Good morning, everyone. I'm Mark Thornton. I'm an economist and senior research fellow here
at the Ludwig von Mises Institute, and I'd like to welcome everyone from the International
Officers Program, the Air Force War College. We're very happy to have you here today
to address a program on Austrian economics. The Ludwig von Mises Institute is the world-leading
Center for Research and Education Regarding Austrian Economics and the Austrian School of Economics.
We're the oldest school of economics, we're the smallest school of economics, and we're the fastest
growing school of economics. Our brand of economics tends to support a free market economy with limited
Government, private property, and sound money, which usually is in the form of a gold standard.
And we're going to be talking a little bit about that as well here today.
Most of the economics that you may or may not have been exposed to is one or more varieties
of Keynesian economics.
And to the extent that you have been exposed to that school of economics, everything you're
You're going to hear in here is going to be quite the opposite or very different at least.
So I hope everyone has a good time here today and gets a lot of good insights and a different
perspective because the world is in a state where we're looking for solutions to a lot
of major problems and alternatives are the best place to seek those solutions.
So we have a program of three speakers. Our first speaker is Mr. Daniel Sanchez. He is
the director of our online educational program called the Mises Academy. And he is the editor
of our web page, which is one of the largest and most trafficked economic web pages in
the world, Mises.org. And that's M-I-S-E-S dot O-R-G. I hope you all have an opportunity
So I'm going to talk about Ludwig von Mises, of course here at the Mises Institute we think
very highly of him.
We think he's actually probably the most important economist who ever lived, in fact, in spite
of the fact that the public is largely unaware of him, but hopefully through Mises.org and
through our activities we're changing that.
Now in Mises' memoirs of his own life, he focused mostly on his work and I thought it
was fitting that in this speech I would do the same and also on the background and the
context of his work.
Mises was born in September 29th, 1881 in the city of Limburg in Galicia, which at the
time was in the Austrian Empire but is now in the Ukraine.
He moved to Vienna, a very cosmopolitan city at the time as a young boy, and he entered
the University of Vienna.
Later on, Mises was known as a champion of what was known as liberalism at the time.
Liberalism meant the opposite of what it means now.
At the time, it meant belief in private property, belief in the free market, limiting the state.
When he entered the University of Vienna, actually, he was not a liberal.
He was very much an interventionist, a market interventionist, and that was kind of fitting
with the intellectual climate in the German-speaking world at the time.
In the German-speaking world, for example, one of the dominant schools of economic thought
was called the historical school of economics, the German historical school.
And the German Historical School was largely a reaction to the British School of Economics,
known as the Classical School of Economics.
And it was a reaction in two different ways.
One of the ways it was a reaction was that German Historical School was anti-theory.
So the British Classical School built up a pretty extensive theory of economics, and
The German historical school thought that there was no such thing as economic law, and you
certainly couldn't arrive at economic law through theorizing, through reason and theorizing.
There was another way in which they were, it was a reaction against the British classicals,
that it was, the German historical school was largely anti laissez-faire, again that
That was the climate at the time, it was anti-liberalism.
And they used their anti-theory position to buttress their anti-laisez-faire position
because they thought there's no such thing as economic law and so states aren't bound
by economic law.
The classical school, they said that just as you can't escape physical laws, laws
of nature, you can't escape economic laws either.
But what the German Historical School was trying to do largely was to free the state
from the perceived limitations of economic law.
For example, if there's no economic law, then you can't necessarily say that just because
there were price controls in the Roman era and that led to shortages, that that would
necessarily be true in modern Germany.
The German Historical School thought that you just had to look at each historical episode
and look at its own features and not apply any kind of general laws to different stages
of history.
Now, even when Mises was in high school, he was already skeptical of that position, but
he was still kind of imbibed in the anti-liberal ethos of the time.
But then something happened to him.
He read a book and he found a teacher.
Now the book is this pretty thin book actually, it's Principles of Economics by Carl Menger.
And the teacher was Eugen von Boehm-Bawerk.
They were both Austrians as well, based out of Vienna.
He said that reading this book, Principles of Economics, made an economist out of him.
That he didn't even think of his way of thinking as economical before at all, but this book
made an economist out of him.
and that he thought that every educated person should read Boehm-Bawerk, his teacher who
he studied under.
Now Menger really separated from the German, really renounced the German historical school.
He thought that there was such a thing as economic law and that you could arrive at
these economic laws through economic theory.
At the same time, he didn't fully embrace the classical school.
We realized that there were really big problems with the classical school and that might have
been why the German historical school was so skeptical of them because there was problems
with bad theory.
But Menger's point was you don't answer bad theory with rejecting theory altogether.
You answer bad theory with good theory.
And so that's what Menger set out to do.
One of the problems with the classical theory was it's at the very root of the theory.
It's value and price theory.
Now that underlies all of the economic theories.
So if you get that wrong, that's going to have ramifications throughout the entire economic
theory.
And one of the issues that they had is they were thinking about value.
Now what causes the value of a good?
What causes a good to be more valuable or less valuable?
Now the layman's answer, what would seem to make sense, would be the good's usefulness.
And if it's more useful, it ends up being more valuable and higher price and vice versa.
But the classical school economists, they said, aha, that may be good for laymen, but
we really sophisticated thinkers, we realize that there are all sorts of counter examples.
For example, there's the diamond water paradox.
They said, okay, if usefulness causes value, then why are diamonds more valuable and higher
price than water?
And water is obviously more useful than diamonds.
And so based off that, they thought, well, value must be based off of something else
besides usefulness.
And so they tried to come up with all these different answers.
One of the answers they came up with is that they thought that labor caused value.
And so, for example, that diamonds are more valuable than water because it takes more
work to dig them out of the ground than it takes to get water.
The theory was a more general cost of production theory of value, that you have to pay out
more costs in land and labor and capital to produce the diamond, so the costs lead to
the higher price of the diamond than the water.
And to a lay person and to someone who just thinks about it superficially, that might
make sense that business people, they buy a bunch of factors and they produce a product
and they take their costs and they just add a markup and that's the price that they
is set as sort of a rule of thumb and then that had huge ramifications because
then Karl Marx later on would he would say yeah the classicals are right about
about the labor theory of value and if they're right that means that the workers
are getting ripped off by the capitalist because it's the workers labor that
really puts value into the product and so any anything that the capitalist gets
The problem that gets off of that is just stealing from the worker, because the worker could give it all the value.
So there were a lot of problems with that.
And Menger realized that the classical school was just looking at it all wrong.
They weren't even stating the problem right.
He realized that, for example, let's say that there's a Robinson Crusoe alone on his island.
thinking that Austrian economists would do a lot.
And let's say that he has water and a diamond.
But he doesn't just have the class water and the class diamond.
He has certain amounts of water and diamond.
Let's say he has three tanks of 100 gallons of water,
and he has a diamond.
And at the same time, one of the tanks of 100 gallons of water
has sprung a leak, and it's about to empty out onto the ground.
And he could plug it if you put his finger in the hole.
But at the same time, a bird, a magpie,
is about to fly away with this diamond.
So then the question is, what does he save,
the 100 gallons of water or the diamond?
Which is more valuable?
Now, let's say that he saves the diamond.
So the classical economist would say, aha,
that proves that we're right, that it can't be utility
because water is more useful than diamonds.
But then Menger said, OK, let's think about this more carefully.
There's not just one use for the water.
Let's say that he has three different uses for the water.
Let's say that that's his monthly supply of water.
He allocates 100 gallons to drinking to stay alive,
and then another 100 gallons to washing
to just keep good hygiene.
And then another 100 gallons, he just
uses it for water play, like throwing water balloons
and stuff.
Now, if he were to lose 100 gallons,
Which of those uses would he give up?
Would he let himself die of thirst
while he has fun with water balloons?
No, of course not.
He would give up the water play if he were
to lose that 100 gallons.
And let's say with a diamond, he was
going to give it to his mother when he got off the island
as a gift.
And so then the question is not what's
more important, the highest use of water,
just staying alive, or the diamond.
The question is, what's more important, playing with water balloons or making your mother smile?
So how would you answer that?
And just remember that this is a recording and your mother might be watching later, so answer carefully.
Now, so that was the recognition that value was determined by the marginal use,
the lowest use that is allocated to the marginal utility.
It's called the marginal utility theory of value.
And that, along with the work of two other economists, triggered what's called the marginal revolution in economics.
It totally reversed economics in a way.
Now, the German Historical School, they hated that.
They thought the chief of the German Historical School, Gustav Schmoller, he said that, oh, Menger has bloodless abstractions, that he's not even looking at history, he's just theorizing in his head.
And so it was from this debate between the two sides that the Austrian School came about.
It was actually meant as an epithet, as an insult, because at the time there was a rivalry between the Prussians and the Austrians.
And the Prussians had won the Austro-Prussian War.
And so that calling it the Austrian School, it's like, oh, it's just what those Austrians think about economics.
But it really revolutionized the way that you really look at the economy.
Because then Menger structured the economy into orders.
So he said that first-order goods are the things that you consume.
And then second-order goods produce first-order goods,
third-order goods produce second-order goods,
and so on, all the way up to hundreds of orders.
And a cost of production theory of value
might look at that and say, okay, well, the 10th order goods, their costs impart their
value onto the 9th order good and that value is imparted to the 8th order good and so the
causation of value goes forward through time from factors to the products down the line.
What Menger made people realize is that, no, the value of a good is based on its utility,
what it's useful for.
And what is a production good useful for?
It's useful for producing.
So the value of the production good is the value of its product.
It's based on the value of its product.
So he showed that value goes the other way, the complete other direction, that it's consumers' goods, first-order goods, that give the value to second-order goods, they give the value to third-order goods, and so on.
So that explained pricing. It explained pricing of all goods, that it's ultimately the prices of the consumers' goods that determine the prices of all resources in the economy.
Not only that, but it determines factor allocation.
It determines where resources are allocated to, what is actually done with these resources.
Because when you think about it, let's say that tastes change for a consumption good,
that all of a sudden everybody loves these tablet computers.
And so demand goes up for these tablet computers, and that makes the price go up for them.
So then the people who make tablet computers, their costs haven't gone up, but their selling
prices have gone up, and so that creates a profit spread.
And then other businesses see that profit spread, they want to get profits too, so then
they jump into the tablet market, and they bring factors of production with them.
And so those are bringing in more second order goods to produce first order goods.
And then those producers, those business people that go into tablet making, then they bid
up the prices of the factors that they buy and that creates a profit spread for the people
in the stage above them, because then their prices, selling prices go up, but their selling
costs stay the same.
So that creates profit margins.
And so that goes all the way up through all the factors.
And so not only does it change the consumer market, determine the prices, but ultimately
the consumer market determines where goods go in the economy.
Now Israel Kirzner called this view of the market ideological dynamite.
Now why would this be ideological dynamite?
Well the way the classical school looked at the economy, because they had a bad theory
of value, they focused just on the business person.
And so it made production seem kind of selfish, almost antisocial.
But what the Austrian School did is they brought the consumer into the picture, the end user
of consumption goods, and showed that it's the consumer who really holds sway over everything
that goes on in the market.
And that changed the entire picture of the market.
It showed that it was inherently beneficial.
He was inherently trying to allocate goods so as to best satisfy consumer wants and it
unceasingly worked towards the public good.
So this was ideological dynamite to Mises and it was this view of the economy that made
He gave him a champion of liberalism, a champion of the free market.
And so he went to work at trying to fill in whatever gaps that were left by Menger and
Boehm-Bawerk.
So one of his first focus was the theory of money.
He wrote a book called The Theory of Money and Credit in 1912.
And in that book, he brought the theory of money into the subjective marginal utility
realm, because there was a criticism that people said, oh, well, this new Mengerian
theory of marginal utility, it doesn't really apply to money, because if value is based
Based on utility, what's the utility of money?
Well, it's to be spent, it's to be exchanged, it's exchange value.
But then that's reasoning in a circle because then you're explaining value according to
utility and utility according to value.
But Mises said that no, it's not reasoning in a circle and he brought in the time element.
He showed that when people are determining how they're going to value money, it's going
to be based on the future purchasing power.
And they base their estimate of future purchasing power
on past purchasing power.
And that past purchasing power itself, again,
is based on expected future, which
is founded on observations of past purchasing power
of the day before that.
And so it's not reasoning in a circle.
It's going backwards in time.
But then the critics said, aha, well, you're just replacing one logical fallacy with another
logical fallacy.
You're replacing circular logic with an infinite regress.
That can't explain anything because you're just going to regress all the way back and
you just keep going forever.
But then Mises showed that, no, that's not true.
It goes back in time and it stops at a certain point.
And then he used Menger's theory of the origin of money, showing that commodities turn into money.
And so at some point a commodity turned into a money, and the first day of its value of money is based on its use value as a commodity the day before.
So there was no infinite regress.
How much time do I have?
Three minutes?
In that same book, he also came up with the business cycle theory, which was huge because
it was this big mystery that had plagued economists for generations.
He showed that monetary inflation, especially through the expansion of bank credit facilitated
by a central bank, that artificially depresses the interest rate.
It makes producers act as if people had actually saved more.
It makes producers act as if they had restricted consumption and that freed up resources to
be used in longer scale, bigger scale, longer term, more ambitious projects, but it doesn't
actually indicate that.
It was just an artificial, it was just creating money out of thin air.
The Theory of Money and Credit
These expensive projects, but the society isn't actually richer, and so eventually the prices will readjust and the true conditions of scarcity will reveal themselves, and they'll realize they have to liquidate these projects, that they were too ambitious, that they can't sustain them with the given resources, and so that's the bust, and so it's actually the boom that where things are going bad, even though people feel good, they're actually malinvested,
Mises, then, had to go to war. He had to fight in World War I. This was disastrous for him, because he was a child of the age of liberalism. He finally understood liberalism better than anyone else at the time, and World War I was really the death of the age of liberalism, from 1815 to the 19th century, and that was the end of World War I.
on set of World War I. It started a century of collectivism and statism and he spent the
rest of his life fighting that. When he came back from the war, he wrote Economic Calculation
and the Socialist Commonwealth, where he proved that socialism as a system of production
can't allocate resources rationally to consumer wants, the way that the Menger-Boehm-Bawerk
idea of the market showed, because if you don't have private property, if you have socialism,
then you can't have market prices. If you don't have market prices, you can't have market
calculation. You can't subtract revenue from costs, I mean, revenue minus costs. And so you
can't judge profit or loss. So the entrepreneur is blind to the consumer wants. That's the economic
He established economics on logical grounds, showing that it is really just a logical science, almost like geometry, where you deduce from founding principles all the way to a whole system of the logic of human action.
And then he brought all of the ideas that he developed throughout his career into a book that would later become the English language, Human Action, where he showed that economics is a system.
And he spent the rest of his life promoting liberty and promoting free markets using all the scientific accomplishments that he amazingly was able to attain.
At the end of his life, Mises only had one regret, that his powers were then failing when he still had so much to give to the world.
Mises died as he had lived, brimming with goodwill towards his fellow human beings and animated by an unrelenting drive to improve their lot in the world.
And we here at the Mises Institute are trying to continue that. So thank you.