WEBVTT NOTE What the Austrians Say about Prediction 1 00:00:00.000 --> 00:00:24.320 When I was asked to speak about what the Austrians say about prediction, I first thought that I would just say that the Austrians say you can't do it and then just sit down, but I predicted that that wouldn't have altogether good consequences for me if I did that, and in any case, it wouldn't be altogether true. 2 00:00:24.320 --> 00:00:30.920 The Austrians don't say there's absolutely nothing at all you can say about the future, nothing that you can predict. 3 00:00:30.920 --> 00:00:41.020 However, there are, in the Austrian view, severe limitations to what one can predict about the economy and what one can say about the future. 4 00:00:41.020 --> 00:00:45.220 And I want to go into some of the reasons for this. 5 00:00:45.220 --> 00:00:58.720 Now, the Austrian method of economics, made most clear by Mises in his great book of 1949, Human Action, 6 00:00:58.720 --> 00:01:06.620 is a deductive method, what he calls a praxeological method, he talks about the science of praxeology. 7 00:01:06.620 --> 00:01:35.120 I find people who read Human Action always find the section which Mises discusses these issues, the part about praxeology, which is about the first 140 or so pages of the book, the most difficult part of the book, and they always assign this, when we have Mises University, they always assign this part to me to lecture about. 8 00:01:35.120 --> 00:01:41.120 I think they're trying to tell me something, but I'm not going to try to figure out what it is. 9 00:01:41.120 --> 00:01:50.120 So what does Mises in the human action say? What is it that the economist is doing? 10 00:01:50.120 --> 00:01:57.120 Well, according to Mises, the economist is starting from the axiom that human beings act. 11 00:01:57.120 --> 00:02:02.120 The economist is considering what is the nature of action. 12 00:02:02.120 --> 00:02:12.120 How can we tell about what any action is, no matter what kind of action it is, just by thinking about the concept of action. 13 00:02:12.120 --> 00:02:18.120 Imagine any particular action you want, say my lecturing or you're listening to me, anything you like. 14 00:02:18.120 --> 00:02:25.120 We say, what is involved in the structure of the action, just in the action as such? 15 00:02:25.120 --> 00:02:28.120 What does any action have? 16 00:02:28.120 --> 00:02:32.120 If those of you familiar with the way Mises develops, 17 00:02:32.120 --> 00:02:39.120 the notion will remember that he gets a whole lot of things about action just from the concept, 18 00:02:39.120 --> 00:02:43.120 like any action involves the use of means to achieve ends, 19 00:02:43.120 --> 00:02:50.120 and in each action a person is trying to achieve his most highly valued goal. 20 00:02:50.120 --> 00:02:58.120 So, what he's doing is to elaborate deductively various consequences of the notion of action. 21 00:02:58.120 --> 00:03:06.120 Now, when he's doing this, remember I just said he's considering the form of any action, whatever it is. 22 00:03:06.120 --> 00:03:09.120 He's not considering particular actions. 23 00:03:09.120 --> 00:03:24.120 So he's not considering, say, how much, say, someone demands oranges, what the person's demand for oranges or apples is, or how much someone values money. 24 00:03:24.120 --> 00:03:38.120 He's considering what is involved in any action at all, and he won't be coming up with any laws in economics about specific quantities that people want. 25 00:03:38.120 --> 00:03:51.120 One, you won't be having any laws such as that if you increase the supply of money by three percent, prices will go up by such and such an amount. 26 00:03:51.120 --> 00:04:00.120 There won't be just from the notion of action, we won't be able to come up with any relationships of that kind, 27 00:04:00.120 --> 00:04:07.120 because we're just considering, as I say, just the structure of action won't be coming up with quantitative estimates. 28 00:04:07.120 --> 00:04:30.120 Estimates. Now, you might say, well, this doesn't show that you can't come up with such estimates. All that shows is that you can't come up with them by praxeology. You can't come up with them by the deductive process of reasoning that Mises has elaborated and carried out in his own economics. 29 00:04:30.120 --> 00:04:36.920 But, Mises, as you know, those of you who read him know, always has, anticipates, objects, and has an answer for them. 30 00:04:36.920 --> 00:04:44.120 He says, not only is it the case that the deductive method won't come up with quantitative laws of economics, 31 00:04:44.120 --> 00:04:47.120 he doesn't think there's any other way of doing it either. 32 00:04:47.120 --> 00:04:54.520 He says, in economics, in matters dealing with human action, unlike the physical sciences, 33 00:04:54.520 --> 00:05:02.020 There are just too many variables involved for us to be able to come up with quantitative laws. 34 00:05:02.020 --> 00:05:09.720 These quantitative laws would be ones, obviously not deductive consequences of action, but just empirical laws, 35 00:05:09.720 --> 00:05:14.920 say the kind we had in physics, that we can't come up with them because there are too many variables 36 00:05:14.920 --> 00:05:21.220 and we can't do controlled experiments as we can in the physical sciences. 37 00:05:21.220 --> 00:05:28.820 So he said, really, you can't get quantitative predictions in economics. 38 00:05:28.820 --> 00:05:35.820 You can't say, have any such predictions, either by praxeology or any other method. 39 00:05:35.820 --> 00:05:41.220 Now, so as if this weren't bad enough for the notion of prediction, 40 00:05:41.220 --> 00:05:49.020 there's another element that must be considered in bearing on this topic. 41 00:05:49.020 --> 00:06:00.920 That is to say, as Mises developed the notion of economy, various matters, economic matters, such as inflation or the business cycle, 42 00:06:00.920 --> 00:06:14.920 he always, Austrian economist, he always started from, built up the total thing he was, the topic he was concerned with, from individual's actions. 43 00:06:14.920 --> 00:06:28.920 He was concerned, say, let's take an example of this. Suppose we have the government increases the supply of money. What will be the effect on prices? 44 00:06:28.920 --> 00:06:40.920 Well, we've already said we can't give quantitative estimates, but what can we say about the increase of supply of money on prices? 45 00:06:40.920 --> 00:06:52.920 Well, as the Austrian Mises analyzes, what we don't do is say, we try to consider the economy as a whole. 46 00:06:52.920 --> 00:07:01.920 We don't try to come up with some relationship, say the supply of money has gone up by a certain amount, 47 00:07:01.920 --> 00:07:08.920 therefore prices, all prices will rise by a certain amount. 48 00:07:08.920 --> 00:07:14.200 Irving Fisher had a famous of the equation of exchange which is his 49 00:07:14.200 --> 00:07:20.100 follower in that he said this respect, Milton Friedman has the notion that just 50 00:07:20.100 --> 00:07:26.200 by plugging in the amount of increase into this equation of exchange you can 51 00:07:26.200 --> 00:07:33.480 come up with an amount that prices will rise as a whole. Fisher and Friedman 52 00:07:33.480 --> 00:07:37.960 and their followers would admit that not all prices rise exactly the same amount 53 00:07:37.960 --> 00:07:53.960 But they think just from some information about how the supply of money is increasing the economy, we can come up with some general statement from this equation of exchange of how prices rise. 54 00:07:53.960 --> 00:07:56.960 Now the Misesian, the Austrian way is different. 55 00:07:56.960 --> 00:08:06.640 What we would say is that supposing money is injected into the economy, well, the people 56 00:08:06.640 --> 00:08:12.360 who get this money first will find they have a lot of money that they didn't have before 57 00:08:12.360 --> 00:08:18.960 to spend on various things, so they'll have an increase in their income. 58 00:08:18.960 --> 00:08:26.040 And then the things they'll find first, since they're the ones who have the money, we have 59 00:08:26.040 --> 00:08:30.960 by Hypothesis. The other people haven't gotten money yet. Price, they find the prices won't 60 00:08:30.960 --> 00:08:36.600 rise for them. They'll, they will rise to a certain extent on goods they spend their 61 00:08:36.600 --> 00:08:42.280 money on, but they'll be doing very well because the prices won't get arisen while they're 62 00:08:42.280 --> 00:08:47.600 spending the money. Now the people who get the money from them will also be in a fairly 63 00:08:47.600 --> 00:08:54.280 good position because they'll get, have more money and they'll be able to spend it on various 64 00:08:54.280 --> 00:09:01.680 Most goods, the prices of which haven't risen yet. But as the money spreads more and more, 65 00:09:01.680 --> 00:09:09.040 people who have the money, the new money will find that most goods have risen in price already. 66 00:09:09.040 --> 00:09:16.320 So as the people later on in the chain of circulation, as money is going on, will find 67 00:09:16.320 --> 00:09:22.440 that for them the prices have risen, the goods they want to buy, so they won't be benefiting 68 00:09:22.440 --> 00:09:52.440 very much, if at all, from any increase in money. So you see the basic difference between the Misesian way of analyzing the increase in supply of money and this method that I've mentioned, say that Irving Fisher and Milton Friedman have, the Austrian Misesian way is considering what the effects are on particular people. So you see, you can see how this makes prediction much more difficult and also makes more difficult 69 00:09:52.440 --> 00:10:04.440 trying to use Austrian theory to try to use it in particular financial decisions. 70 00:10:04.440 --> 00:10:13.440 Supposing somebody were to say, well, I think it's very likely the government is going to continue inflating money, 71 00:10:13.440 --> 00:10:19.440 so what I'm going to do is borrow some money and then I'll make a lot of money 72 00:10:19.440 --> 00:10:24.000 money because I'll be able to invest it, make some money in my business and then 73 00:10:24.000 --> 00:10:29.440 when I pay back the loan if I'm right that inflation has gone up more by what 74 00:10:29.440 --> 00:10:34.680 I predicted and so I predicted more it would rise by more than other people 75 00:10:34.680 --> 00:10:41.120 would. I'll be able to pay it back in money of less value so I'll make a big 76 00:10:41.120 --> 00:10:45.640 profit on the deal. Now on the Austrian way this would be much more difficult to 77 00:10:45.640 --> 00:10:52.920 to carry off because whether the person made the profit would depend on where 78 00:10:52.920 --> 00:10:59.240 he is in the chain of circulations of money. Is he someone who's gotten the 79 00:10:59.240 --> 00:11:03.960 money right away or in one of the first to get the new injections of money that 80 00:11:03.960 --> 00:11:08.440 he might do very well but if he gets it only one of the 81 00:11:08.440 --> 00:11:15.480 later people to get it then he won't get, he won't benefit as much, he won't be 82 00:11:15.480 --> 00:11:21.480 be able to do this sort of calculation of the kind I've just imagined. 83 00:11:21.480 --> 00:11:34.480 Now, let's take another example of how the Austrian stress on individual action limits predictability. 84 00:11:34.480 --> 00:11:41.680 Now, several of the other speakers have mentioned the Austrian theory of business cycle in which 85 00:11:41.680 --> 00:11:50.920 the government increases the supply of bank credit which drives the money rate of interest 86 00:11:50.920 --> 00:11:58.800 below the natural rate of interest and this induces people to invest in higher stages 87 00:11:58.800 --> 00:12:27.800 is a production they otherwise would have and when the expansion stops then it comes about that these investments and people return to the natural rate of interest based on their rate of time preference, it'll turn out these investments in the higher stages were unproductive, that there's been over investment, these will have to be liquidated. 88 00:12:27.800 --> 00:12:39.800 Now, some economists have objected to this account. They say, well, what happens when people find out about the Austrian business cycle theory? 89 00:12:39.800 --> 00:12:46.800 Then they'll just, when the government increases the money supply, they just won't invest. 90 00:12:46.800 --> 00:12:53.800 So the people will be able to anticipate that these investments won't work out. 91 00:12:53.800 --> 00:12:58.800 So the Austrian business cycle theory won't operate at all. 92 00:12:58.800 --> 00:13:01.800 People just anticipate what the government is going to do. 93 00:13:01.800 --> 00:13:08.800 So the argument there is that people can, by knowing about the effects of the government measures, 94 00:13:08.800 --> 00:13:16.800 they can anticipate, they can predict what's going to happen, and then they won't follow the overexpansion. 95 00:13:16.800 --> 00:13:39.800 expansion, we can make this more general, the rational expectations theory of Robert Lucas at the University of Chicago and his followers tends to say that government monetary policy designed to change the economy is always ineffective because people will be able to anticipate the consequences of it. 96 00:13:39.800 --> 00:13:55.800 So you see, now from the Austrian point of view, the problem with this way of looking at things is that it's assuming that people can, it's taking people as acting together in a way. 97 00:13:55.800 --> 00:14:04.400 in a way, as if everybody acted in the same way, everyone is successful in anticipating the government's action. 98 00:14:04.400 --> 00:14:15.800 It doesn't consider that from how certain individuals might react in this way and then if they not invest, others would. 99 00:14:15.800 --> 00:14:23.000 What the Austrian view is that one can't take sort of an aggregate of all investors, all businessmen and say, 100 00:14:23.000 --> 00:14:50.000 Everyone will react in this way, so everyone will rationally anticipate what the government is going to do, and by doing so, cancel the effect, and we'll just have to, in the Austrian view, just take effects of individuals, just say, well, certain individuals will act in one way, others will do it in a different way, and one can't predict that all individuals will react in a certain way to the same government policy. 101 00:14:50.000 --> 00:15:00.000 Mises, I should say, was well aware of the effect that people can react in a way to counter government policy. 102 00:15:00.000 --> 00:15:13.000 In fact, he was one of the first to point out that government inflationary policy can be failed to achieve the ends that the government wants by it because of people's anticipation. 103 00:15:13.000 --> 00:15:26.000 He rejected any kind of rigid or mechanical view in which everyone at the same time responds in the same way to the government policy. 104 00:15:26.000 --> 00:15:42.000 Now, I should say that if Mises did consider the case where just people wouldn't altogether respond to government increase in money supply, 105 00:15:42.000 --> 00:15:52.000 Money Supply, and he said, well in that case there wouldn't be a business cycle. This is just not a problem for his theory. He's trying to explain the business cycles that do happen, not the ones that don't. 106 00:15:52.000 --> 00:16:05.000 He had a very good article on this in the British journal, Economica, which came called Elastic Expectations and the Business Cycle. This came out in, I think, 1943. 107 00:16:05.000 --> 00:16:28.000 Now, let me give you one last illustration of how the Austrian view of individual that one has to, in economics, one has to deal only with individuals in their action, one isn't dealing in aggregates of how everyone reacts at the same time, is crucial. 108 00:16:28.000 --> 00:16:39.500 As many of you know, Mises developed a criticism of government intervention into the economy of this kind. 109 00:16:39.500 --> 00:16:44.500 He said, well, let's suppose the government imposes some measures such as price control. 110 00:16:44.500 --> 00:16:50.500 It'll say the government thinks people aren't getting certain goods. 111 00:16:50.500 --> 00:17:03.500 He gives one of his essays. He wants poor people to be able to get milk at low cost, so the government imposes price control, maximum prices on milk. 112 00:17:03.500 --> 00:17:13.500 The result will be we will have a shortage of milk. The policy will fail from the point of view of the people who wanted it. 113 00:17:13.500 --> 00:17:17.660 so then he said well what will happen then either we the government will have 114 00:17:17.660 --> 00:17:24.020 to repeal the price control or have further price controls designed to make 115 00:17:24.020 --> 00:17:29.220 the try to remedy the first situation and the same thing will happen again 116 00:17:29.220 --> 00:17:34.940 those will fail the government will face with either going on further or going 117 00:17:34.940 --> 00:17:41.620 back to the free market now there's an objection that I think Paul Samuelson 118 00:17:41.620 --> 00:18:11.620 and put to a similar argument by Hayek and he said well look this isn't what happened according to this argument we should be either have a complete free market or a total regulated system we don't have that we have some kind of intermediate state that Mises seems to be arguing that the measures will fail in effect and they'll have to push on either to full regulation or abolish regulation we don't have that we 119 00:18:11.620 --> 00:18:16.180 have some kind of intermediate system. You see, this objection is completely to 120 00:18:16.180 --> 00:18:24.700 misunderstand the Austrian argument. It isn't saying that the government will 121 00:18:24.700 --> 00:18:29.140 react in this kind of mechanical way that either having to push forward or go 122 00:18:29.140 --> 00:18:35.220 back, you'll just say that these are the decisions, this is the structure of a 123 00:18:35.220 --> 00:18:46.220 situation will confront the government either to have to, if the governmental powers are unsatisfied with the situation, 124 00:18:46.220 --> 00:18:51.220 they'll either have to try to remedy it by having more controls or move back. 125 00:18:51.220 --> 00:18:55.220 It isn't saying that people will react in this mechanical way. 126 00:18:55.220 --> 00:19:01.220 That depends on the particular people involved, and it's altogether conceivable that people, 127 00:19:01.220 --> 00:19:10.720 People, the government will just decide to flounder around indefinitely in this kind of condition of partial regulation. 128 00:19:10.720 --> 00:19:21.220 So you see, the objection there to the Misesian view is one that totally ignores the individualistic basis of the whole theory. 129 00:19:21.220 --> 00:19:51.220 So you see, I think in these three ways I've tried with the fact of inflation, the business cycle, and the interventionism I've tried to show how the Austrian view of that economics is based on consideration of individual action limits what very much what we can say about prediction as opposed to views of economics that view 130 00:19:51.220 --> 00:20:06.220 matter more, view the economy as a whole or an aggregate. Now, I'll just say in conclusion, we have to avoid moving to the opposite extreme and saying that we can't know anything at all about the future. 131 00:20:06.220 --> 00:20:16.220 Well, we can obviously know some things if Austrian economics is right, such as the way the laws discovered by Austrian economics hold in the future. 132 00:20:16.220 --> 00:20:26.720 The other view, this radical uncertainty of the future, was adopted by Ludwig Lockmann, who said, 133 00:20:26.720 --> 00:20:32.020 well, we just don't know anything at all about the future, but it's not clear why he held this. 134 00:20:32.020 --> 00:20:35.620 It seemed to be part of some kind of general philosophical view of his, 135 00:20:35.620 --> 00:20:41.320 but I've never been able to figure out what the arguments are for it or supposed to be. 136 00:20:41.320 --> 00:20:45.820 The view was also held by G.L.S. Shackle. 137 00:20:45.820 --> 00:20:52.380 I remember one time when I was talking to Lachman, he said to me, 138 00:20:52.380 --> 00:21:00.380 oh, the great book on economics, really the masterpiece, is Shackle's book, Epistemics and Economics. 139 00:21:00.380 --> 00:21:07.260 So I went and had a look at that and I turned to the first page and I see it's dedicated to Lachman. 140 00:21:07.260 --> 00:21:10.460 So I guess I can see why Lachman recommended it. 141 00:21:10.460 --> 00:21:16.580 but I so but you see this view that sort of sets we don't know anything about 142 00:21:16.580 --> 00:21:23.020 the future at all if that were we take that seriously that would end economic 143 00:21:23.020 --> 00:21:29.420 theory altogether so the Austrian view that because we're limited to the action 144 00:21:29.420 --> 00:21:35.580 of individuals we have we our ability to predict is very limited has to be very 145 00:21:35.580 --> 00:21:42.580 are very sharply distinguished from the infinite emptiness of the view held by Professor Lottmann.