easily extended the law of demand to a monetary economy: an individual ranks the marginal utility of units of a good—say, butter—and the marginal utility of units of money. At a lower money price of butter, the buyer will purchase an equal or greater amount of butter because the additional unit of butter satisfies lower-ranked ends. “Because of the law of utility,” Rothbard concludes, “an individual demand curve must be either ‘vertical’ as the hypothetical price declines, or else rightward-sloping.” It can never be “leftward-sloping.”

At the same time, the demand for butter is interrelated with the demands for other goods because the sum of money could purchase other goods of higher value. “On the basis of his utility scale,” the consumer “will spend money on each particular good until the marginal utility of adding a unit of the good ceases to be greater than the marginal utility that its money price on the market has for him.” Rothbard terms this “the law of consumer action in a market economy.” An individual will only spend money on butter if the marginal utility of the additional unit of butter is greater than the marginal utility of the forgone unit of money. In addition, the fact that all consumers’ goods are “partial substitutes for one another” and compete for an individual’s money balances means that “the more substitutes there are available for any given good, the more elastic will tend to be the demand schedule . . . for that good.” Rothbard calls this “the law of the interrelation of consumers’ goods.” This means that as the supply of consumer goods increases in the economy, the demand curves for goods tend to become more sensitive to changes in price. Rothbard credits his analysis of “the substitutive interrelations of consumers’ goods” to Wicksteed.

Rothbard then investigates what happens when the demand or the supply of a given good—say, good A—changes. “When we realize that the demand schedules are determined by individual value scales and . . . a rise in the marginal utility of [good] A necessarily means a relative fall in the utility of other consumer goods,” an increased demand for good A results in a higher price of A and causes individuals to devote less money to lower-ranked ends. This “lead[s] to decreased demand schedules and falling prices for goods B, C, [and] D.” If goods B, C, or D are complements “whose uses are closely linked together” with good A, then the demand for those goods will increase because they are part of the same “consumption ‘package.’” If the supply of good A changes, the demand for complements moves in the same direction, but the ultimate effect on the demand for substitutes depends on whether the demand for good A is inelastic or elastic, because the elasticity determines how much money will be spent on good A and hence how much money can be spent on other goods. If the demand for good A is inelastic, for example, then a decrease in the supply of good A causes individuals to spend more on good A and less on substitute goods B, C, and D.

Rothbard’s analysis leads to two important results. First, determining whether goods are substitutes or complements with other goods is not a simple positive or negative price relationship as argued by standard neoclassical theory. On the contrary, in the previous example, substitute goods have an inverse relationship between their prices because a decrease in the supply of a good along an inelastic demand schedule actually decreases the demand for substitutes. Second, a change in the price of one good sets in motion a new equilibration process that revolutionizes the demand for other goods and hence the entire structure of money prices. Supply and demand in one market are not hermetically sealed off from supply and demand in other markets. These conclusions come from recognizing that individuals rank “values for goods and money” on the same value scale according to the principles of marginal utility.

Rothbard finished his analysis of “the marginal utility of money” in chapter 7, on money, completed by October 1955. He placed this chapter after two chapters on production theory. In writing chapter 7, he elaborated on many important concepts discussed in the sample money chapter he wrote for Mises. Most fundamentally, he applied Wicksteed’s total demand-stock framework to money. Rothbard derived the “exchange demand for money (by sellers of all other goods that wish to purchase money)” and “reservation demand for money (the demand for money to hold by those who already hold it).” In conjunction with the money stock, the “total demand for money” determines the ppm. This “value-array of money” is a list of the various goods money can buy and “has no uniquely expressible unit.” Therefore, changes in the ppm cannot be measured by a “single ‘price level.’”

With the total demand-stock analysis for money, Rothbard shows how, as a result of alterations in the supply or demand for money, “the movement of prices from one equilibrium position to the next will not take place smoothly and simultaneously.” Changes “occur in step-by-step fashion. . . . Some people react more quickly than others [and] movements of prices will differ in the speed of reaction to the changed situation.” The first receivers are “the greatest gainers” because their selling prices rise before their buying prices rise, while the last receivers are “the greatest losers.” When the adjustments do not affect time preferences or the supply of resources the “approximate first half of the recipients of the new money are exactly counterbalanced by the losses of the second half.” For this reason, “there is no social utility in an increased supply, nor any social disutility in a decreased supply, of money. This is true for the transition period as well.” Changes could lead to a “permanent shift in general time preferences” and thereby influence the production of consumer goods, but this could occur in either direction. Furthermore, the supply of resources could increase under a system of commodity money: “an increase in gold is socially useful . . . [if] it makes possible an increase in the nonmonetary, direct, use of gold,” but in this case the new gold does not increase the money supply per se.

Significantly, chapter 7 contained the “Determination of Prices: The Goods-Side and Money Side,” “a brief but important section weaving in the various analytic strands determining prices on the market.” In this section, Rothbard showed how the prices of individual goods, determined by the total demand and stock for each good, and the purchasing power of money, determined by the total demand and stock for money, “blend together.” The stock of money, the stocks of goods, the reservation demand for money, and the reservation demand for goods are “the ultimate determinants of the ppm” and hence the array of individual prices. When the stock of money or the reservation demand for goods increases, the prices of goods will rise and the ppm will fall; when the stock of goods or the reservation demand for money increases the prices of goods will fall and the ppm will rise. “Thus,” Rothbard states, “the ultimate determinants of the ppm as well as of specific prices are the subjective utilities of individuals and the given objective stocks of goods.” This is the “Austrian-Wicksteedian theory of price [applied] to all aspects of the economic system.”

This integration of the determination of the prices of goods and of money is significant because it means that “no longer is there need for an arbitrary division between barter-type analysis of relative goods-prices and a holistic analysis of the ppm.” The supply and demand for an individual good is related to the supply and demand for money and vice versa. “If the stock of money increases,” for example, “whether we treat one good or all goods, the price or prices will increase, ceteris paribus.” Moreover, the intricate connection between the supply of and demand for goods and the supply of and demand for money means that “money can never be neutral. . . . And one set of conditions” that changes prices, such as an increase in the stock of money, “can never precisely offset another set of factors,” such as an increase in the reservation demand for money. A change in the stock of goods or money, or in the reservation demand for goods or money, sets in motion processes that cause the entire constellation of individual prices and production to adjust.

Thus, by the mid-1950s, Rothbard used the praxeological method to deduce, step-by-step, the laws of utility, the pricing of consumer goods, consumer choice in a monetary economy, and the pricing of money and demonstrated how they were all related. The rapid progress in Rothbard’s writing of chapters 1 to 4 and chapter 7 show Rothbard’s enormous intellectual evolution since Columbia. Discovering Mises and reading Human Action enabled him to identify the deficiencies in his neoclassical training. Rothbard then discarded this framework and embraced Mises’s praxeology, quickly mastering it by elucidating his mentor’s deductions and filling in gaps in Mises’s system with his own deductions.

He would continue this procedure when tackling production theory in chapter 5. A relatively undeveloped component of Mises’s system, the analysis of production opened the door for the next stage in Rothbard’s intellectual development.

____________________

Ludwig von Mises, Human Action: A Treatise on Economics, scholar’s ed. (Mises Institute, 2008).

Walter Block and Walter Grinder, “Rothbard Tells All: Interview with Murray Rothbard,” December 1972, p. 6, Rothbard Papers.

Murray N. Rothbard to Ludwig von Mises, September 22, 1949, pp. 1–2, Rothbard Papers. Lionel Robbins, An Essay on the Nature and Significance of Economic Science, 1st ed. (Macmillan, 1932); Lionel Robbins, An Essay on the Nature and Significance of Economic Science, 2nd ed. (Macmillan, 1935).

Joseph A. Schumpeter, History of Economic Analysis (Oxford University Press, 1954).

Rothbard to Mises, September 22, 1949, p. 2, Rothbard Papers; Elizabeth Schumpeter, introduction to Schumpeter, History of Economic Analysis, p. xxxv.

Murray N. Rothbard to Ludwig von Mises, May 18, 1950, p. 1, Rothbard Papers.

John R. Hicks, Value and Capital: An Inquiry into Some Fundamental Principles of Economic Theory, 2nd ed. (Oxford University Press, 1946); Alfred Marshall, Principles of Economics, 8th ed. (Macmillan, 1920); George J. Stigler, The Theory of Price (Macmillan, 1946).

Rothbard to Mises, May 18, 1950, pp. 1–2.

Ludwig von Mises to Murray N. Rothbard, May 29, 1950, p. 1, Rothbard Papers.

Murray N. Rothbard to Herbert C. Cornuelle, November 28, 1949, p. 1, Rothbard Papers.

Ludwig von Mises to Herbert C. Cornuelle, January 25, 1951, p. 1, Rothbard Papers. Herbert C. Cornuelle to Murray N. Rothbard, February 10, 1951, p. 1, Rothbard Papers.

Mary Jean Bowman and George Leland Bach, Economic Analysis and Public Policy, 2nd ed. (Prentice-Hall, 1949).

Murray N. Rothbard to Herbert C. Cornuelle, March 14, 1951, p. 1, Rothbard Papers. Frank A. Fetter, Economic Principles (Century, 1915).

Rothbard to Cornuelle, March 14, 1951, pp. 2–3. J. R. McCulloch, The Principles of Political Economy (Edinburgh, 1825); David Ricardo, On the Principles of Political Economy and Taxation (London, 1817).

Murray N. Rothbard to Herbert C. Cornuelle, October 16, 1951, p. 1, Rothbard Papers.

Murray N. Rothbard, “Money and Banking on the Unhampered Market,” 1950, Rothbard Papers.

Rothbard to Cornuelle, March 14, 1951, p. 3. Ludwig von Mises, The Theory of Money and Credit, US ed. (Harcourt, Brace, 1935).

Irving Fisher, The Purchasing Power of Money: Its Determination and Relation to Credit Interest and Crises (Macmillan, 1911), p. 14.

Fisher, Purchasing Power, pp. 8–32, 55–60.

Fisher, Purchasing Power, p. 14.

Rothbard, “Money and Banking,” pp. 46–49, 60. Mises, Human Action, pp. 408–11, 413–16; Ludwig von Mises, The Theory of Money and Credit, 2009 ed. (Mises Institute, 2009), pp. 131–45.

Rothbard, “Money and Banking,” pp. 13, 44, 47. Mises, Human Action, pp. 220–29; Mises, Theory of Money and Credit, pp. 187–94.

Murray N. Rothbard, “Fisher’s Equation of Exchange—A Critique,” October 1952, pp. 5–6, Rothbard Papers. Murray N. Rothbard, Man, Economy, and State with Power and Market, 2nd scholar’s ed. (Mises Institute, 2009), pp. 831–42.

Murray N. Rothbard to Herbert C. Cornuelle, October 20, 1952, p. 1, Rothbard Papers.

Rothbard, “Money and Banking,” pp. 53–56, 60–61. Mises, Human Action, pp. 416–19, 428; Mises, Theory of Money and Credit, 2009 ed., pp. 79–86, 142, 208.

Rothbard, “Money and Banking,” pp. 22, 55, 62–65. Mises, Human Action, pp. 416–17, 421–22, 545–47; Mises, Theory of Money and Credit, pp. 203–6, 346–48.

Murray N. Rothbard to Herbert C. Cornuelle, May 26, 1953, p. 1, Rothbard Papers. Murray N. Rothbard, “The Question of Free Banking,” April 1953, pp. 1–10, Rothbard Papers.

Murray N. Rothbard to Herbert C. Cornuelle, May 4, 1953, p. 1, Rothbard Papers.

Rothbard to Cornuelle, May 26, 1953, p. 1. William Stanley Jevons, Money and the Mechanism of Exchange, 16th ed. (Kegan Paul, Trench, Trübner, 1907), pp. 201–11.

Murray N. Rothbard, “Money, Free and Unfree,” June 1957, pp. 1–85, Rothbard Papers.

Ludwig von Mises to Miss Brown, October 21, 1957, p. 1, Rothbard Papers.

Ludwig von Mises, The Theory of Money and Credit, new ed. (Yale University Press, 1953), pp. 448–56; Rothbard to Cornuelle, May 4, 1953, p. 1; Rothbard to Cornuelle, May 26, 1953, p. 2; Murray N. Rothbard to Edward C. Facey, October 18, 1956, pp. 1–2, Rothbard Papers.

Mises, Human Action, pp. 324–475.

Murray N. Rothbard, “Progress Report, January 1 to October 1, 1952,” n.d., p. 3, Rothbard Papers.

George J. Schuller, review of Human Action: A Treatise on Economics, by Ludwig von Mises, American Economic Review 40, no. 3 (1950): 418–22.

Murray N. Rothbard, “Mises’ Human Action: Comment,” American Economic Review 41, no. 1 (1951): 181–85; Murray N. Rothbard, “Praxeology: Reply to Mr. Schuller,” American Economic Review 41, no. 5 (1951): 943–46; Murray N. Rothbard, review of Human Action: A Treatise on Economics, by Ludwig von Mises, analysis (May 1950): 4; George J. Schuller, “Mises’ Human Action: Rejoinder,” American Economic Review 41, no. 1 (1951): 185–90.

Rothbard, “Mises’ Human Action,” p. 181.

Rothbard, “Praxeology: Reply to Mr. Schuller,” p. 944.

Murray N. Rothbard to Ludwig von Mises, July 18, 1950, p. 1, Rothbard Papers.

Murray N. Rothbard, “The Methodology in Gunnar Myrdal’s Monetary Equilibrium,” November 1953, pp. 1–5, Rothbard Papers.

Gunnar Myrdal, Monetary Equilibrium (William Hodge, 1939), pp. 209–10.

Rothbard, “Methodology in Gunnar Myrdal’s Monetary Equilibrium,” pp. 2–5.

Murray N. Rothbard, “Mises on Methodology,” November 1953, pp. 3, 5, Rothbard Papers. John Locke, An Essay Concerning Humane Understanding, bk. 2, Of Ideas (London, 1690).

Lawrence C. Lockley to Richard C. Cornuelle, December 13, 1953, pp. 1–2, Rothbard Papers.

Murray N. Rothbard to Richard C. Cornuelle, December 25, 1953, p. 2, Rothbard Papers.

Stigler, Theory of Price, pp. 118, 120.

Rothbard to Cornuelle, December 25, 1953, p. 2.

T. W. Hutchison, “Professor Machlup on Verification in Economics,” Southern Economic Journal 22, no. 4 (1956): 476–83; Fritz Machlup, “The Problem of Verification in Economics,” Southern Economic Journal 22, no. 1 (1955): 1–21; Fritz Machlup, “Rejoinder to a Reluctant Ultra-Empiricist,” Southern Economic Journal 22, no. 4 (1956): 483–93; Murray N. Rothbard, “In Defense of ‘Extreme Apriorism,’” Southern Economic Journal 23, no. 3 (1957): 314–20.

Machlup, “Problem of Verification,” p. 7. John Stuart Mill, Essays on Some Unsettled Questions in Political Economy (London, 1844).

Rothbard, “In Defense of ‘Extreme Apriorism,’” pp. 314–16.

Murray N. Rothbard to Richard C. Cornuelle, August 8, 1956, p. 2, Rothbard Papers.

Murray N. Rothbard to Ludwig von Mises, July 16, 1956, p. 1, Rothbard Papers.

Rothbard to Cornuelle, August 8, 1956, p. 2.

Ludwig M. Lachmann to Murray N. Rothbard, May 31, 1957, p. 1, Rothbard Papers.

John V. Van Sickle to Murray N. Rothbard, March 23, 1957, p. 1, Rothbard Papers.

Murray N. Rothbard, “Gerhard Tintner’s ‘Econometrics,’” December 1953, pp. 1–6, Rothbard Papers. Gerhard Tintner, “Econometrics,” Scientia 47, no. 88 (1953): 250–57.

Rothbard, “Gerhard Tintner’s ‘Econometrics,’” pp. 1–3.

Rothbard, “Gerhard Tintner’s ‘Econometrics,’” p. 3.

Rothbard, “Gerhard Tintner’s ‘Econometrics,’” pp. 4, 6.

National Bureau of Economic Research, Input-Output Analysis: An Appraisal (Princeton University Press, 1955); Murray N. Rothbard, “A Review of Input-Output Analysis: An Appraisal,” December 1956, pp. 1–8, Rothbard Papers.

Rothbard, “Review of Input-Output Analysis,” pp. 1–2.

Rothbard, “Review of Input-Output Analysis,” pp. 1–2.

Mises, Human Action, pp. 119–27, 324–28.

Rothbard, “Progress Report, January 1 to October 1, 1952,” p. 1.

Murray N. Rothbard to Herbert C. Cornuelle, May 23, 1952, p. 3, Rothbard Papers. Murray N. Rothbard to Herbert C. Cornuelle, June 28, 1952, p. 1, Rothbard Papers.

Murray N. Rothbard, “Chapter I: Fundamentals of Human Action,” n.d., pp. 1, 26, 37, Rothbard Papers.

Murray N. Rothbard to Herbert C. Cornuelle, September 16, 1952, p. 1, Rothbard Papers. D. H. Robertson, Utility and All That (George Allen and Unwin, 1952).

Rothbard to Cornuelle, September 16, 1952, p. 1. John R. Hicks and R. G. D. Allen, “A Reconsideration of the Theory of Value, Part 1,” Economica 1, no. 1 (1934): 52–76; John R. Hicks and R. G. D. Allen, “A Reconsideration of the Theory of Value, Part 2,” Economica 1, no. 2 (1934): 196–219.

Rothbard to Cornuelle, September 16, 1952, pp. 1–2.

Harro F. Bernardelli, “A Rehabilitation of the Classical Theory of Marginal Utility,” Economica 19, no. 75 (1952): 254–68; Harro F. Bernardelli, “A Reply to Mr. Samuelson’s Note,” Economica 6, no. 21 (1939): 88–89; Harro F. Bernardelli, “The End of the Marginal Utility Theory?,” Economica 5, no. 18 (1938): 192–212; Paul A. Samuelson, “The End of Marginal Utility: A Note on Dr. Bernardelli’s Article,” Economica 6, no. 21 (1939): 86–87.

Rothbard to Cornuelle, September 16, 1952, pp. 1–2.

Murray N. Rothbard to Richard C. Cornuelle, August 2, 1953, p. 2, Rothbard Papers. Lionel Robbins, “Robertson on Utility and Scope,” Economica 20, no. 78 (1953): 99–111.

Emil Kauder, “Genesis of the Marginal Utility Theory: From Aristotle to the End of the Eighteenth Century,” Economic Journal 63, no. 251 (1953): 638–50; Emil Kauder, “The Retarded Acceptance of the Marginal Utility Theory,” Quarterly Journal of Economics 67, no. 4 (1953): 564–75.

Murray N. Rothbard to Richard C. Cornuelle, April 1, 1954, p. 4, Rothbard Papers.

Rothbard to Cornuelle, August 8, 1956, p. 1. Emil Kauder, A History of Marginal Utility Theory (Princeton University Press, 1965).

Murray N. Rothbard, “A Note on Marginal and Total Utility,” 1954, pp. 1–10, Rothbard Papers.

Rothbard, “Note on Marginal and Total Utility,” p. 2.

Rothbard, “Note on Marginal and Total Utility,” pp. 7–10.

Rothbard, “Note on Marginal and Total Utility,” p. 6.

Rothbard, “Note on Marginal and Total Utility,” p. 8.

Murray N. Rothbard to Ludwig von Mises, September 22, 1954, p. 1, Rothbard Papers.

Israel M. Kirzner, “Reflections on the Misesian Legacy in Economics,” Review of Austrian Economics 9, no. 2 (1996): 143.

Rothbard to Cornuelle, October 20, 1952, p. 1.

Murray N. Rothbard to Richard C. Cornuelle, November 5, 1954, p. 2, Rothbard Papers.

Not found in Rothbard Papers.

Earl J. Hamilton to Murray N. Rothbard, June 10, 1954, p. 1, Rothbard Papers.

Murray N. Rothbard to Earl J. Hamilton, May 24, 1954, p. 1, Rothbard Papers.

Murray N. Rothbard, “Toward a Reconstruction of Utility and Welfare Economics,” in On Freedom and Free Enterprise: Essays in Honor of Ludwig von Mises, ed. Mary Sennholz (D. Van Nostrand, 1956), pp. 224–62.

Murray N. Rothbard, “Progress Report, October 1, 1954 to April 1, 1955,” n.d., p. 9, Rothbard Papers.

Hicks, Value and Capital, p. 19.

Rothbard, “Toward a Reconstruction,” pp. 236–37. Rothbard, “Toward a Reconstruction,” p. 233.

Ludwig M. Lachmann to Murray N. Rothbard, January 24, 1957, p. 1, Rothbard Papers; Murray N. Rothbard to Trygve J. B. Hoff, November 29, 1956, p. 1, Rothbard Papers.

Lachmann to Rothbard, January 24, 1957, p. 1. John R. Hicks, A Revision of Demand Theory (Clarendon Press, 1956).

Mises, Human Action, p. 351.

Ludwig von Mises, Human Action: A Treatise on Economics, 2nd ed. (Yale University Press, 1963), p. 354.

Mises, Human Action, scholar’s ed., p. 202. Eugen von Böhm-Bawerk, The Positive Theory of Capital, trans. William Smart (London, 1891), pp. 195–222.

Murray N. Rothbard, “Progress Report, October 1, 1952 to April 1, 1953,” n.d., p. 1, Rothbard Papers.

Murray N. Rothbard, “Chapter II: Economics of the Unhampered Market: Direct Exchange,” n.d., p. 35, Rothbard Papers.

Kenneth E. Boulding, Economic Analysis (Harper & Bros., 1941), pp. 51–80; Fetter, Principles of Economics, pp. 42–72; Carl Menger, Principles of Economics (Free Press, 1950), pp. 191–97; Rothbard, “Chapter II,” pp. 35, 78; Philip H. Wicksteed, The Common Sense of Political Economy (Macmillan, 1910), pp. 213–38, 493–526.

Rothbard, “Chapter II,” pp. 1, 8.

Rothbard, “Chapter II,” pp. 51, 53–55.

Rothbard, “Chapter II,” p. 73. Wicksteed, Common Sense, pp. 213–28, 493–526.

Rothbard, “Chapter II,” p. 78.

Rothbard, “Chapter II,” pp. 64, 69, 79, 94, 96.

Rothbard, “Chapter II,” pp. 79–80.

Rothbard, “Progress Report, January 1 to October 1, 1952,” p. 8.

Rothbard, “Progress Report, October 1, 1952 to April 1, 1953,” p. 2.

Murray N. Rothbard, “Ludwig von Mises Seminar, 1952–53, Winter Session,” n.d., pp. 1–3, Rothbard Papers.

Rothbard, “Progress Report, October 1, 1952 to April 1, 1953,” p. 2.

Rothbard, Man, Economy, and State, pp. 193–94.

Murray N. Rothbard, “Chapter III: The Pattern of Indirect Exchange,” n.d., pp. 31–32, 36, Rothbard Papers.

Rothbard, Man, Economy, and State, p. 194.

Rothbard, “Progress Report, October 1, 1952 to April 1, 1953,” p. 3.

Rothbard, Man, Economy, and State, pp. 219–20.

Rothbard, “Progress Report, October 1, 1952 to April 1, 1953,” p. 3.

Rothbard, Man, Economy, and State, p. 240.

Rothbard, Man, Economy, and State, pp. 280–82. Wicksteed, Common Sense, pp. 21–22.

Rothbard, Man, Economy, and State, pp. 285, 287–88.

Stigler, Theory of Price, p. 88.

Rothbard, Man, Economy, and State, p. 288.

Rothbard, Man, Economy, and State, p. 755.

Murray N. Rothbard, “Chapter V: Producers’ Activity,” n.d., pp. 1–90, Rothbard Papers; Murray N. Rothbard, “Chapter VI: Monopoly and Competition,” not found in Rothbard Papers; Murray N. Rothbard, “Chapter VII: Money,” not found in Rothbard Papers.

Rothbard, Man, Economy, and State, p. 756. Murray N. Rothbard, “Progress Report, April 1, 1955 to October 1, 1955,” n.d., p. 1, Rothbard Papers.

Rothbard, Man, Economy, and State, pp. 812–15.

Rothbard, “Progress Report, April 1, 1955 to October 1, 1955,” p. 3.

Rothbard, Man, Economy, and State, pp. 815–17.

Rothbard, Man, Economy, and State, pp. 816–18.