What Drives Progress: The State or the Market?

Author: Ethan Yang
Date: November 11, 2020

Publication: American Institute for Economic Research

The famous American author, Mark Twain once said, “History never repeats itself, but it does often rhyme.”

A little over a hundred years ago President Woodrow Wilson kicked off a drastic expansion of government power and scope with the general assumption that the state can scientifically plan society. President Franklin Roosevelt greatly expanded on this idea with more government programs that promised to solve all sorts of societal ills and bring a level of centralized progress that the market couldn’t provide. This sparked caution and critique from those who favored market-based mechanisms advocated by economists such as Ludwig Von Mises.

Those like AIER argued that the market was far superior to the state in organizing society. This is the story of humanity, a struggle between the individual and the state. Those who believe in statism and those who believe in liberty.

Some thought that the free marketeers won the intellectual argument against the Keynesian statists in the 1970s. This is when stagflation completely upended the assumption that inflation and unemployment are always inversely related. It turned out that simply using expansionary monetary policy to drive economic growth was not as good of an idea as people thought. Post World War Two, Keynesian and big-state thinkers more generally braced for economic turmoil as spending dropped and people returned from war. The exact opposite happened as we learned again that the state does not drive economic growth. In the latter half of the 20th century, sweeping market reforms brought prosperity to countries all around the world. Another blow to the idea of state-run industry.

In 2013 Dr. Mariana Mazzucato, a leading economist of the Keynesian persuasion, published The Entrepreneurial State, which makes the case that the public sector can do far more than it is currently doing. That the private sector necessarily needs generous guidance and intervention from the state and in many cases is equal if not superior to the market in generating efficient and innovative services to society.

Well, here we go again.


Mazzucato and her allies posit that society can be so much better if we ditched market-based principles and delegated more responsibility to the state. Think people like Senator Elizabeth Warren.

This is why it is so necessary that economic heavyweights Dr. Deirdre McCloskey and Dr. Alberto Mingardi teamed up to write The Myth of the Entrepreneurial State. In a perfect world, one should read Mazzucato’s work as well, but doing so is not necessary to understand this book. The book can surely stand its own as the debate between the market and the state is a timeless conversation. The book also serves as an outstanding work of economic history and elaborates on many relevant economic topics, making it well worth anyone’s time, not just those closely following this debate.

The Idea of the Entrepreneurial State
The authors quote Mazzucato when they note that she remarked,

“Mainstream policy conceptions and prescriptions” are “normative postulations for a permanent state planning for more markets, mainly organizing ‘deregulation cum privatization’ rather than deliberate sets of conditional recommendations based on pondering alternatives and paths.”

Essentially this suggests that mainstream economic thought is dominated by ideas put forth by those like Milton Friedman who advocate for more privatization and deregulation to create growth. Mazzucato believes that this is unpredictable and suboptimal. Rather we should allow experts to ponder better alternatives with a scientific level of precision. Mazzucato likes to reference government programs like DARPA and The Manhattan Project as examples that the government can be very innovative.

This is an odd assertion, as I would agree that many economists hold the belief that privatization and markets are good. However, McCloskey and Mingardi point out that

“In the past century, government expenditure as a percentage of GDP drifted up towards 50 percent, compared with its pre-Keynesian level of 10 percent”… “ Democratically elected politicians, and behind them their constituents in the voting public were finally convinced that budget balance carried little or no normative weight.”

Contrary to Mazzucato’s point, there is no widespread consensus about the wonders of privatization amongst policymakers, just sloppy never-ending spending, and expansion.

This is how government works, especially democracies. It’s sloppy, it’s imprudent, it’s cumbersome and utterly desensitized to important market forces. If you empower the state to take on more and more planning of society, this problem will only exacerbate.

This is why the traditional economic consensus is that the government should stick to prescribed collective action problems and the private sector is where most activity should be conducted.

The authors are less shy about explaining their issue with Mazzucato’s grand idea when they write,

Mazzucato, a loyal daughter of the left, is suspicious of private gain, of the sort you pursue when you are shopping, say, and is therefore suspicious of people doing things for a private reward. She wants the State, advised by herself, to decide for you.

In essence that is what the idea of the entrepreneurial state ultimately boils down to. A rationalization of leftist political economy that has politicians and university professors jumping for joy. A very mild form of central planning that says that great things are possible as long as I am in charge.

What Drives Innovation
One of the main premises of those who believe in an entrepreneurial state is that public investment drives innovation. Mazzucato contends that the government should exert a sort of directionality over private businesses to drive them towards some optimal point determined by experts.

However, this is a false view of how innovation happens. Innovation comes from the bottom up, not from the top down. Free people acting in spontaneous and self-interested ways create the innovative products of tomorrow. Private firms jockeying for supremacy in handheld communication gave us the genius of the iPhone. Tesla produces some of the most advanced electric cars in the world available for mass consumption. Tesla CEO Elon Musk is the antithesis of the pondering bureaucrats that Mazzucato believes drive innovation. A man who offers four car models named S, 3, X, Y, sells flame throwers, privatized the space race, and now just launched a line of tequila.

If anything Elon Musk’s personality might be the ideal representation of how innovation happens. Not by deliberate planning by experts but by the rambunctious and oftentimes chaotic enterprise of free individuals.

Mazzucato and others like her contend that the state drives innovation. The authors disagree and state that

“The spring, we say, was the liberal idea and its emancipation of human creativity.”

As statists lament over the alleged “normative postulation” regarding privatization, McCloskey and Mingardi feel exactly the opposite. Getting the state out of the way of free individuals is the driving force behind innovation.

Does Government Investment Contribute to Innovation?
One of the convincing arguments made by Mazzucato and others like her is that the advanced military research agency known as DARPA invented things like the internet. Therefore, the state may be capable of impressive feats of innovation. If we invested more, then we would get better results.

The authors offer a rebuttal that can be summarized as “important if true.” They write

“The question is whether the American government envisioned anything like the internet. The answer is obvious: of course it didn’t. There was no “mission-oriented directionality.” The investments by the military look like Christopher Columbus’ voyages: the entrepreneurial State discovered the West Indies having left for the East Indies.”

Furthermore,

“In the 1960s the Air Force considered how a decentralized communications grid distinct from the traditional telephone might operate. But the Department of Defense then terminated the research and took no action.”

The authors also go on to point out that one of the leading developers of ARPANET, the technical foundation for the modern internet, observed that

“DARPA “would never have funded a computer network to facilitate email” because the telephone already served person-to-person communications perfectly.”

This shows that government contribution to creating things like the internet was not only unintentional, it may have been detrimental. Innovation is a chaotic endeavor that requires testing in the marketplace rather than the approval of experts. If invention and progress rested on the opinions of whether a room full of PhD’s thought it would be productive, we might not have made it past the horse-drawn plow.

One famous example is the advent of airborne flight, which government officials and many others understandably believed after a failed test that air travel was not obtainable. Looking back, these comments seem comedic but if we allow the state and its army of experts to impose “directionality,” innovation would grind to a halt.

In fact, in 1903 the New York Times predicted that flight was approximately 1-10 million years away. Then just a couple of months later two bicycle mechanics, Wilbur and Orville Wright made the first functional airplane in their garage, proceeding to change the world forever.

Innovation happens in the absence of state direction. It’s not innovative if it was completely planned.

The authors go even further to point out that oftentimes innovation takes place to outmaneuver the state as regulations bog down progress in various industries. This can partially explain things like the emergence of private equity over public equity in the world of finance. One of the key benefits of private equity is not having to abide by the cumbersome regulations that govern public financial markets.

Key Takeaways
This debate between whether or not the state can be a competent and worthy driver of innovation is a necessary one. Although the state continues to grow regardless of who wins this intellectual argument, it was thought that proponents of limited government had won this discussion in the late 20th century when the world experienced a sweeping wave of liberalization.

Today we find ourselves at a crossroads, with much of the Western world embracing or starting to consider a view of government that sees it as much more than just a steward of our rights. They see the state as a force of positive and competent change in a capacity that McCloskey and Mingardi believe is only possible through the market. That a more powerful and unrestricted government can reliably be a steward of society.

The idea of an entrepreneurial state as proposed by Mazzucato is a romantic one. It’s an idea that people can come together and through sheer will can make innovation happen. That some very smart people with fancy degrees and prestigious titles can steer society to an optimal location. The only problem with that is just about everything.

Mises Explains Why Socialism Fails

Author: Fabrizio Ferrari


One century ago, Mises began the socialist calculation debate, publishing his essay Economic Calculation in the Socialist Commonwealth (1920) and his subsequent treatise Socialism: An Economic and Sociological Analysis (1922). Later, Mises included his antisocialist arguments in Human Action 1949 , his magnum opus, especially in Sections III (about economic calculation) and V (about the economic impossibility of socialism).

Mises question on socialism is straightforward and simple: Can a socialist economy allocate resources efficiently as the free market does (cf. Mises [1949] 1999, p. 691)? In order to answer, we need to understand (1) how does a free market economy work, (2) the importance of economic calculation and entrepreneurship, and (3) the reason why socialism is intrinsically incompatible with the very idea of economy.

How does a free market economy work? It’s a system of human interactions wherein human beings make their choices of consumption and production—efficiently allocating different privately owned means (scarce resources with alternative uses) to satisfy different ends (consumptive wants). Since human ends (consumptive wants and desires) are subjectively valued, the means conducive to their satisfaction (production goods) are subjectively valued as well—according with the ends they satisfy, i.e., the consumptive goods and services they produce. Of course, a free market economy features human beings freely exchanging both consumptive and productive goods and services. Such exchanges occur at freely agreed ratios (prices), which express the essence of economy: satisfy (directly—via consumption—or indirectly—via production) chosen ends while giving up other less preferred ones.

It’s therefore clear that the concept of economy is linked with the idea of exchange—thus economics, the science concerned with economy, is more aptly labeled catallactics, i.e., the science of exchanges, from the Greek verb katallassein, meaning “to exchange” (cf. Mises [1920] 1990, pp. 15–16). But exchange requires previous estimation and calculation of pros and cons, assessing whether what we give up is actually worth less than what we gain (cf. Mises, [1949] 1999, p. 230).

In a free market economy, productive choices are governed by the profit and loss mechanism, whereby sovereign consumers signal—through their consumptive choices—which entrepreneurs they are willing to “reward” and which ones they are willing to “punish” (cf. Mises, [1949] 1999, pp. 295–97). When entrepreneurs supply consumers with desired consumptive goods (ends) at affordable prices (i.e., when they employ scarce productive means effectively and efficiently), they are rewarded by consumers with entrepreneurial profits—thus increasing entrepreneurs’ net worth, their capital (cf. Mises [1949] 1999, p. 231). Otherwise, consumers “punish” entrepreneurs through losses—decreasing entrepreneurs’ net worth, their capital, and turning their investments into malinvestments.

Thus, we understand the pivotal importance of entrepreneurship within a free market economy. Entrepreneurs, indeed, are the transmission belt between consumers’ wants (consumptive goods and services) and the means conducive to their satisfaction (production goods). Hence, entrepreneurs are the central cog of the economic choice mechanism. They (1) forecast, or speculate, which wants consumers are eager to satisfy, (2) perform the economic calculation establishing whether such wants can be efficiently satisfied, and (3) employ their own savings—skin in the game—while investing and buying production goods.

It’s hence evident that entrepreneurs are both speculators (they envisage future possible scenarios) and savers-capitalists (they save and accumulate the capital they later invest).

But speculation requires calculating tools—the price system. How does it emerge? Prices can emerge only while exchanging, buying, selling, purchasing, etc. (cf. Mises [1949] 1999, p. 202). Prices are, indeed, the ultimate expression of economic action—gaining something (say, a T-shirt) while foregoing something else in exchange (say, twenty dollars). Absent exchange, prices cannot originate: they would be not only impossible, but even inconceivable. Prices are, in fact, ratios (or tradeoffs) at which given exchanges are performed—if exchanges are abolished, prices will follow suit. Thus, were exchanges for particular goods (say, production goods) to be abolished, these same goods would cease to feature market prices.

Saving and capital accumulation , on the other hand, require private ownership to be in place: it’s indeed thanks to private ownership over their own capital—i.e., production goods—that entrepreneurs enjoy profits and suffer losses (cf. Mises [1949] 1999, pp. 254, 302–04, 704–05; and Mises [1920] 1999, p. 37), thus allowing the profit and loss mechanism to function properly and to steer productive activities on consumers’ behalf.

Here comes socialism: collectivizing production goods’ ownership, socialism abolishes entrepreneurship via two logical steps. First, entrepreneurs are “directly” abolished as capitalists, since they are legally forbidden from privately own and accumulate capital—i.e., production goods. Second, being all production goods now owned collectively, they can no longer be exchanged, bought, sold, etc.; hence, prices cannot emerge any more for these goods, and entrepreneurs can no longer compute costs of production while choosing what to produce and how to produce it—thus, entrepreneurs are “indirectly” abolished as speculators.

What about the fashionable critique of socialism proffered by Hayek and Robbins, i.e., that socialism is impossible because the central planner would lack (1) the knowledge and/or (2) the intelligence necessary to plan production? Hayek and Robbins, indeed, ground their critique of socialism on the central planner’s incapability of (1) obtaining all the relevant information necessary to plan production and/or (2) computing and calculating the optimal level of production (cf. Salerno 1990, pp. 57–64).

But central planner’s knowledge and intelligence are not the relevant argument for Mises. By means of abolition of entrepreneurs (the pivots of free market production choices), socialism itself gets incompatible with the very idea of economy—economize available means to attain desired ends.

If, indeed, production goods are collectively owned by a single entity (government, State, folk, etc.), how would it be possible to trade, to exchange, to sell and purchase them? It would be impossible—hence, there wouldn’t exist a market for them. But, without a market, how could prices emerge? Of course, they couldn’t (cf. Mises, [1920] 1990, p. 4). But again, without prices for production goods, how to compute costs of production? And profits and losses? Of course, it would be impossible as well (cf. Mises, [1949] 1999, p. 701). And, without profits and losses, a socialist economy has no tool conducive to efficient allocations of production goods.

Thus, without knowing whether revenues are higher or lower than costs (because costs cannot be computed), how would the socialist central planner know whether production is being carried out according to consumers’ desires? Of course, that would be impossible to know (cf. Mises, [1949] 1999, p. 209). A socialist central planner, in fact, even knowing which consumptive goods are desired most, would know neither which ones could be profitably produced, nor how to efficiently produce them (cf. Mises, [1920] 1990, p. 21). Absent market prices for production goods, no profit nor loss can be computed—hence, producers have no “compass” guiding them through production choices. Economic calculation is impossible for goods with no market (cf. Mises, [1949] 1999, pp. 215, 230).

So, why does socialism fail? It fails because it’s the very negation of the idea of economy—economizing man. Abolishing private ownership for production goods, socialism abolishes the market for them and makes it impossible for market prices to emerge and for costs of production to be computed—thus impairing the profit and loss mechanism. Socialism does not necessarily fail, as Hayek and Robbins thought, because the central planner lacks the knowledge and/or the intelligence needed to plan production; it fails, instead, because it abolishes entrepreneurship and economic calculation.

The US Dollar Collapse Is Greatly Exaggerated

The US Dollar Index has lost 10 percent from its March highs and many press comments have started to speculate about the likely collapse of the US dollar as world reserve currency due to this weakness.

These wild speculations need to be debunked.

The US dollar year-to-date (August 2020) has strengthened relative to 96 out of 146 currencies in the Bloomberg universe. In fact, the US Fed Trade-Weighted Broad Dollar Index has strengthened by 2.3 percent in the same period, according to data compiled by Bloomberg.

The speculation about countries abandoning the US dollar as the reserve currency is easily denied. The Bank of International Settlements reports in its June 2020 report that global dollar-denominated debt is at a decade high. In fact, dollar-denominated debt issuances year-to-date from emerging markets have reached a new record.

China’s dollar-denominated debt has risen as well in 2020. Since 2015, it has increased 35 percent while foreign exchange reserves fell 10 percent.

The US Dollar Index (DXY) shows that the United States currency has only really weakened relative to the yen and the euro, and this is based on optimistic expectations of European and Japanese economic recovery. The Federal Reserve’s dovish announcements may be seen as a cause of the dollar decline, but the evidence shows that the European Central Bank (ECB) and the Bank of Japan (BOJ) conduct much more aggressive policies than the US while economic recovery stalls. Recent purchasing manager index (PMI) declines have shown that hopes of a rapid recovery in Europe and Japan are widely exaggerated, and the Daily Activity Index published by Bloomberg confirms it. Furthermore, at the end of August, the balance sheet of the ECB stood at more than 54 percent of the eurozone GDP and the BOJ’s at 123 percent versus the Federal Reserve’s 33 percent.

What we have witnessed between March and August has just been a move back from an overbought exposure to the DXY index due to the severity of the crisis, with investors increasing positions in safe havens in February and March, only to reverse as markets and the economy recovered.

The lesson most governments should learn is that economies do not become more competitive or deliver stronger growth and exports with a weak currency. Emerging markets have shown in the past years how a weak currency does not help, and the eurozone has had a weak euro versus the US dollar for years just as its economy delivered disappointing growth.

The reason why the US dollar’s world reserve currency status is not at risk is simple: there are no contenders. The euro has redenomination risk, and the constant political and economic concerns about the union’s solvency weaken the currency, as historical performance has shown. It tends to strengthen relative to the US dollar when investors place unjustified hopes on the eurozone growth only to weaken afterward, when poor growth adds to an overly aggressive ECB policy, with negative rates and massive money supply growth. The yuan cannot become a world reserve currency if the country maintains capital controls and concerns about legal and investor security remain. The Chinese central bank (PBOC) is also extremely aggressive for a currency that is only used in 4 percent of global transactions according to the Bank of International Settlements.

We are living a period of unprecedented financial repression and monetary expansion. The US Dollar reserve status grows in these periods where countries ignore real demand for their domestic currency and decide to copy the Federal Reserve policies without understanding the global demand for their currency. When the tide turns, most central banks find themselves with poor reserves and lower demand for domestic currency risk, and the position of the US dollar as reserve currency strengthens.

This is not a year of US Dollar weakness or the end of its supremacy as reserve currency, what we are witnessing is a generalized fiat currency debasement through extreme monetary policy. That is the reason why gold and silver continue to rise despite hopes of an economic recovery that seems to be stalling. The US Dollar will likely remain the most demanded fiat currency, but the excessive monetary stimulus will ultimately damage the confidence in most fiat currencies.

Author:
Daniel Lacalle

Daniel Lacalle, PhD, economist and fund manager, is the author of the bestselling books Freedom or Equality (2020), Escape from the Central Bank Trap (2017), The Energy World Is Flat (2015), and Life in the Financial Markets (2014).

He is a professor of global economy at IE Business School in Madrid.

The Myth of the Failure of Capitalism

By Ludwig Von Mises

Capitalism allegedly has failed, has proven itself incapable of solving economic problems, and so mankind has no alternative, if it is to survive, than to make the transition to a planned economy, to socialism.

This is hardly a new idea. The socialists have always maintained that economic crises are the inevitable result of the capitalistic method of production and that there is no other means of eliminating economic crises than the transition to socialism. If these assertions are expressed more forcefully these days and evoke greater public response, it is not because the present crisis is greater or longer than its predecessors, but rather primarily because today public opinion is much more strongly influenced by socialist views than it was in previous decades.

I
When there was no economic theory, the belief was that whoever had power and was determined to use it could accomplish anything. In the interest of their spiritual welfare and with a view toward their reward in Heaven, rulers were admonished by their priests to exercise moderation in their use of power. Also, it was not a question of what limits the inherent conditions of human life and production set for this power, but rather that they were considered boundless and omnipotent in the sphere of social affairs.

The foundation of social sciences, the work of a large number of great intellects, of whom David Hume and Adam Smith are most outstanding, has destroyed this conception. One discovered that social power was a spiritual one and not (as was supposed) a material and, in the rough sense of the word, a real one. And there was the recognition of a necessary coherence within market phenomena which power is unable to destroy. There was also a realization that something was operative in social affairs that the powerful could not influence and to which they had to accommodate themselves, just as they had to adjust to the laws of nature. In the history of human thought and science there is no greater discovery.

If one proceeds from this recognition of the laws of the market, economic theory shows just what kind of situation arises from the interference of force and power in market processes. The isolated intervention cannot reach the end the authorities strive for in enacting it and must result in consequences which are undesirable from the standpoint of the authorities. Even from the point of view of the authorities themselves the intervention is pointless and harmful. Proceeding from this perception, if one wants to arrange market activity according to the conclusions of scientific thought—and we give thought to these matters not only because we are seeking knowledge for its own sake, but also because we want to arrange our actions such that we can reach the goals we aspire to—one then comes unavoidably to a rejection of such interventions as superfluous, unnecessary, and harmful, a notion which characterizes the liberal teaching. It is not that liberalism wants to carry standards of value over into science; it wants to take from science a compass for market actions. Liberalism uses the results of scientific research in order to construct society in such a way that it will be able to realize as effectively as possible the purposes it is intended to realize. The politico-economic parties do not differ on the end result for which they strive but on the means they should employ to achieve their common goal. The liberals are of the opinion that private property in the means of production is the only way to create wealth for everyone, because they consider socialism impractical and because they believe that the system of interventionism (which according to the view of its advocates is between capitalism and socialism) cannot achieve its proponents’ goals.

The liberal view has found bitter opposition. But the opponents of liberalism have not been successful in undermining its basic theory nor the practical application of this theory. They have not sought to defend themselves against the crushing criticism which the liberals have leveled against their plans by logical refutation; instead they have used evasions. The socialists considered themselves removed from this criticism, because Marxism has declared inquiry about the establishment and the efficacy of a socialist commonwealth heretical; they continued to cherish the socialist state of the future as heaven on earth, but refused to engage in a discussion of the details of their plan. The interventionists chose another path. They argued, on insufficient grounds, against the universal validity of economic theory. Not in a position to dispute economic theory logically, they could refer to nothing other than some “moral pathos,” of which they spoke in the invitation to the founding meeting of the Vereins für Sozialpolitik [Association for Social Policy] in Eisenach. Against logic they set moralism, against theory emotional prejudice, against argument the reference to the will of the state.

Economic theory predicted the effects of interventionism and state and municipal socialism exactly as they happened. All the warnings were ignored. For fifty or sixty years the politics of European countries has been anticapitalist and antiliberal. More than forty years ago Sidney Webb (Lord Passfield) wrote: “it can now fairly be claimed that the socialist philosophy of to-day is but the conscious and explicit assertion of principles of social organization which have been already in great part unconsciously adopted. The economic history of the century is an almost continuous record of the progress of Socialism.”2 That was at the beginning of this development and it was in England where liberalism was able for the longest time to hold off the anticapitalistic economic policies. Since then interventionist policies have made great strides. In general the view today is that we live in an age in which the “hampered economy” reigns—as the forerunner of the blessed socialist collective consciousness to come.

Now, because indeed that which economic theory predicted has happened, because the fruits of the anticapitalistic economic policies have come to light, a cry is heard from all sides: this is the decline of capitalism, the capitalistic system has failed!

Liberalism cannot be deemed responsible for any of the institutions which give today’s economic policies their character. It was against the nationalization and the bringing under municipal control of projects which now show themselves to be catastrophes for the public sector and a source of filthy corruption; it was against the denial of protection for those willing to work and against placing state power at the disposal of the trade unions, against unemployment compensation, which has made unemployment a permanent and universal phenomenon, against social insurance, which has made those insured into grumblers, malingers, and neurasthenics, against tariffs (and thereby implicitly against cartels), against the limitation of freedom to live, to travel, or study where one likes, against excessive taxation and against inflation, against armaments, against colonial acquisitions, against the oppression of minorities, against imperialism and against war. It put up stubborn resistance against the politics of capital consumption. And liberalism did not create the armed party troops who are just waiting for the convenient opportunity to start a civil war.

II
The line of argument that leads to blaming capitalism for at least some of these things is based on the notion that entrepreneurs and capitalists are no longer liberal but interventionist and statist. The fact is correct, but the conclusions people want to draw from it are wrong-headed. These deductions stem from the entirely untenable Marxist view that entrepreneurs and capitalists protected their special class interests through liberalism during the time when capitalism flourished but now, in the late and declining period of capitalism, protect them through interventionism. This is supposed to be proof that the “hampered economy” of interventionism is the historically necessary economics of the phase of capitalism in which we find ourselves today. But the concept of classical political economy and of liberalism as the ideology (in the Marxist sense of the word) of the bourgeoisie is one of the many distorted techniques of Marxism. If entrepreneurs and capitalists were liberal thinkers around 1800 in England and interventionist, statist, and socialist thinkers around 1930 in Germany, the reason is that entrepreneurs and capitalists were also captivated by the prevailing ideas of the times. In 1800 no less than in 1930 entrepreneurs had special interests which were protected by interventionism and hurt by liberalism.

Today the great entrepreneurs are often cited as “economic leaders.” Capitalistic society knows no “economic leaders.” Therein lies the characteristic difference between socialist economies on the one hand and capitalist economies on the other hand: in the latter, the entrepreneurs and the owners of the means of production follow no leadership save that of the market. The custom of citing initiators of great enterprises as economic leaders already gives some indication that these days it is not usually the case that one reaches these positions by economic successes but rather by other means.

In the interventionist state it is no longer of crucial importance for the success of an enterprise that operations be run in such a way that the needs of the consumer are satisfied in the best and least expensive way; it is much more important that one has “good relations” with the controlling political factions, that the interventions redound to the advantage and not the disadvantage of the enterprise. A few more Marks’ worth of tariff-protection for the output of the enterprise, a few Marks less tariff-protection for the inputs in the manufacturing process can help the enterprise more than the greatest prudence in the conduct of operations. An enterprise may be well run, but it will go under if it does not know how to protect its interests in the arrangement of tariff rates, in the wage negotiations before arbitration boards, and in governing bodies of cartels. It is much more important to have “connections” than to produce well and cheaply. Consequently the men who reach the top of such enterprises are not those who know how to organize operations and give production a direction which the market situation demands, but rather men who are in good standing both “above” and “below,” men who know how to get along with the press and with all political parties, especially with the radicals, such that their dealings cause no offense. This is that class of general directors who deal more with federal dignitaries and party leaders than with those from whom they buy or to whom they sell.

Because many ventures depend on political favors, those who undertake such ventures must repay the politicians with favors. There has been no big venture in recent years which has not had to expend considerable sums for transactions which from the outset were clearly unprofitable but which, despite expected losses, had to be concluded for political reasons. This is not to mention contributions to non-business concerns—election funds, public welfare institutions and the like.

Powers working toward the independence of the directors of the large banks, industrial concerns, and joint-stock companies from the stockholders are asserting themselves more strongly. This politically expedited “tendency for big businesses to socialize themselves,” that is, for letting interests other than the regard “for the highest possible yield for the stockholders” determine the management of the ventures, has been greeted by statist writers as a sign that we have already vanquished capitalism.3 In the course of the reform of German stock rights, even legal efforts have already been made to put the interest and well-being of the entrepreneur, namely “his economic, legal, and social self-worth and lasting value and his independence from the changing majority of changing stockholders,”4 above those of the shareholder.

With the influence of the state behind them and supported by a thoroughly interventionist public opinion, the leaders of big enterprises today feel so strong in relation to the stockholders that they believe they need not take their interests into account. In their conduct of the businesses of society in those countries in which statism has most strongly come to rule—for example in the successor states of the old Austro-Hungarian Empire—they are as unconcerned about profitability as the directors of public utilities. The result is ruin. The theory which has been advanced says that these ventures are too large to be run simply with a view toward profit. This concept is extraordinarily opportune whenever the result of conducting business while fundamentally renouncing profitability is the bankruptcy of the enterprise. It is opportune, because at this moment the same theory demands the intervention of the state for support of enterprises which are too big to be allowed to fail.

III
It is true that socialism and interventionism have not yet succeeded in completely eliminating capitalism. If they had, we Europeans, after centuries of prosperity, would rediscover the meaning of hunger on a massive scale. Capitalism is still prominent enough that new industries are coming into existence, and those already established are improving and expanding their equipment and operations. All the economic advances which have been and will be made stem from the persistant remnant of capitalism in our society. But capitalism is always harrassed by the intervention of the government and must pay as taxes a considerable part of its profits in order to defray the inferior productivity of public enterprise.

The crisis under which the world is presently suffering is the crisis of interventionism and of state and municipal socialism, in short the crisis of anticapitalist policies. Capitalist society is guided by the play of the market mechanism. On that issue there is no difference of opinion. The market prices bring supply and demand into congruence and determine the direction and extent of production. It is from the market that the capitalist economy receives its sense. If the function of the market as regulator of production is always thwarted by economic policies in so far as the latter try to determine prices, wages, and interest rates instead of letting the market determine them, then a crisis will surely develop.

Bastiat has not failed, but rather Marx and Schmoller.

1.[The translator wishes to gratefully acknowledge the comments and suggestions of Professor John T. Sanders, Rochester Institute of Technology, and Professor David R. Henderson, University of Rochester, in the preparation of the translation.]
2.Cf. Webb, Fabian Essays in Socialism….ed. by G. Bernard Shaw (American ed. edited by H.G. Wilshire. New York: The Humboldt Publishing Co., 1891), p. 4.
3.Cf. Keynes, “The End of Laisser-Faire,” 1926, see, Essays in Persuasion (New York: W.W. Norton & Co., Inc., 1932), pp. 314–15.
4.Cf. Passow, Der Strukturwandel der Aktiengesellcschaft im Lichte der Wirtschaftsenquente, (Jena 1939), S. 4.

GDP, Free Trade, and Prosperity

By Matthew Tanous

In my recent social media discussions on the subject of free trade, a certain thread of argument related to GDP has become more common. The argument, such as it goes, asserts that international trade is not very important as a component of GDP. The net impact of trade is a small impact on GDP, with imports and exports generally “balancing” each other out, leaving just a few percentage points either way. Trade (and immigration) restrictions seem like a small price to pay, economically, according to this framework.

Despite its superficial validity, this is a wholly erroneous way to look at the problem of generating prosperity and rests primarily on two economic fallacies. The first is the use of the GDP aggregate as a viable measure of national prosperity, which has been heavily criticized in other contexts.

Many criticisms of the concept of GDP focus on the concept’s formulaic assumption that government spending is inherently productive. This assumption has resulted in many errors, including economists and laymen alike in the 1970s and 80s looking at the growing GDP of the USSR and assuming the Soviets would economically overtake the West as a result. To a lesser degree, the same fallacy has driven concerns about China’s growing economy in the last couple of decades. However, in the context of international trade, the aggregate GDP fails to measure human welfare in yet another way. GDP’s focus on the supposed “net production” of a country fails to see the absolute production of a country and how much is involved in trade.

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Policing Can and Should Be Privately Provided (Video)

The U.S. is at a crossroads on the topic of policing. The usual binary has framed the debate: support the police or defund the police. There is a third and better option. I was very pleased to be invited by Reason to appear in a video about private alternatives in which the police function is part of the free enterprise system. It’s a very good video that highlights how private security is right now working better than government-based policing. This is the true American way.

It Starts: Mortgage Delinquencies Suddenly Soar at Record Pace

By Wolf Richter

OK, it’s actually worse. Mortgages that are in forbearance and have not missed a payment before going into forbearance don’t count as delinquent. They’re reported as “current.” And 8.2% of all mortgages in the US – or 4.1 million loans – are currently in forbearance, according to the Mortgage Bankers Association. But if they did not miss a payment before entering forbearance, they don’t count in the suddenly spiking delinquency data.

The onslaught of delinquencies came suddenly in April, according to CoreLogic, a property data and analytics company (owner of the Case-Shiller Home Price Index), which released its monthly Loan Performance Insights today. And it came after 27 months in a row of declining delinquency rates. These delinquency rates move in stages – and the early stages are now getting hit:

Transition from “Current” to 30-days past due: In April, the share of all mortgages that were past due, but less than 30 days, soared to 3.4% of all mortgages, the highest in the data going back to 1999. This was up from 0.7% in April last year.

More information is here…

The Dangers Posed by State-Controlled Digital Currency

By Claudio Grass

It doesn’t require too dark an imagination to realize the gravity of the concerns over the digital yuan. China is a true pioneer when it comes to surveillance, censorship, and political oppression, and the digital age has given the state an incredibly efficient and effective arsenal. Adding money to that toolkit was a move that was planned for many years and it is abundantly clear how useful a tool it can be for any totalitarian regime. The ability to track citizens’ transactions, access their financial data, control and freeze the account of anyone that presents a potential threat, it all opens the door to the ultimate oppression: total control over private resources, over people’s livelihoods and their capacity to cover their basic needs.

But we don’t even have to wait for the first signs of abuse of the system. As part of the government’s COVID relief spending packages, digital vouchers were loaded to Chinese citizens’ smartphones to encourage them to spend in their local stores. According to Dr. Shirley Yu, visiting fellow at the London School of Economics: “Digital coupons allow the Chinese government to trace the usage of these coupons,” and they “allow the government to know which sector is most helped, who uses it and where money is actually spent.” Of course, if the government has access to data that allows them to check if their policies were well transmitted and if the money was spent as they intended, they can also use that data to check and trace any transactions for any other purpose.

Xu Yuan, a senior researcher with Peking University’s Digital Finance Research Cen­tre, highlighted the regulatory benefits of making all cashflow in society traceable. “In theory, following the launch of the digital yuan, there will be no transaction that regulatory authorities will not be able to see – cash flows will be completely traceable,” Xu said in an interview. Of course, this thought is scary enough on its own, but it becomes infinitely more terrifying when those who control the system have a very long track record of abuse and blatant disregard for basic rights and liberties.

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What Germany Must Do for a Speedy Recovery

Written by Philipp Bagus

On June 29, the German parliament reacted as parliaments normally do when there is a problem, namely, by allowing the government to spend more. In order to respond to the economic difficulties due to the corona epidemic and the government restrictions, it passed a typical Keynesian stimulus package in order to boost aggregate demand.

The self-set goal of the economic stimulus package is to lead the German economy back to a “sustainable growth path…that will secure jobs and prosperity.” I interpret the term “sustainable growth” here as growth that individuals really want and would support through their voluntary actions in a market economy. It is therefore a growth that is not based on fiscal subsidies and growing public debt and that would collapse without these subsidies or in the event of public overindebtedness. To wit, state funding of new structures that are only kept alive by continuous state subsidies cannot be described as sustainable growth.

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Household Debt meets Corporate Debt

Households take on debt for a variety of reasons, such as financing education and purchasing a house. Household debt in the U.S. increased from 59% of GDP in 1990 to 98% of GDP in 2009, and many economists argue that the Great Recession was “Great” because household leverage was so high at the time. It has since declined steadily. In fact, in 2019, household debt and corporate debt were the closest they have been in nearly 30 years.