Ludwig Von Mises, F.A. Hayek and the Price Generation, Not Calculation, Debate

by | Jun 2, 2023

The problem economically with socialism is not calculation of given data, but the generation of the data that would be required, but does not yet exist.

The current generation of young people is far more sympathetic toward socialism than older people, and even more sympathetic than now-old people were when they were young. I’m not just talking about the old bromide that young socialist hearts become old capitalist brains; young people today are more sympathetic to socialism than at any point since surveys have been conducted. The question of how to think about the basic organization of society might be called “The Socialist Generation Debate.”

Hearing the claims of folks who advocate for socialism has brought up an older debate, one that seemed settled, but which has reemerged. This is the “Socialist Calculation Debate,” which addressed the question of how a centrally-planned economy could obtain the information needed to make the myriad production choices, and resource trade-offs, required to “run” an economy. It is possible to identify a number of origin stories for the debate, but one sensible one is the work of Enrico Barone, who sought to take the abstract Walrasian solutions to the problem of general equilibrium and show how a planning approach might be implemented, without the use of prices generated by competitive markets.

After 1919, the problem of how to organize a planned economy in a large nation was no longer hypothetical, because the nascent Soviet Union had to solve this problem in the concrete sense. A number of political economists, mathematicians, and social theorists took up the problem, using a variety of tools, most of them wildly inappropriate for the task at hand. One particular thinker, Otto Neurath published a 1919 paper entitled “Through War Economy to Economy in Kind.” The “in kind” phrase implied a system without money, where goods and services are provided “in kind” rather than for money, based on the needs of society’s members in accordance with socialist doctrine.

With a prescient recognition of the core of the problem, Ludwig von Mises wrote an article entitled “Economic Calculation in the Socialist Commonwealth.” The challenge of the paper was to require advocates of socialism to apply their critiques of capitalism—including concentrations of power, lack of information, and scarcity to a planned economy, and to show specifically how planning might do better.

Mises expanded and refined his argument in his 1922 book, Socialism. Before Mises’ contributions, the primary debate had been over the “J.S. Mill question”: are people “good enough” for socialism? Since citizens will need to be motivated by serving the public good rather than pursuing their individual self-interest, “we” will need to create a “new man” to people this brave new world. But Mises redirected the debate in a more technical direction: Is it possible for a non-market system to perform all the necessary “calculations” to be able to achieve results as good as those provided by a market system that generates prices as measures of opportunity costs?

It turns out that the way Mises was translated was, and is, unfortunate. The original title of his 1920 article was “Die Wirtschaftsrechnung im sozialistischen Gemeinwesen.” The word “Wirtschaftsrechnung” can be translated literally as “the economic arithmetic,” so “calculation” is not unfair. But even a cursory reading of Mises, and later expositors such as F.A. Hayek, reveal that the problem is not “calculating” the solution to set of equations where the data are given; the whole point of market processes is that exchange in a system of enforceable property rights generates the data that the system can then use to coordinate the conflicting plans and purposes of millions of people, in widely geographically separated locations.

This apparently minor word choice—I wish Mises had used a form of “Generieren,” or “to generate,” instead—has created grave difficulties ever since. After all, if the data are given, but dispersed, what is necessary is computing power. And, unsurprisingly, that is exactly how Mises’ opponents interpreted his argument. As Oskar Lange (sarcastically) put it:

Socialists have certainly good reason to be grateful to Professor Mises, the great advocatus diabol of their cause. For it was his powerful challenge that forced the socialists to recognize the importance of an adequate system of economic accounting to guide the allocation of resources in a socialist economy… Both as an expression of recognition for the great service rendered by him and as a memento of the prime importance of sound economic accounting, a statue of Professor Mises ought to occupy an honorable place in the great hall of the Ministry of Socialization or of the Central Planning Board of the socialist state.

It’s a bit like that scene from “Jaws.” Lange and the other socialists went out, saw the enormous, terrifying challenge of Mises, and then went back to the Ministry of Central Planning, and said, “You’re going to need a bigger computer.”

This mistaken interpretation of the Misesian “calculation” problem persists to today, and it’s getting worse. MIT economist Daron Acemoglu recently tweeted the question that is on many minds about knowledge and computational power.

What Acemoglu calls “Hayek’s argument” is actually Mises’ argument, reinterpreted through the Hayekian explanation of the role of prices conveying information about relative scarcity. Note: If the problem is “calculation,” then Acemoglu’s question is perfectly fair. Socialism is not impossible, it is just limited by the ability of society to replicate the function of the price system, gathering dispersed data and performing and updating calculations very rapidly. But that means that the function of markets is essentially mechanical, and there is nothing in principle that would prevent economic experts from solving this problem, with sufficient computing power.

But…wait, stop, don’t! The problem is not calculation of given data, but the generation of the data that would be required, but does not yet exist. An example will make it clear why this is true.

Suppose that our society has perfect information about the amount, quality, and location of all the resources available in every barn, closet, nook, and cranny of the economy. All this information is stored in an infinitely fast computer, meaning that computations are all performed instantly, with zero lag.

One thing we have to decide is how to produce a widget. There are two production processes, one that requires ten pounds of iron, and the other requires an ounce of gold. Which should we select?

Remember, we know everything that Lange and the socialists think we need to know. But they were, and are, quite wrong about that. The limiting factor is not calculating power, it is the capacity of a system to generate information. What we need to know is which resource has a greater opportunity cost, ten pounds of iron or an ounce of gold. The problem is easily solved by prices, so why not just use computers to calculate prices?

There’s the problem. Prices are not given; they are not inputs to allocation decision. Prices are the result of millions of people, all over the world, simultaneously choosing and reacting to the feedback that dynamically adjusting prices reveal about the consequences of choices by others. The “value” of iron and gold is the aggregated consequence of an impossibly complex interaction of subjective valuations of products and inputs.

The information required to “calculate” the correct choice literally does not exist until market processes are allowed to generate information about the relative opportunity costs of various resources. Having the amounts of resources in a database tells you very little. Only the fact that an ounce of gold costs more, in terms of value foregone, answers the question. But that information is not calculated by markets, it is generated by markets. It’s a different thing entirely.

For both these reasons—the new generation and it’s misinformed socialist sympathies, and the need to deemphasize mechanical calculation as misleading—I propose that from now on we make an effort to refer to this controversy as “The Socialist Generation Debate.” The problem cannot be solved by faster computers, or artificial intelligence. Socialism is not a viable alternative to market processes, and we need to make that case more persuasively, and to use words that actually convey what we mean.

Made available by the American Institute for Economic Research.

Michael Munger is Professor of Economics at Duke University and Senior Fellow of the American Institute for Economic Research. His degrees are from Davidson College, Washingon University in St. Louis, and Washington University.

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