Fundamental Concepts: Carl Menger

Joseph T. Salerno: Published by the Ludwig von Mieses Institute.

I share here a brief sinopsis of the article posted in the Biography of Carl Menger: The Founder of the Austrian School (1840-1921)


"All things are subject to the law of cause and effect. This great principle knows no exception."

Menger-The-Founder-of-the-Austrian-School-18401921

Despite the many illustrious forerunners in its six-hundred year prehistory, Carl Menger (1840-1921) was the true and sole founder of the Austrian school of economics proper. He merits this title if for no other reason than that he created the system of value and price theory that constitutes the core of Austrian economic theory. But Menger did more than this: he also originated and consistently applied the correct, praxeological method for pursuing theoretical research in economics. Thus in its method and core theory, Austrian economics always was and will forever remain Mengerian economics.

Joseph Schumpeter averred that

"Menger is nobody's pupil and what he created stands . . . . Menger's theory of value, price, and distribution is the best we have up to now." Ludwig von Mises wrote that "What is known as the Austrian School of Economics started in 1871 when Carl Menger published a slender volume under the title Grundsätze der Volkswirtschaftslehre [Principles of Economics].... Until the end of the Seventies there was no `Austrian School.' There was only Carl Menger." 

For F. A. Hayek (1992, p. 62), the Austrian school's "fundamental ideas belong fully and wholly to Carl Menger. . . . [W]hat is common to the members of the Austrian school, what constitutes their peculiarity and provided the foundations for their later contributions, is their acceptance of the teaching of Carl Menger."

Menger's ultimate goal was not to destroy Classical economics, as has sometimes been suggested, but to complete and firm up the Classical project by grounding the theory of price determination and monetary calculation in a general theory of human action...

THE CLASSICAL SCHOOL AND THE STATE OF ECONOMIC THEORY ON THE EVE OF THE PUBLICATION OF MENGER'S PRINCIPLES

When Menger seriously turned his attention to economic theory in 1867, there existed a mighty though deeply flawed system of economic theory that had been constructed mainly by the British Classical School, namely David Hume, Adam Smith, and David Ricardo. To their undying credit, the Classical economists were successful in demonstrating that price phenomena--product prices, wages, and interest rates-- were not the product of historical accident or the arbitrary whim of sellers but were determined by universal and immutable economic law, viz., the law of supply and demand.

Classical economics, therefore, did indeed contain an embryonic theory of human action, but their theory was incomplete because it focused narrowly on the calculating businessman, the proverbial "economic man", who "bought in the cheapest and sold in the dearest markets."

To explain this neglect, we turn to the aforementioned great flaw in Classical economics: its value theory. In attempting to analyze the value of goods as a foundation for its theory of price, the Classical economists commenced by focusing on abstract categories or classes of goods, e.g., bread, iron, diamonds, water, etc., and their general usefulness to humankind.

They were thus at a loss to resolve the famous "paradox of value": why the market price of one pound of bread is almost negligible compared to the price of an equal weight of gem-quality diamonds, despite the fact that bread is indispensable in sustaining human life while diamonds are useful only for aesthetic enjoyment or ostentatious display. To proceed any further in their analysis, the Classical economists were thus forced to sever value into two categories, "use value" and "exchange value."

This was the unsatisfactory state in which Menger found economic theory in the late 1860's. It is true that a subjective-value school, which traced its roots back through J.-B. Say, A. R. J. Turgot, and Richard Cantillon to the Scholastic writers of the Middle Ages, flourished on the Continent during the whole period of the Classical school's ascendancy in Great Britain. And Menger himself, a renowned bibliophile, was nurtured and steeped in the writings of the German-language branch of this subjective-value tradition.

However, while writers associated with this tradition repeatedly emphasized that "utility" and "scarcity" are the sole determinants of market prices and, in some cases, even formulated the concept of marginal utility, none before Menger was able to systematically elaborate these insights into a comprehensive theory of the pricing process and of the economy in general.

The Theory of Value

Menger summarized the "general law of the determination of the value of a concrete quantity of a good of higher order" as follows: "Assuming . . . that all available goods of higher order are employed in the most economic fashion, the value of a concrete quantity of a good of higher order is equal to the difference in importance between the satisfactions that can be attained when we have command of the given quantity of the good of higher order whose value we wish to determine and the satisfactions that would be attained if we did not have this quantity at our command."...

Time, Property, and Entrepreneurship

Because Menger conceived the processes of transforming higher-order into lower-order goods (production) and of imputing value from lower-order to higher-order goods (imputation) as conjoint causal processes, he accorded time an integral role in both. According to Menger: "The idea of causality . . . is inseparable from the idea of time. A process of change involves a beginning and a becoming, and these are only conceivable as processes in time. . . . Thus in the process of change by which goods of a higher order are gradually transformed into goods of the first order, until the latter finally bring about the state called the satisfaction of human needs, time is an essential feature of our observations."...

The four functions Menger describes as the core of entrepreneurship are simply the praxeological implications of property in higher-order goods. This explains why, in Menger's view, the knowledge an actor acquires and the expectations he forms are not autonomous but are strictly governed by the structure of goods constituting his property and his chosen ends. As an "economizing man" who actuates and guides an uncertain causal process, Menger's entrepreneur is a dynamic actor who profits by actively seeking out the most valuable uses for his property and is not merely a passive "risk-bearer" whose profits represent a reward for investing in risky ventur es.

The Theory of Price

We now turn to price theory, the coping stone of Mengerian economics. Menger viewed the explanation of prices on the basis of the law of marginal utility as the final step in linking the Classical theory of monetary calculation to the general process of human want satisfaction. For if the active element in determining the prices of goods of all orders is marginal utility, and if entrepreneurs base their economic calculations on these prices, it can then be demonstrated that purposeful actions undertaken to satisfy human wants are the ultimate determinant of resource allocation and income distribution in the market economy...

CONCLUSION 

This then is Menger's greatest achievement and the essence of his "revolution" in economics: the demonstration that prices are no more and no less than the objective manifestation of causal processes purposefully initiated and directed to satisfying human wants. It is thus price theory that is the heart of Mengerian and, therefore, of Austrian economics.

 In a profoundly insightful passage in his eulogy, Schumpeter emphasized this aspect of Menger's contribution:

"What matters, therefore, is not the discovery that people buy, sell, or produce goods because and in so far as they value them from the point of view of satisfaction of needs, but a discovery of quite a different kind: the discovery that this simple fact and its sources in the laws of human needs are wholly sufficient to explain the basic facts about all complex phenomena of the modern exchange economy, and that in spite of striking appearances to the contrary, human needs are the driving force of the economic mechanism beyond the Robinson Crusoe economy or the economy without exchange.

 The chain of thought which leads to this conclusion starts with the recognition that price formation is the specific economic characteristic of the economy-as distinct from all other social, historical, and technical characteristics-and that all specifically economic events can be comprehended within the framework of price formation.

 From a purely economic standpoint the economic system is merely a system of dependent prices; all special problems, whatever they may be called, are nothing but cases of one and the same constantly recurring process, and all specifically economic regularities are deduced from the laws of price formation.

 Already in the preface of Menger's work [the Principles], we find this recognition as a self-evident assumption. His essential aim is to discover the law of price formation. As soon as he succeeded in basing the solution of the pricing problem, in both its `demand' and `supply' aspects, on an analysis of human needs and on what Wieser has called the principle of `marginal utility,' the whole complex mechanism of economic life suddenly appeared to be unexpectedly and transparently simple."

Schumpeter (1969, p. 90) concluded that, despite Menger's other substantial contributions, his "theory of value and price . . . is, so to speak, the expression of his real personality." If this is so, Menger's personality lives on in the flourishing praxeological paradigm of contemporary Austrian economics.

All the red emphasis are mine.
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Este es, entonces, el mayor logro de Menger y la esencia de su "revolución" de la economía: la demostración de que los precios son ni más ni menos que la manifestación objetiva de los procesos causales propósito iniciados y dirigidos a la satisfacción humana quiere. Por tanto, es la teoría de precios lo que es el corazón de mengeriana y, por tanto, de la economía austriaca.

 En un pasaje profundamente perspicaz en su elogio, Schumpeter hizo hincapié en este aspecto de la contribución de Menger:"Lo que importa, por lo tanto, no es el descubrimiento de que las personas compran, venden o producen bienes porque y en la medida en que ellos valoran desde el punto de vista de la satisfacción de las necesidades, pero el descubrimiento de un tipo bastante diferente: el descubrimiento de que este simple hecho y sus fuentes en las leyes de las necesidades humanas son enteramente suficientes para explicar los hechos básicos acerca de los complejos fenómenos de la economía de intercambio moderna, y que a pesar de las apariencias en huelga por el contrario, las necesidades humanas son la fuerza motriz de la economía mecanismo más allá de la economía de Robinson Crusoe o la economía sin cambio.La cadena de pensamiento que lleva a esta conclusión se inicia con el reconocimiento de que la formación de los precios es la característica económica específica de la economía, a diferencia de todos los demás sociales, históricas y las características técnicas y que todos los eventos específicamente económicos puede ser comprendido en el marco de formación de precios.

 Desde un punto de vista puramente económico, el sistema económico no es más que un sistema de precios que dependen; todos los problemas especiales, cualesquiera que sea su denominación, no son más que casos de uno y el mismo proceso se repite constantemente, y todas las regularidades específicamente económicas se deducen de las leyes de formación de precios.

 Ya en el prólogo de la obra de Menger [los principios], encontramos este reconocimiento como un supuesto evidente. Su objetivo esencial es descubrir la ley de formación de precios. Tan pronto como logro basar la solución del problema de los precios, tanto en los aspectos de la  demanda y el  suministro ", en un análisis de las necesidades humanas y de lo que Wieser ha llamado el principio de la utilidad marginal', 'todo el complejo mecanismo de la vida económica de repente parecíó ser inesperada y transparentemente simple ".

Bibliography 
Hayek, F.A., "Carl Menger (1840-1921)" in The Collected Works of F.A Hayek, Volume IV: The Fortunes of Liberalism: Essays on Austrian Economics and the Ideal of Freedom. Ed.Peter G. Klein (Chicago: The University of Chicago Press, 1992), p.62.
Menger, Carl, Investigations into the Method of the Social Sciences with Special Reference to Economics, ed. Louis Schneider, trans. Francis J. Nock (New York: New York University Press, 1985).
Mises, Ludwig von, The Historical Setting of the Austrian School of Economics (New Rochelle, NY: Arlington House, 1969), pp. 9-10.
________________, Theory and History: An Interpretation of Social and Economic Evolution (Auburn, AL: The Ludwig von Mises Institute, 1985), pp.62
Schumpeter, Joseph A., Ten Great Economists: From Marx to Keynes (New York: Oxford University Press, 1969), p.86.