A Cure For Austrian Subjectivism I:

Volitive Value and Honest Money

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Methodological individualism is the principle that states that every social and collective phenomena is reducible to individuals actions. In Carl Menger’s words, “There is no economic phenomena that does not ultimately find its origin and its measure in the economically acting human and his economic deliberations” - Nationalökonomische Literaturin Österreich", 1889, pages 2-4

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The importance of Rand's work for the NASOE is illustrated quite clearly by Fekete's first lecture on Monetary Economics, named Ayn Rand's Hymn to Money.
The entire series of lectures is available for free at his website.
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The Historical School was a movement composed by thinkers such as Wilhem Roscher (1817-1894) and Georg F. Knapp (1842 - 1926), who saw economic interactions as essentially culture-specific, rejecting the idea that there are universal aspects to trade, that hold true in any society. More broadly, the term "Historical Economics" or "Historicism", can be used to refer to any school of thought that believes knowledge in economics can be induced based on past experience, such as Institutionalist and Positivist Economics.

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Causality, in this context, refers to the Aristotelian idea of efficient cause (the traditional notion of cause-and-effect) not to the Objectivist entity-action conceptualization of causation. For more details on the difference between the two ideas, see Thomas Miovas' Causality Given in Observation and Causality as a Corollary of Identity.

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For a more detailed explanation of marginalism, see Carl Menger's Principles of Economics, available for free.

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Methodological singularism is the principle that states that one should not deal primarily with some abstract form of "universal action", but rather abstract the universal characteristics of action from concrete, specific actions. As von Mises puts it:
 “No less than from the action of an individual praxeology begins its investigations from individual actions. It does not deal in vague terms with human action in general, but with concrete action that a definite man has performed at a definite date and at a definite place” - Human Action (1949), p. 44.

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Human Action, Ludwig von Mises, p. 34

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"Ludwig von Mises, as an adherent of Kantian epistemology, asserted that the concept of action is a priori to all experience, because it is, like the law of cause and effect, part of "the essential and necessary character of the logical structure of the human mind”. Without delving too deeply into the murky waters of epistemology, I would deny, as an Aristotelian and neo-Thomist, any such alleged "laws of logical structure" that the human mind necessarily imposes on the chaotic structure of reality. Instead, I would call all such laws "laws of reality," which the mind apprehends from investigating and collating the facts of the real world. My view is that the fundamental axiom and subsidiary axioms are derived from the experience of reality and are therefore in the broadest sense empirical" - Praxeology: The Methodology of the Austrian School (1976), Murray Rothbard.

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The action axiom, the starting point of praxeology, states that Man purposefully utilize means, over a period of time, in order to achieve desired ends. As Mises puts it:  “Action is will put into operation and transformed into an agency, is aiming at ends and goals, is the ego's meaningful response to stimuli and to the conditions of its environment, is a person's conscious adjustment to the state of the universe that determines his life.” - Human Action (1949),    p. 11

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Murray N. Rothbard: Economics, Science, and Liberty (1999), Hans-Hermann Hoppe.

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This and other series of lectures by Antal Fekete are available, for free, at his youtube channel.
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   The Austrian School of Economics is often treated, rightfully so, as a uniform group of theories. Indeed, when compared to Marxist or mainstream Positivist Economics, the similarities between the different authors in the school are far more relevant than their differences. Taking a closer look at their work however, specially under the light of Objectivism, one can notice significant discrepancies between the approaches taken by different economists in the school: from the Aristotelian epistemology of Carl Menger (1840-1921) to F.A. Hayek’s (1899-1992) evolutionary-subjectivist perspective. In fact, those differences make up such a broad and clearly divided spectrum that it becomes logical to talk about Austrian Schools of Economics.

   The deductive method is what defines the Austrian School of Economics, making it an integrated body of knowledge. The idea that knowledge in economics can be acquired, not through induction based on past prices and productive variations, but by analyzing the essential characteristics of human action, is to be found throughout the works of all the school’s authors. The adoption of methodological individualism, in stark contrast to the collectivism of externality analyses and welfare economics; the precise use of logic instead of the pragmatic overlooking of logical incoherences, so that human behavior can be mathematized into econometric models; the conceptualization of utility as an ordinal, and not a cardinal measure - as in the utility functions of Positivist economics - are also ideas shared by the authors in the school.

   Despite those similarities, inherent to the deductive method, the philosophy used by different authors to arrive at and validate its use are actually antagonistic to each other, with two distinct and conflicting sets of views. On one hand, you have the Aristotelian approach shared by authors like Carl Menger, Murray Rothbard (1926-1995) and George Reisman (1937), according to which the basic characteristics of human action that constitute the starting point economic deduction are self-evident, observable facts, much like the axioms of Objectivism. On the other hand, you have the Kantian approach of Ludwig von Mises (1881-1973) and F.A. Hayek - later expanded and made into an integrated system by authors like Hans-Hermann Hoppe (1949) - that currently dominates mainstream Austrian thought, which views the basic characteristics of action as information possessed a priori by the individual.

   Despite the growth of Kantian philosophy over the last century and its current hegemony in Austrian thought, the Aristotelian approach is currently going through a rebirth of sorts. Established by Hungarian mathematician and economist Antal E. Fekete (1932), the New Austrian School of Economics (NASOE) seeks to give new life to the Aristotelian tradition rooted in Menger, and does so by using Ayn Rand’s Objectivism as an important philosophic foundation.

   This series of articles has two distinct, yet related goals. The first one is to provide a systematic analysis of the epistemological differences between the two approaches and the consequences of the subjectivist approach in contemporary Austrian Economics - an analysis which is important, and I have not been able to find elsewhere. The second, and main goal is to introduce the reader to the NASOE, making its differences to mainstream Austrian Economics clear. To achieve these goals, the first article will analyze the differences in methodology between both schools, as well as how these differences impact their theories of value and money, while the second article will do the same for their theories of credit and economic cycles.

   I find it important to note that the goal of these articles is not to diminish the importance and competence of authors like Mises and Hayek - both of them revolutionary geniuses in multiple fields - or contemporary authors subscribing to the Austrian School, who carry out the noble and difficult task of advancing Praxeology in an academia dominated by Positivism and its delusions of price indexes and full employment. On the contrary: the goal is precisely to honor their tradition of intellectual competence by supplying a much-needed philosophical correction to their theories - and, by doing so, bridging some of the theoretical gap that exists between Objectivism and Austrian Economics.

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Epistemology and Methodology

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    Carl Menger’s epistemology is greatly derived from German philosopher Franz Brentano (1838 - 1917). A colleague and a friend of Menger's, Brentano was a Catholic priest for a large portion of his adult life, until theological divergences made him leave the church. In his Psychology from an Empirical Standpoint, Brentano argues that the senses are valid, that there was a fundamental difference between consciousness and existence, and that Man is an intentional being - in stark contrast to his Idealist, Positivist and Existentialist contemporaries.

    Adopting Brentano’s Aristotelian philosophy, Menger sought out to create an economic theory that rejected the premises of both what would become known as the German Historical School   - according to which knowledge in Economics was obtained primarily from induction based on historical observation - and the Cartesian and Kantian approaches to deduction, which treat reason as something dissociated from perceptual experience. For that aim, he developed an economic theory based on the observation of universal, self-evident and necessary characteristics of action, goods and value, and logical deduction based on those observations.

    The essential aspects of Menger’s methodology are his concepts of teleology and marginalism. Menger maintained that, unlike the realm of physical phenomena which followed only the rule of causality,   human action had a teleological nature, i.e. that people act not only in response to stimuli, but towards achieving goals. Because of that, the method of averages employed to deal with events of the natural world - which follow specific laws that can be induced from observation - was not a proper tool with which to deal with the human world. To deal with the heterogenous, volitional realm of human action, Menger maintained that one should focus, not on the average, but at the margin - the point at which an external change causes individuals that hold a specific value to change their actions.

    Building on the work of Menger, Ludwig von Mises integrates marginalism with the methodological individualism and singularism   of Max Weber (1864 - 1920), and Immanuel Kant’s (1724 - 1804) apriorism, in his system of Praxeology. Unlike his predecessor, Mises maintained that the essential characteristics of action, which serve as the ground on which praxeological deduction is built, are not to be arrived at through direct observation. Instead, he argued that they come from a priori knowledge, i.e. knowledge that precedes, and is independent from experience. Von Mises states that there are “fundamental logical relations… not subject to proof or disproof”, and that they are an unavoidable and “indispensable prerequisite of perception, apperception and experience”.  This innate logical structure of action is the starting point from which von Mises starts the deductions that make up his theory.

    Authors like Murray Rothbard and George Reisman later challenge Mises’s methodological apriorism, arguing that it is not essential to Praxeology.   Their argument consists of acknowledging that, although a deduction-based methodology is valid and essential to the study of human action and economics, fundamental notions like the action axiom   are not a priori information, but self-evident, observable, universal aspects of human action.

    In Man, Economy and State, Rothbard recreates the logical structures of Praxeology, from the action axiom to more complex themes such as the nature of credit and the effects of government intervention, without resorting to any sort of apriorism. In doing so, however, he maintains a similar methodology to Mises’, rooted on the knowledge brought about by the analysis of the same fundamental structures of action. Reisman, on the other hand, addresses the problems of subjectivism and relativism in Capitalism, but does not go into more detail about its methodological consequences in Mises' work. Because of that, their work can be best understood as corrections to specific aspects of Mises' work, but not as a systematic revision of his methodology.

    This approach, that Hans-Hermann Hoppe would later characterize as “the mainstream within Austrian Economics”,    is also shared by authors like Walter Block (1941), Jesús Huerta de Soto (1956) and Robert P. Murphy (1976). For the purposes of this article, I will call that the Misean Approach.

    On the opposite direction of Rothbard’s work, F.A. Hayek revisits the subjectivist nature of Mises’s epistemology, adding an evolutionary, empirical aspect to it - more akin to the philosophy of Hume than to Kant's. According to Hayek, the mind’s inability to perceive things-in-themselves, means that all knowledge is a somewhat flawed representation of reality. Because of that, the author took a more empirical and pragmatic approach, focusing on the processes through which individuals and society change their beliefs in response to experience, not on the unfalsifiable logical conclusions of deductions from a priori axioms.

    In addition to that, the author also took an evolutionary approach to the a priori categories deemed necessary for the perception of reality. In The Sensory Order (1952), Hayek argues that an individual's neural connections develop in a semi-permanent fashion, being restructured according to their experiences. In essence, that means that the a priori categories an individual is born with are later shaped by their experience, which in turn changes the way they act, in a fashion curiously similar to Hegelian dialectics. This approach, which I call the Hayekian Approach, is shared by authors like Peter Boetke (1960), Roger Garrison (1944) and Steven Horwitz (1964).

    Throughout this article, I will contrast the NASOE’s approach to what I call the mainstream Austrian approach. Diverging from Hoppe’s claim, I will use the term to mean both the Misean and the Hayekian approaches, grouped together based on their subjectivist epistemology, and explicitly differentiated whenever their differences are essential. In opposition to both of these approaches, the NASOE treats objective knowledge of reality as something one can achieve through the logical integration of sensory perception. Because of that, its authors depart from both the Misean approach of imaginary constructs as well as the Hayekian empiric-evolutionary approach, revisiting and expanding upon Carl Menger’s marginalism.

    In his Critique of Mainstream Austrian Economics    series of lectures, Fekete describes his methodology as the deductive analysis of points of contact between the Protosphere, the realm of events subject only to the law of causality, and the Logosphere, the realm of events subject to teleology. In other words, the Praxeology of the NASOE consists of using deduction to discover relations between particular volitional decisions of individuals and the necessary consequences they bring or, inversely, how individuals seeking a specific goal respond to objective environmental factors.

    Unlike Rothbard and Reisman's approaches, which maintained a very similar methodology to Mises’s despite the radical change in epistemological foundation, the NASOE’s change epistemology brings with it a plethora of theoretical changes, that I will analyze in depth throughout the following sections.

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Theory of Value: Subjective vs Volitive

    In spite of his intrinsicist epistemology, part of Menger’s genius was precisely his rejection of intrinsic value theories, such as land-value or labour-value, according to which the value of goods is derived intrinsically from a specific factor of production. The resulting theory can best be described, not as subjective, but as a volitive theory of value, which states that the value of a good is made up of two factors: an objective one and a subjective one. According to Menger, the objective factor its the relation between the nature of a good and its ability to satisfy an objective human need, while the subjective factor is the singular way every individual values a specific need in relation to others. The subjective factor is nearly, but not absolutely  limitless in its influence, since Man is a volitional being and, as such, chooses his values.

    In Principles of Economics, the author makes this objective, Aristotelian aspect of his theory of value when presenting the concept of imaginary goods, i.e. goods that are valued a certain way despite not possessing the nature and uses that are attributed to it by the valuing individual, and goes on to talk about how the quantity of such goods decreases as a society progresses intellectually:

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Principles of Economics (1871), Carl Menger, p. 53-54

    “As a people attains higher levels of civilization, and as men penetrate more deeply into the true constitution of things and of their own nature, the number of true goods becomes constantly larger, and as can easily be understood, the number of imaginary goods becomes progressively smaller. It is not unimportant evidence of the connection between accurate knowledge and human welfare that the number of so called imaginary goods is shown by experience to be usually greatest among peoples who are poorest in true goods.

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Although Marx is famous for his historical analyses, like those on the dialectical movements leading to capitalist society, and on the primitive accumulation of capital, the core of his economic theory, like his theories of value, money and capital,  is based on dialectical deduction.

    Despite the revolutionary character of Menger’s theory, his intrinsicist epistemology was still somewhat incompatible with the subjective character of his value theory, and made it vulnerable to criticism rooted in Kantian philosophy - a which became increasingly popular during the last century, after the author’s work was published. In that context, Ludwig von Mises develops a Kantian epistemology to the Austrian individualistic and deductive approach, taking a methodological stand not only against inductive economics, but also against collectivistic Kantian and Hegelian approaches to deduction, like that of Karl Marx.

    As a consequence of his change in epistemology, von Mises’s theory of value departs from Menger's significantly. By rejecting Aristotelian intrinsicism in favour of Kantian apriorism, the author also rejects his predecessor’s notion of objective value, opting for a value theory that is not only volitive, but truly subjective. According to Mises:

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    “When applied to the ultimate ends of action, the terms rational and irrational are inappropriate and meaningless. The ultimate end of action is always the satisfaction of some desires of the acting man. Since nobody is in a position to substitute his own value judgments for those of the acting individual, it is vain to pass judgment on other people's aims and volitions. No man is qualified to declare what would make another man happier or less discontented. The critic either tells us what he believes he would aim at if he were in the place of his fellow; or, in dictatorial arrogance blithely disposing of his fellow's wilI and aspirations, declares what condition of this other man would better suit himself, the critic.” 

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Human Action (1949), Ludwig von Mises, p. 18-19

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The Virtue of Selfishness (1964), Ayn Rand, p. 71

    Mises’s vision stands in clear opposition to the work of Ayn Rand, according to whom “One must never fail to pronounce moral judgement”.    The goal of this article, however, is not to present a critique to subjectivism or moral relativism per se - that has already been done competently and extensively elsewhere - but to highlight the consequences of epistemological subjectivism and methodological apriorism to Mises’s economic theory. In so far as the theory of value is concerned, the consequence is the denial of the idea of objective needs and values as valid objects of study in the field of economics. In both Theory and History and The Ultimate Foundation of Economic Science, Mises talks about Thymology, which he defines as the science that deals with the inner workings of an individual’s valuing processes, and claims that it is a branch of History, not Economics.

    Unlike Mises and Rothbard, F.A. Hayek goes into more depth about the processes that underly an individual’s valuation in The Sensory Order, as well as how societies collectively build and change their value-based structures in Law, Legislation and Liberty. Like the authors that adopt the Misean approach, however, Hayek dismisses the objective aspect of valuation as relevant for Economics, as well as Law and Psychology. The author bases his defense of freedom, not in the rational faculty of the individual, but rather on the flaws of rational thought, the rejection of the constructivist fallacy and the lack of information of central planners. In short, Hayek argues that man must be free because he is fallible, and must be able to try, err and learn.

    In the opposite direction of mainstream Austrian economics, Antal Fekete advocates a revisiting of Menger’s original ideas about value, establishing a theory that encompasses the volitive character of human action, but does not ignore Man’s objective needs. To the NASOE, value is not intrinsic to goods or to the productive factors that went into its making, but there is an objective relation between the value of a good and the function it performs for the individual that values it. It also acknowledges certain aspects of Man's nature that give rise to objective needs - the fact that Man loses productive capacity as he ages, for example, means storing value is an objective necessity. In other words, Man’s volition does not make it possible for him to consistently value a rock for its use as food, nor to consistently value counterfeit credit for its use as money - it also does not allow him to escape the consequences of ignoring the need for food and money.

    Unlike the Austrian mainstream, authors like Fekete and Keith Weiner do not see Economics as a subject completely separated from Ethics. Instead, they conceptualize it as a specific application of the same underlying epistemological principles that also give rise to Ethics. Because of that, the NASOE does not merely study the difference between commodity money and fiduciary money, but also analyses the workings of an economy that uses honest money, in contrast to an economy that uses counterfeit money.

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Marginalism, Marketability and Price

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"Ordinal" and "cardinal" refer to two different types of measurement. A cardinal measurements is one that measures units of a particular thing, e.g. "there are 5 apples in the basket". An ordinal measurement is one that measures the position of something in relation to others, e.g. "this is the second biggest apple in the basket".

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Class probability is the type of probability analysis suitable on homogeneous events, through which one can predict that in x number of events, y will have the result a. Case probability is the type of probability analysis suitable for unique events, and consists on the analysis of the factors that influence a specific event to try to predict its outcome.

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An imaginary construction is a conceptual image of a sequence of events logically evolved from the elements of action employed in its formation. It is a product of deduction, ultimately derived from the fundamental category of action, the act of preferring and setting aside. In designing such an imaginary construction the economist is not concerned with the question of whether or not it depicts the conditions of reality which he wants to analyze. Nor does he bother about the question of whether or not such a system as his imaginary construction posits could be conceived as really existent and in operation. Even imaginary constructions which are inconceivable, self-contradictory, or unrealizable can render useful, even indispensable services in the comprehension of reality, provided the economist knows how to use them properly.” - Human Action (1949), Ludwig von Mises.  p. 237

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Bid and ask prices are not words used by Carl Menger, but they represent what he had already conceptualized.

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I haven’t seen the time aspect of this formulation in other works of the NASOE, but it is rather intuitive why a good that sporadically achieves a very low bid-ask spread, only to have that spread widen after a while, would not be suited for money.

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"Claims to a definite amount of money, payable and redeemable on demand, against a debtor about whose solvency and willingness to pay there does not prevail the slightest doubt, render to the individual all the services money can render, provided that all parties with whom he could possibly transact business are perfectly familiar with these essential qualities of the claims concerned: daily maturity and undoubted solvency and willingness to pay on the part of the debtor. We may call such claims money-substitutes" - Human Action (1949), Ludwig von Mises, p. 429
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As with all claims in this website, I strongly encourage the reader to check the truth of this claim for himself, by looking at the available data. Those who lack the time to do so, might find a shortcut to that research at CNBC's Peter Meter, which I found to be accurate.

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A recent article by Peter Sainsbury of Materials Risk, puts gold at around 66 years, and silver at around 22.

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A Free Market for Goods, Services and Money, by Keith Weiner is available online for free.

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    In addition to his epistemology and his theory of value, two other aspects of Menger’s theory - and, in different measures, of all Austrian theory - are worth noting at this point: marginalism and marketability. These two ideas make up the ground on which Austrian economists explain the spontaneous formation of prices and the origin of money.

    Menger is usually credited, along with Léon Walras (1834-1910) and William Jevons (1835-1882) with the creation of marginalism, i.e. the idea that the value of a good is not constant and independent of context, but that it depends on the utility that the next - or marginal - unit of that good will bring. In more concrete terms, it does not make sense to measure the "price of water", but only the price of "the next cup of water" in a given situation. Menger’s marginalism, however, is fundamentally different from the ideas put forth by Walras and Jevons. While the latter treat utility as a cardinal measure of value, and are concerned with how the average economic agent behaves, Menger rejects the method of averages altogether and defines utility as an ordinal     measure of value, focusing on the behavior of the marginal economic agent. In more concrete terms, while Walras and Jevons would use the mental construct of the so-called “average consumer” of cars, and explain how every new car creates smaller units of value for that consumer, Menger rejects the absurd notions that you can work with an average of the collective, or that you can quantify utility, focusing instead on the consumer that is on the verge of buying a car, and is therefore susceptible to slight changes in the market.

    An inevitable consequence of Menger’s notion of marginalism is the rejection of the ideas of equilibrium price and aggregate supply and demand that permeate positivist economics. Based on that notion, the author conceptualizes prices as fluctuating, due to the singular nature of every specific transaction, between two margins, each subject to different market pressures. The higher margin is the price above which the marginal buyer of a product decides to keep his money, instead of purchasing the good, whereas the lower margin is the price under which the marginal salesman decides to keep his product, instead of exchanging it for money.

    The idea of marketability refers to the utility of a good as a medium for indirect exchange, and relates, not so much to the formation of prices in a market as to the origin and nature of money. An individual that is unable to directly exchange what he produces for what he desires can still switch into a better position, by exchanging it for a good that is more divisible, durable and commonly accepted in trade, as that would bring him closer to his final goal. Marketability is thus conceptualized by Menger as the essential characteristic of a commodity that is commonly accepted in trade.

    The process of indirect exchange, based on the objective human need for efficiency in trade, leads to the selection of ever more marketable commodities, until one or more of these commodities become hegemonically accepted in trade - at which point it becomes money.  Menger does not go so far as to integrate in a systematic manner the objective factors that make certain commodities more marketable to the point of becoming money. He does, however, list several objective factors, such as durability, mobility and divisibility, that contribute to that process.

    Menger’s concepts of marginalism and marketability are still pillars of the Austrian School of Economics, but instead of expanding on those ideas and constructing a systematic account of its practical consequences, Mises adopts a highly attenuated version of marginalism in his theory of price formation, as well as a subjectivistic approach to marketability in his explanation of the origin of money. This shift towards subjectivism remains unquestioned by later works on Austrian Economics - including Rothbard and Reisman - and reaches its peak in Hayek’s work on price, production and money, as we will explore in more depth in a later section.

    In Human Action, Mises largely adopts Menger’s marginalism and, in a way, goes beyond his predecessor by formally establishing methodological individualism and the importance of the distinction between class and case probability.    In spite of that, by resorting to the method of imaginary constructs     and, more specifically, to the imaginary constructs of the plain and final states of rest, the author ignores the idea, presented in Principles of Economics, of the different pressures exerted by different agents on the two marginal prices.

    Despite not formulating the idea explicitly, Menger’s Aristotelian epistemology makes him approach the subject of prices based on what one observes in reality, not on a priori categories, and thus deal with the two prices one finds at a market. The bid price     is the lowest price one takes when attempting to sell a good, defined by the marginal seller's refusal to sell for less, while the ask price is the higher price one encounters when trying to buy a good, defined by the marginal buyer's refusal to buy for more. While Menger demonstrates that transactions fluctuate between those two prices, and that they may be subject to different market pressures, Mises uses the aprioristic method of imaginary constructs, and talks about a final state of rest, towards which every transaction converge without ever reaching.

    The method of imaginary constructs is very useful in what it is meant for: demonstrating the dynamic character of the market; the natures of the price mechanism and entrepreneurial action; and their role in making use of the information that is dispersed throughout society. In spite of that, a proper understanding of the spread between the bid and the ask prices is paramount to an objective conceptualization of the idea of marketability. Departing from mainstream Austrian Economics, the NASOE revisits that idea, demonstrating how the bid-ask spread is precisely the inverse of marketability.

    Marketability, understood as the essential characteristic responsible for turning a regular commodity into money, is the similarity in the price of a good in the two transactions involved in an indirect exchange. In other words, the most marketable commodity is the one which an individual can acquire through trade, keep in stock, and later exchange for another good losing as little value as possible in the process. Taking into consideration the fact that the loss of value during the span of those transactions occurs because of the difference in the price one pays at the acquisition of that good (ask) and the price one gets when selling that good (bid), we can define the most marketable good, and therefore money, as the good that has the smaller bid-ask spread in a market, and maintains it over time.

    In the absence of such an objective criteria and in a way conducive to his Kantian epistemology, Mises approaches marketability as an essentially subjective characteristic. It is worth noting that the author does not approach the subject in a manner completely separated from objective reality, listing several objective qualities that make a certain good more or less desirable as money in both Human Action and The Theory of Money and Credit. In spite of that, Mises argues that every valuation is ultimately subjective and independent of Man’s actual needs, which leads him to consider, albeit reluctantly, that credit tools can act as money-substitutes.

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Theory of Money: Mises

    The mainstream Austrian approach to money has many merits, especially when compared to the Positivism of mainstream Economics. The rejection of both the neutrality of money and the definition of inflation as a rise in the average price - and of the average prices of a market being a relevant variable altogether - are amongst its main achievements. Despite all its qualities, however, Mises’s monetary theory suffers from two severe flaws: the idea that credit instruments can serve as money, and an adoption, although in a very attenuated form, of the Quantitative Theory of Money (QTM).

    Neutrality of money is the assumption, adopted - or, more commonly, treated as an unimportant epiphenomenon unless one is dealing with the short term - by Positivist models, that variations in the supply of money alter its purchasing power in a uniform way, thus not influencing what are called “real variables”. Despite its explicit rejection by Keynes, it is a common trait to both simple IS-LM models as well as the more modern stochastic and dynamic general equilibrium (DSGE) models to treat the purchasing power of money as a uniform variable, that varies with the interest rate and, consequently, with changes in the supply of money. Opposing this view, Mises demonstrates how the information about the quantity of money is dispersed amongst individual agents in a society, and how prices are not adjusted simultaneously by those agents.

    In reality, agents who have earlier access to that information, such as big banks and businesses that deal with the government, can readjust their prices before other agents, and enjoy a larger purchasing power on their money until the totality of the market adjusts to the new supply of money. In that way, every monetary expansion brings with it a redistribution of wealth, from those who are more distant to those who are closer to the government. Contrary to Mises’s ideas however, we will show that this redistribution does not take place in a quantitative fashion, i.e. with a loss on the purchasing power of money related to its supply, but rather in a qualitative manner, as an increase in the risk of keeping money - which may or may not be properly quantified in a second moment by economic agents.

    Mises also rightfully opposes the use of the term “inflation” to denote an increase in the average level of prices in an economy. The author demonstrates how i) prices do not vary in a uniform manner, with multiple rising and falling prices wrongly “compensating” for each other in such an index and ii) variations in the value of money are one of many consequences in an artificial change in the money supply. Because of that, he argues that the term be used in its original meaning, denoting an increase in the quantity of money.

    The author also debunks what he considers to be simplistic versions of the QTM, which assume that the purchasing power of money varies in a way proportional to the variations in its supply. According to Mises, the dynamic and multivariate character of the market leads to the fact that changes in the supply of money affect a myriad of other variables - including the very demand for money. However, in The Theory of Money and Credit, despite his rejection of these theories, von Mises isolates what he considers to be the essence of the QTM: the idea that variations in the supply-demand relationship for money lead to changes in its value. His reluctance to completely reject that theoretical aspect is what leads some economists affiliated to the Austrian School of Economics, such as Peter Schiff (1963), to make several incorrect predictions about how the price of gold is supposed to rise.

    In opposition to these ideas by Mises, the NASOE argues that monetary commodities have near-constant marginal utility. While a car, for example, is used for specific purposes, money can be traded for any good, at any time, with a minimal loss of value. Therefore, unlike a second car, that derives its value from the actions that can only be performed by an individual with at least two cars, a second unit of money has virtually the same value as the first one. This characteristic makes it very useful for hoarding, causing it to have a large stock-to-flow ratio, defined as the time it would take, using the present production output of a commodity, to produce the total stock of that commodity that exists now. Most commodities have their stock-to-flow ratio measured in days or months - gold and silver the commodities with the smallest bid-ask spread in the modern world, have theirs measured in decades.

    This near-constant marginal utility, in addition to the large stock-to-flow ratio essentially means that market pressures that would usually change the value or price of a commodity are quickly counteracted by arbitrages in a market with very small spreads and very high quantities of hoarded commodity. If an agent seeks to buy gold for more than its ask price, he will swiftly do so without considerably changing the supply of gold available for purchase, whereas if one seeks to sell gold by less than its bid price, the entrepreneurs in the gold market will quickly buy it, and sell it at a margin. Because of that, it does not make sense to speak about the price of gold, just as it does not make sense to talk about the length of a meter - gold is the tool that is used to measure the price of other commodities, precisely because its market makes it nearly immune to changes in value. As Keith Weiner puts it, the value of gold changes in relation to other goods in the same way that the Earth is affected by the gravity of the objects in its surface.

    The same subjectivist epistemology that stops Mises from fully rejecting the QTM, also causes him to define money, wrongly, as the medium of exchange hegemonic in a society. That definition allows the author to consider a credit instrument as a form of money, utilizing concepts such as commodity money in contrast to fiduciary and fiat money. That idea is built upon even further by F.A. Hayek.

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Theory of Money: Hayek

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A Free Market for Goods, Services and Money (2012), Keith Weiner,   p. 99

    Hayek is a somewhat controversial writer among the Austrian School. Despite not subscribing to either Mises’s version of the Kantian approach nor Rothbard’s or Menger's Aristotelian approaches, the author deals with a large spectrum of subjects, from Law to Psychology. His genius and importance are beyond question, but the purpose of this article is to present his ideas with a much needed criticism - specifically, to his theory of money.

    Hayek’s epistemology is more subjectivistic than Mises’s. While the latter admitted the existence of certain self-evident axioms, even if a priori, the former saw knowledge as a social construct in a state of constant evolution. His focus on the processes through which information spreads and knowledge evolves led him to a theory of money that focuses on the processes through which a society selects its money, rather than the objective characteristics that cause a particular commodity to be chosen as money.

    In Monetary Theory and The Trade Cycle as well as in The Denationalization of Money, the author shares von Mises’s definition of money as a hegemonic medium of exchange. Building on that, Hayek sets out to demonstrate that the ideal money - be it commodity, fiduciary or fiat - is the one that emerges from the free competition between free companies, regardless of any specific characteristics. That theory is the intellectual foundation behind unbacked criptocurrencies such as Bitcoin and, as we will see, it contains a fundamental mistake.

    As the authors in the NASOE demonstrate, there is an essential difference between the hegemonic medium of exchange (currency) and the most marketable good in the economy (money). Just like its function as a numéraire, its function as a medium of exchange is but one of the multiple aspects of money that come as a consequence of its low bid-ask spread - the objective, essential aspect that makes it money. Another of these essential functions, neglected by the mainstream Austrian approach, is its function as an ultimate extinguisher of debt.

    Besides being a measure of value, a medium of exchange and playing several other roles, money extinguishes any debt that is payed with it. If an individual A contracts a debt in the amount of 100 grams of silver from individual B, that debt ceases to exist as soon as A pays the agreed amount to B. If, however, A pays his debt to B with a bond created by bank C entitling its bearer to 100 grams of silver, the debt does not cease to exist, but merely switches hands - now C, not A, owes B. That role is intrinsically linked to the fact that money is a commodity and, therefore, a real value.

    A currency that is backed by debt, like the Dollar, the Euro or the Real; or a token currency based solely on the expectations of a future purchase, like Bitcoin or the Renminbi, is unable to extinguish debt in perpetuity. If A were to pay his debt to B in dollars, he is merely transferring that debt to the Federal Reserve. If, conversely, he pays it with bitcoin, he is transferring that debt to the next person, if there is any, who is willing to accept B’s bitcoins. In both scenarios, the debt does not cease to exist, because no actual value was presented in return for its extinction. The NASOE expands upon this notion to establish that a monetary system that does not utilize proper commodity money, as is possible in Hayek’s model of competing alternatives, is therefore unable to extinguish debt and doomed to suffer cyclical credit crises.

    Due to its objective epistemology, the NASOE builds on the premise that the claim to an expected value in the future cannot be the most marketable commodity in an economy and, therefore, cannot be money. That same epistemology leads them to the realization that honest money can never be inflated, as it is impossible to produce a commodity with a value that is virtually immune to market pressures without effectively creating the value that commodity has. Based on that, Weiner defines inflation, not as an expansion on the supply of money, but as “an expansion in counterfeit credit”,     and goes on to explain the effects of that distortion on the credit market.

    In this first article, we have seen how the adoption of a flawed epistemology by Ludwig von Mises led to important mistakes in his theory of value, and how those mistakes resulted and significant flaws in the Austrian theory of money. If, with the appropriate epistemological correction, inflation is now conceptualized as an expansion of counterfeit credit, what are its consequences to the credit market? How does a theory of interest and economic cycles work in the context of an objective Praxeology? We shall answer these questions in the second part of this series of articles.

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