". . . neither author gave much attention to Hayek's
Prices and Production. It is just as well. The book is obscure and
incomprehensible."
-Professor Allan Meltzer, Mt. Pelerin Society meeting
Cannes, France, September 27, 1994
The late Friedrich A. Hayek founded the Mont Pelerin
Society in 1947 in an effort to regenerate support around the world for
free markets and free minds after the war. His contribution to economic
and social thought was the subject of the society's meetings in Cannes,
France, last September. Henri Lepage, the conference organizer, did a
marvelous job paying tribute to the society's originator.
A major debate developed at the conference between the
Austrians (followers of Mises) and the Monetarists (followers of
Friedman) regarding Hayekian economics. Allan Meltzer, the highly
respected monetarist at Carnegie-Mellon University, applauded Hayek's
emphasis on uncertainty, the costs of information, and the concepts of
coordination and spontaneous order, but rejected out of hand the
macroeconomic model and business cycle theory Hayek developed in Prices
and Production in the early 1930s. "The book is obscure and
incomprehensible," he declared.
His remark reminded me of Keynes's brusque dismissal of
Prices and Production: "one of the most frightful muddles I have ever
read" and a "thick bank of fog."1
After his presentation, I talked to Professor Meltzer
and asked him when he had last read Prices and Production. "Years ago,"
he replied. I suggested he needed to read it again. Far from
incomprehensible, I find Hayek's little volume clear and profound. And,
in the next generation, it may well come out of obscurity. According to
Stephen Kresge, editor of Hayek's works, a new edition of Prices and
Production is scheduled to be published by the University of Chicago
Press in the near future.
In Defense of Hayek
It's great to learn Hayek's breakthrough book will
again be in print. In my paper, "I Like Hayek," I extolled the virtues
of Hayek's Prices and Production. Recently, I purchased a first edition,
paying the princely sum of 350 pounds sterling. Did I overpay? Not at
all. Hayek's model forms the basis of a new macroeconomics that is far
superiorto the Keynesian, Monetarist, and Marxist models currently in
vogue. I believe Hayek's first edition will soon be worth substantially
more than a first edition of Keynes's General Theory.
In two of my books, The Structure of Production and
Economics on Trial, I resurrect the Hayekian model, transform it into a
useful four-stage model, and bring it up to date with empirical data. In
fact, the four-stage Hayekian model acts as my principal forecasting
model.
Among the many models used to forecast the economy and
the financial markets, I believe that Hayek's theory is in large measure
the right kind of model. As an applied financial economist, I use
Hayek's model on a regular basis to predict the direction of inflation,
output, and the prices of financial assets, including which country
funds to invest in. Of course, it is not the only ingredient I use to
forecast the business cycle, but it is always an important
consideration. The model does an excellent job of explaining the recent
boom-bust cycles in the United States and Japan.
The Austrian model offers a highly practical picture of
economic activity, one that the layman or businessman can easily relate
to. Based on Hayek's diagrams in Prices and Production (known as
Hayekian triangles), I have developed a four-stage model to analyze the
economy and forecast trends (see figure).
Time and Money?
This four-stage model offers a straightforward view of
the economic process. My students call it "Skousen's stairs," because it
looks like four steps. The vertical axis represents "time" and the
horizontal axis represents "money." As Roger Garrison points out, time
and money are the building blocks of a basic macroeconomic model.
2
As the diagram demonstrates, all goods and services
pass through a series of production processes, from raw commodities to
usable consumer products, whether it be shoes, computers, or food on the
table. Value is added at each stage as the inputs are transformed and
moved along toward the next stage, moving closer and closer to the final
retail market. Sir John Hicks recognized the common-sense approach of
this Austrian model: "The concept of production as a process in time ...
is not specifically 'Austrian.' It is the typical businessman's
viewpoint, nowadays the accountant's viewpoint, in the old days the
merchant's viewpoint." 3
In teaching this Austrian model, I find that students
of business, accounting, marketing, and engineering relate to it right
away. It is a logical approach, confirming that the purpose of all
economic activity is to take unusable, unfinished "inputs" and transform
them into more useable, finished "outputs" with the ultimate aim of
satisfying the wants and needs of consumers. The factors of production -
land, labor, and capital - work together to bring this about. Thus, we
see in this diagram that the capitalistic system is not only competitive
but cooperative as well, an often--overlooked characteristic.
The four-stage model of the economy can also be used to
demonstrate a correct version of Aggregate Supply and Aggregate Demand,
which are inaccurately portrayed in today's textbooks. It can show how
macroeconomic equilibrium is achieved, how economic growth takes place,
and how macroeconomic disequilibrium. creates a business cycle. (See
chapters 7-9 of The Structure of Production.)
It also offers a powerful new way to introduce the
principles of microeconomics, the theory of the firm and the role of
land, labor, capital and entrepreneurship.
In short, an updated version of Hayek's model forms the
basis of an exciting new tool in economics and can serve as the basis of
a versatile, fully-integrated model of both micro and macro in economics
textbooks. I am working on such a textbook, tentatively entitled
Economic Logic. Stay tuned.
Source: Mark Skousen, The Structure of Production (New
York University Press, 1990), p. 171, and Economics on Trial (Irwin
Professional Publishing, 1991, 1993), p. 35.
At the time of the original publication, Mark Skousen
was an economist at Rollins College, Winter Park, Florida 32789, and
editor of Forecasts & Strategies, one of the largest investment
newsletters in the country.
1. John Maynard Keynes, "The Pure Theory of Money: A
Reply to Dr. Hayek," Economics 11 (1931), pp. 394, 397.
2. Roger Garrison, "Time and Money: The Universals of
Macroeconomics Thinking," Journal of Macroeconomics 6:2 (Spring, 1984),
pp. 197--213.
3. John Hicks, Capital and Time (Clarendon Press,
1973), p. 12.
Reprinted with permission from The
Freeman, a publication of the Foundation for Economic Education, Inc.,
February 1995, Vol. 45, No. 2.
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