Lesson 2 of 7
The argument Mises made in 1920
Calculation needs prices, prices for capital goods need exchange, exchange needs owners. Three links, and the reply to the labour-time alternative.
By Javier Sanz
Founder of ValueScreener. Built Ninety Nine, a securities services provider, and sold it to a tier-one global bank; ran operations and internationalization at Alpaca, the brokerage API.
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In one minute
- The argument is a chain of three links, and it is the last link that does the political work: exchange ratios for capital goods require owners who can trade them.
- Mises anticipated the internal-market proposal and answered it: syndicates trading with each other are owners, whatever they are called.
- He treated labour time as the only serious alternative unit and gave two reasons it fails, one about materials and one about different kinds of labour.
The 1920 paper is about forty pages and the argument in it is short. This lesson gives the chain, then the two objections he raised against the alternative unit that the socialist literature of his day relied on.
The chain of the 1920 argument
- 1A rational planneeds a comparison between methods
- 2Comparisonneeds one unit, so it needs prices
- 3Prices for capital goodsarise in exchange, not in a formula
- 4Exchange of capital goodsrequires parties who own what they trade
The third link is the one under dispute
The first two links were rarely contested after 1920. The third is where the argument lives.
Section three of the paper takes the obvious way out and closes it. Suppose the planned economy keeps internal exchange: the coal syndicate sells coal to the iron syndicate, payments are made in a common medium, and prices appear. Mises answers that a price can only form there if both syndicates are the owners of what they are trading, which is not the system anyone was proposing. He names that arrangement and says it would be a form of workers' capitalism and syndicalism rather than socialisation.
Whether that answer is right is the subject of the rest of this course. What matters here is that the objection was raised by the author of the argument, in the paper that made it, and not invented later by his critics.
The labour-time alternative, and two failures
The socialist writers Mises was answering did have a proposed unit. If value comes from labour, a plan can be costed in hours of socially necessary labour, and no market is needed. Section three takes that seriously and gives two reasons it does not work.
The first is that labour hours leave out the materials. He sets out two goods that each take ten hours of socially necessary labour but different quantities of a scarce raw material. In labour terms the two are equivalent. In value terms they are not, and the difference is exactly the natural resource that labour accounting cannot see. Nature supplies it without human addition, and it is still scarce, so a unit that ignores it will misprice everything that uses it.
The second is that labour is not one thing. Reducing skilled to unskilled labour by some multiple is only possible if the multiple comes from somewhere. Mises argues that the observed ratios come out of wage bargaining in a market, which makes them a result of the process rather than an input to it. A planned economy would have to set the ratio by decree, and a decreed ratio is not a measurement.
What the paper does not claim
Read carefully, the 1920 paper does not say that a planned economy collapses immediately, and it does not say that planners are stupid. Mises allows that inherited routines from the previous market economy would keep things running for a while, becoming less appropriate as conditions changed. He allows that decisions would still be made. His claim is that they would be made without a test of whether resources were used well, which he calls groping in the dark.
He also concedes, in the same paper, that monetary calculation is imperfect: it carries the arbitrariness of allocating overheads, the estimate inside a depreciation charge, and the uncertainty of the future. His position is that nothing better exists, not that it is exact.
Check yourself
Which link in the chain does the market socialist reply attack?
- That a plan requires comparison between methods
- That comparison requires a common unit
- That prices for capital goods require owners who exchange them
Show the answer
Answer: C.
The reply in the next lesson accepts that prices are needed and argues they can be arrived at by a process other than private exchange.What was Mises's answer to an internal market between state syndicates?
- That syndicates would collude
- That a price can only form if the syndicates own what they trade, which is a different system
- That the payments would be inflationary
Show the answer
Answer: B.
Section three raises the proposal and answers that it amounts to workers' capitalism and syndicalism rather than the socialisation being proposed.What is the first objection to costing a plan in labour hours?
- That workers would misreport their hours
- That it leaves out scarce materials, whose scarcity is not proportional to the labour in them
- That hours cannot be measured accurately
Show the answer
Answer: B.
The worked example of two goods with equal labour content and different material use is the form the objection takes in the paper.Sources
- Mises, 'Economic Calculation in the Socialist Commonwealth', German original 1920, English translation in Hayek (editor), Collectivist Economic Planning, 1935, sections two and three: the chain from calculation to prices to ownership, the syndicate proposal and the reply to it, the two objections to labour-time accounting, and the concession that monetary calculation has defects of its own.
- Mises, Human Action, 1949, chapters twenty-five and twenty-six, on the imaginary construction of a socialist society and the impossibility of economic calculation, whose sections include trial and error and the quasi-market. Named here as where the argument is taken up again at length; those chapters were not read for this lesson, which follows the 1920 paper.
What this leaves out
- This is a heterodox tradition. The mainstream account of the same phenomenon differs, and nothing here is a forecast or a view on any security.
- The two-goods example follows the structure Mises uses in the paper, with the same magnitudes. It is an illustration of an argument, not a measurement of anything.
- This lesson states the argument. It does not defend it, and the three lessons that follow are the reply and its aftermath.