The Calculation Debate

Mises famously declared, in an article published in 1920 which was subsequently developed into a book, that socialism - by which he meant any society in which the means of production were commonly owned - was impossible, unworkable. The timing of publication is undoubtedly tied to the fact that, in 1920, it looked to most observers as if the infant Soviet Union was about to expire a mere three years or so after its birth. Mises was positioning himself, with gleeful anticipation, to be able to dance on the grave of the world’s first workers’ state, shouting “told you so!”

Mises asserts that public ownership, because it abolishes the capital goods market, means that there can be no determination of prices for capital goods, and therefore no way to determine the relative values of primary resources, and therefore no way to allocate them efficiently and rationally. This claim is patently outrageous coming from people who are putting it forth as a way of championing capitalism, a system that has brought us to the point where the richest eight men on the planet own as much as the poorest 50% of the entire human race, and which is literally pushing the planet to the point where it will very soon be unable to support human life. But you always have to remember that, for people like this, the world of reckless short-termism and obscene inequality we live in is rational.

So let’s take it seriously for a moment. In simple terms, the argument – which, as will be clear, is derived directly from Austrian first principles - runs thus: to achieve a decent and sustainable standard of living, a society must be able to allocate its resources efficiently by making economic calculations. To do this you have to know what the ‘primary factors’ - the big, important resources that form the basis of all production, such as land, steel, and capital itself - are worth, and thus the best use to make of them. You derive this knowledge from prices assigned by the market. The market does this automatically. Prices are a measure we can use to make rational choices. For instance, the most economical use of land can be determined by the prices of the commodities or services that could be produced using it. But if such primary factors are communally owned, they are not subject to a market, which means they do not end up with prices which accurately reflect their values, thus making it impossible to calculate how to allocate them efficiently.

A socialist economy in a ‘backward’ country, under pressure to compete on the world market owing to the need to ‘keep up’, i.e. accumulate capital and industrialize, would need to efficiently allocate its resources, the more so the scarcer they were.

This, supposedly, is how capitalism makes rational, optimized allocations… which makes the objection very interesting, given that we’re supposed to be talking about socialist economies.

Also, this leaves out the question of whether price signals really are set by supply and demand under normal conditions… still less whether, as the Austrians have tended to insist, prices arrive at equilibrium, balancing supply and demand.  As Ernest Mandel, the great Trotskyist, wrote:

Already today, in the most advanced capitalist countries, the bulk of both consumer and producer goods are not produced in any way in response to ‘market signals’ shifting violently from year to year, let alone month to month. The bulk of current production corresponds to established consumption patterns and predetermined production techniques that are largely if not completely independent of the market. 

It’s not just an old Trot who says this.  The post-Keynesian economist Nicholas Kaldor also pointed out that prices often aren’t based on demand, and that demand has a less significant influence on prices than neoclassical theory assumes.  The idea that prices are ‘market-clearing’ - i.e. that they express an equilibrium between supply and demand - is an Austrian mainstay, from Menger to Böhm-Bawerk to Mises and onwards.  Much as equilibrium is generally accepted by mainstream neoclassical economists, the market-clearing prices theory is very much an Austrian heterodoxy.

Mises’ observations - revived and popularized by Hayek in the 30s - sparked what became known as the ‘Socialist Calculation Debate’ or ‘Economic Calculation Debate’, a series of exchanges among economists of various persuasions between the two world wars. The debate is often misremembered as a debate between Austrians and Marxists. However, only one of the major participants on the socialist side was a Marxist - the Cambridge economist Maurice Dobb. (Dobb was also a significant Marxist historian, but his political allegiance was to Stalinism.  It has been suggested that he was a ‘recruiter’ at Cambridge, probably because he inducted Kim Philby into the Cambridge University branch of the Communist Party.)  The others all wanted to show that a case could be made for socialism within the assumptions of neoclassical economics. Consequently, the defence of planned economies involved taking lots of the assumptions of bourgeois economics at face value, and thus advocating (some say inventing) a form of ‘market socialism’. Indeed, the most significant rebuttal of Mises came from the Polish economist and diplomat Oskar Lange, who rejected the Marxian theory of value, and agreed with the neoclassical conception of prices.

To be reductive about it, Lange’s model involved a free market in labour and consumer goods (so workers still sell their labour power in return for a wage, and then spend their wages as they see fit), combined with a ‘Central Planning Board’ for allocation of primary factors. The Board would set prices (presumably based on prices inherited from capitalism) and, through a process of trial and error, adjust those prices according to ensuing surpluses and shortfalls. These are now called ‘shadow prices’. Such experiments would only have to be run a few times before mathematical models could be invented and used. There would also be what we might call ‘shadow rents’ and ‘shadow interest payments’ (despite there being no landlords or creditors) all of which would keep enterprises efficient. Lange claimed that such a system would be at least as efficient - if not more - than free markets. (Lange, notably, was an early advocate for using computers, making his ideas an ironic prototype of the “friendly AI runs the world” scenario.)

Lange et al were widely held - for instance by Paul Sweezy - to have decisively settled the matter. And, if you’re prepared to conceive of socialism in non-Marxist terms as a system of state-managed capitalism, and to consider these issues theoretically outside actual historical experience, they pretty much did – especially nowadays when computers are so much more powerful.  Indeed, the computerised planned-market model of capitalism is feasible.  It’s already in practice, in prototypical form, in nooks and crannies of the modern world. It just isn’t socialism.

In the wake of the rebuttal, then, and at a time when the Soviet Union was surging ahead of a crisis-ridden capitalist world, Hayek retreated to a fallback position where he claimed that, while rational planning was theoretically possible, it was also unworkable because of the sheer number and complexity of the calculations the planners would have to make. Markets comprise millions and millions of prices, and every price is interdependent with every other, meaning every change entails millions of marginal adjustments. In a market, these adjustments happen automatically. A planned economy would set itself the task of doing all that ‘by hand’ as it were.

Even though Hayek was not a full-blown praxeologist, it’s possible to see the remnants of praxeology in his thought here. He is in effect demanding that prices be set with the sort of systematic knowledge that axiomatic arguments purport to offer. There is, of course, no reason for this - Lange’s proposal is clearly empirical, rooted in questions of what works as opposed to why. And this is an eminently sensible epistemology with which to conduct economics, which is, after all, not actually a thought experiment. But Hayek’s quasi-praxeology sets him up for another problem, which is that he’s tacitly suggesting the market contains some sort of self-awareness of its own intricate construction, a requirement that takes the abstraction of marginalism to new and, on face value, ludicrous extremes.

Hayek’s climbdown from this absurdity is to put his faith in entrepreneurs, who he believes have a “tacit knowledge” of the market that cannot be expressed. One of the weird ironies here is that Hayek essentially implicitly admits that the Stalinist central planners were kin to the ‘entrepreneurs’ of free market societies, and yet while Hayek argues for the entrepreneurs getting to make the decisions because of their ‘tacit knowledge’, he argues against the possibility of the planners doing essentially the same thing. Underlying this is the implicit inability to imagine an economic system without some group in a position of decision-making authority. But planning need not be centralised and undemocratic. It might instead involve the mass of the population. Indeed, contrary to the assumptions of almost everyone - anti-Marxists and Marx’s supposed supporters alike - Marx makes it clear that the active, collective, and democratic participation of the working class in planning is not only morally desirable but practically essential to socialism – far more so than any legal change concerning who owns what.  At the very least, the knowledge - tacit or otherwise - of the working class at large can be brought into the planning process. Indeed, this was Trotsky’s solution when he originally made the argument against Stalinism that Hayek is ripping off here!

In a variety of strange ways, Hayek ends up being more Marxist than the supposed socialists in the debate. Lange’s system, as noted, falls far short of what Marx saw as socialism. It looks like a species of what he is vociferously arguing against in his Critique of the Gotha Programme.  It looks more like a branch of bourgeois economics - welfare economics - still based on neoclassical assumptions, including equilibrium and the ‘Pareto optimum’ - assumptions that socialists and Marxists had previously attacked. Hayek, on the other hand, comes close to a sort of right-wing version of Marxian theory when he criticises Lange’s model owing to the same ‘socialist’ fetish for equilibrium which Dobbs has also critiqued in the ‘socialist’ side of the calculation debate!  Hayek – who, whatever his faults, is far less dogmatic than most Austrians - moves away from equilibrium (towards his concept of ‘spontaneous order’), despite it being a concept developed to justify capitalist economics. For him it becomes ‘entrepreneurs’ and their pushing for profit which raises the general level of welfare. At one point Hayek writes:

But because for all capitalist production there must exist a considerable interval of time between the beginning of a process and its various later stages, the achievement of an equilibrium is strictly impossible. Indeed, in a literal sense, a stream can never be in equilibrium, because it is disequilibrium which keeps it flowing and determining its directions.

So Hayek - along with Marxists – comes to reject, or at least nuance, the idea of equilibrium.  Like Marx, he sees capitalism as inherently and inevitably powered by competition and the hunt for profit, and sees that planning to smooth out the bumps in the market is not ultimately going to work. Marx would’ve agreed.  Marx’s view of socialism was not a planned market.  By holding that to meddle with financial markets is to threaten capitalism’s integrity, Hayek gets nearer than Lange to realising that one would need to do away with them in order to abolish capitalism and establish socialism.  Deliciously, Hayek ends up – at least in some ways – agreeing with Marx over the ‘Marxists’.

In the end, Trotsky was right, and so, by extension, were Marx and Hayek (which was an enjoyably outrageous sentence to type): ‘really existing’ planning was centralised and undemocratic. Without the ‘tacit knowledge’ of workers in localities and in their own production centres, planning broke down, replaced by top-down command which increasingly failed to keep in touch with reality. It’s more complex than just that, of course, and this is not the place to go into the nature and failings of the Stalinist system. Nor is it the place - much as I’d love to geek out here about my personal obsessions - to go into what I think Marx really thought socialism or ‘lower communism’ should be like.  It has little to do with the model accepted by generations of Marxists, and attacked by the Austrians. Suffice to say:

1.      Mises’ categorical rejection of socialism (as he understood it) as impossible was convincingly rebutted - on its own theoretical terms - by Lange, who stuck to neoclassical assumptions to a great degree, which in its way is even more telling;

2.      Hayek’s retreating points about complexity hit the mark (to an extent) when applied to centralised command economies, but these are far from the only kinds advocated by socialists… and indeed they are mostly rejected by most anti-capitalists of all stripes, including most Marxists, now that the miasma of Stalinism has cleared;

3.      The restriction of ‘tacit knowledge’ to entrepreneurs or planners (depending on which side of the debate you’re on) reveals that nobody in the debate was talking about socialism as proletarian democracy, which is what Marx meant by it.

The debate lay fallow until the 80s when a new non-Austrian critique of planning was created by Alec Nove.  This was responded to brilliantly by Ernest Mandel, who insisted upon “socialism without commodity production” in the face of Nove’s market socialism.  But the ‘fall of communism’ in 89-92 meant that the debate failed to reignite.  It was taken for granted by most that the failure of the planning model seen in Russia decisively proved that any form of planning was impossible anywhere, under any conditions.  No amount of historical context or contingency was allowed to impinge on this axiomatic generalisation from the particular to the universal.  Most socialist attempts to defending planning since then have take some form of ‘market socialism’ for granted.  But, in any case, and whatever the online Austrians insist, the debate has moved on from the terms set by Mises and Hayek.

Hayek’s contribution to the Calculation Debate does furnish several genuine insights into how markets work.  Relatedly, his concept of spontaneous order can help understand the emergent properties of markets, at least in principle.  There is something of the potential dialectician in Hayek, in his view of structures as emerging from blind, interacting processes.  He gets closer than any Austrian to developing their greater sense of temporalism.  Of all the Austrians, he was clearly the one most worth reckoning with.  His account of how a capitalist market works as an allocation system is not without merit, as long as we ignore the politico-ethical constructions he puts on it.  His critique of command economies has more than a grain of truth to it, and - after adaptation - actually usefully illuminates fundamental differences between such economies and actual socialism.  Of course, he himself was too thoroughgoing and committed a champion of capitalism to see this.  

The Calculation Debate was mined for insights by the mainstream, but both the Austrians and the socialism remained heterodoxies.  As Duncan Foley puts it in Adam’s Fallacy: “Mainstream economics acknowledged the brilliance of Hayek’s insight without actually incorporating it into its fundamental teaching and research program, and the Austrian economists found themselves marginalized as effectively as were the Marxists.”  Essentially, the Keynesian mainstream of the time was happy to adopt Hayek’s anti-planning arguments as an ideological defence against socialism, but rejected the rest of his worldview as surely as they did socialism.  The enemies, the Austrians and the socialists, were left on the outside - together.  But then, as we’ve seen, the outside turned out to be the right place for Hayek to launch his offensive to rescue the system from itself.  Hayek, thus ideologically armed with a critique of planning and statism, gathered his forces. 

The mainstream of the time had blithely fostered the seeds of its own destruction.