Carl Menger's lasting legacy
Celebrating the 150th anniversary of "Grundsätze der Volkswirtschaftslehre"
CARL MENGER'S LASTING LEGACY
Although published more than 150 years ago, Carl Menger's "Principles of Economics” (Grundsätze der Volkswirtschaftslehre, 1871) remains one of the best - maybe "the” best book - to learn how a market economy works. In his seminal work, Carl Menger (1840–1921) laid the foundation for the Austrian School of Economics. The "Principles" contain central insights into the subjective theory of value and marginal analysis, which still form an integral part of economics today.
Context
Carl Menger (23 February 1840 – 26 February 1921) founded the Austrian School of Economics. In economics, he is widely recognized for his fundamental contributions to the development of the marginal utility concept and as a pioneer of the subjective theory of value. Menger laid the foundation for the Austrian School with his insights on the use of knowledge and foresight, the importance of relative prices, the role of time, and the spontaneous emergence of social institutions.
Menger provides a consistent perspective on economics and a coherent account of the complexity of the interrelationship between goods, values, exchange, and prices. He defines economics as the study of individual acts of choice. The individual pursuit of bettering one's life is the main driving force of the economy. Menger's method of investigation is based on deductive logic to reveal the hidden structure of empirical material. Menger's methodology, described by Schumpeter as "methodological individualism," is better characterized as "causal-realist analysis."
In his introductory essay, Friedrich von Hayek points out that at the time when Menger wrote his "Principles of Economics" (1871), progress in economic theory was stagnating in England, while in Germany the second generation of historical economists dominated the field. These scholars were hostile to theory and, in contrast to empirical-historical research, regarded the effort to gain theoretical knowledge as useless speculation or even harmful. They were positivists before positivism rose to prominence, believing that so-called "facts" were all that mattered. The greatest ambition of the scholars of the historical school was the formulation of "historical laws." In the ample literature produced by that German historical school, both Hegel's idealism and Marx's materialism left their traces.
Nevertheless, the German economic tradition influenced Menger, insofar as many continental economists, including those in Italy and France, had remained aware of the contradictions inherent in the labor value theory of price determination by production costs. There was also Hermann Heinrich Gossen (1810–58), who formulated the marginal utility principle in his extensive book "Development of the Laws of Human Intercourse and the Rules for Human Action Flowing from It" (1854). This work, whose importance is indisputable in retrospect, was rejected by the representatives of the historical school — not least because of the extensive use of mathematical formulations. Gossen's principles for the valuation of decision-relevant goods, known as "Gossen's laws," are still taught today. Gossen was also a pioneer of the law that equilibrium in the demand for goods requires that the ratio of marginal utility to price be the same for all goods considered, a theorem that has become the standard in modern microeconomics in its mathematical formulation.
Carl Menger's subjective theory of value has roots in the Spanish scholastics of the 16th and 17th centuries, as de Soto made known. The relationship between the value theory of the Austrian School and the philosophy of German idealism remains unclear, as does Menger's philosophical connection to Leibniz. Although later Austrian economists, such as Ludwig von Mises, emphasized their influence by the philosophy of Immanuel Kant, Menger's intellectual indebtedness to Kant remains controversial. Taken all together, one must conclude that Carl Menger was a truly original thinker.
Theory of Value
In his "Principles of Economics," Menger explains that people act because both sides benefit from exchange. People attribute different valuations to the same specific good. Therefore, in the voluntary exchange of commodities, it is not equivalents that change hands, but the exchange is carried out to achieve better satisfaction of needs than before the exchange. Value is subjective, and its degree changes with the circumstances in which the individual finds himself and the personal progress of knowledge. The "law of diminishing marginal utility" states that the individual value of each additional unit decreases the more units of this good are available. It is not the total benefit or the average benefit that determines the subjective value of a good and thus the individual willingness to pay, but the marginal utility.
While Menger himself did not use the concept of "marginal utility," which was later introduced by his immediate successor Friedrich von Wieser (1851–1926), Menger developed the definition of content as the "extent of importance" (Principles, p. 77 ff) that an economic actor attaches to the good. Goods do not have value for their own sake; they acquire it through their importance for the satisfaction of subjectively felt human needs. When more quantity of a good is available, the "importance" of each additional unit diminishes. Menger deduces this law of value from the premise that the economy serves the individual to improve his living conditions, thus confronting the economic subject with the need to attach different degrees of importance to the satisfaction of needs. The satisfaction of our needs is the decisive starting point for all economic action. Accordingly, the value of a good consists of the transfer of this meaning for the satisfaction of needs that a good can provide. The difference in the extent of the value of individual goods results from the difference in their significance for the satisfaction of needs (p. 87).
The marginal utility principle, as the subjective valuation of goods, determines the value as a function of the number of available units of the good. The marginal utility of a good decreases with the available units of this good. Thus, the satisfaction that the economic agent expects to receive from the least valuable unit of the good also determines the value of the units of goods corresponding to the higher preferences on that person's ranking.
People's efforts are aimed at satisfying their needs as completely as possible. In the case where a particular good can satisfy different needs, provision will be made for the satisfaction of those needs for which the good is of the highest importance. If there is a surplus in the process, it will be used to satisfy those needs which are less important than the satisfaction of the highest order. The ranking follows the principle of the possible needs that the good can satisfy (p. 98).
The determination of the willingness to pay follows directly from this marginal utility theory and forms the basis for the price theory. The value of a good (and thus the individual willingness to pay) is determined by the value associated with the satisfaction of the lowest need. These considerations resolve the "value paradox" that had plagued classical economics.
Economic Action
Starting with the investigation of the causal relationship between human needs and the availability of the means to satisfy them, Menger distinguishes between goods of the first, second, and higher orders. First-order goods serve immediate consumption, while higher-order goods serve the production of first-order goods. These production goods have no direct benefit, but one that is derived from the utility of the consumer goods for which the higher-order goods are used. With the concept of the complementarity of goods, Menger draws attention to the problems of time and uncertainty.
The effort to improve the situation is the motivator for economic action. According to Menger, the purpose of an individual's economic activity is to try to improve changing living conditions. Economic progress takes place when the well-being of the individual increases. The production of so-called goods of a higher order is the main means of achieving this.
Economic development occurs through the increase in human knowledge, the reduction of transaction costs, and the availability of savings. Therefore, the expansion of free markets is the key to development, along with entrepreneurial action aimed at finding the best ways to build, maintain, and adapt the edifice of higher-value goods — the capital structure — to circumstances. Prosperity depends on how well society understands how to generate knowledge and how effectively the application of the new knowledge can be achieved. Entrepreneurial action is central to all these tasks. The criterion of progress is not the accumulation of more and more goods, but the satisfaction of the subjective needs of individuals in their full breadth, including leisure and intangible goods.
Exchange and Price
In the context of higher-order goods, Menger develops the principle of imputation, which states that production goods have a derived utility that lies in the utility that individuals ascribe to the final goods produced with the help of higher-order goods (Grundsätze, pp. 138–42). This concept of "derived utility" also applies to labor.
has value, but it comes from the usefulness it brings to the final good. In this sense, labor is a good of a higher order, present at all stages of the production process. At each stage, the value of the work is derived from its contribution to the final product (or "attributed," as the term was coined by Friedrich Wieser).
Menger also rejects the idea that prices are one of the most important aspects of the economy or even its most important feature. Prices are "random," explains Menger, because what counts are the underlying exchange rates. These exchange values, in turn, are determined by the subjective assessments of the individual economic actors. Prices are created as a reflection of the subjective values of the individual participants in an exchange.
Using the term "goods" as goods to be sold on the market, Menger emphasizes the different degrees of salability of goods. Because a few specific goods have an exceptionally high degree of salability, i.e., that they are generally accepted in exchange, Menger explains the origin of money in an economy.
Money is not the product of a private or official agreement, let alone an act of law. Money is not an invention. Money came into play as more people realized that their economic goals were promoted more quickly in exchange by accepting goods with the highest marketability. Money is the result of human economic activities.
Carl Menger emphasizes that money is a means of facilitating exchange and as such does not serve as a benchmark and store of value. Money is not a yardstick. The basis of the exchange is not trade on an equal footing, but the reverse assessment of the trading partners about the value of the goods to be exchanged. Prices have meaning only as relative prices, as an expression of exchange relations.
Menger's Legacy
Despite their broad scope, the principles of economics do not cover the entire range of topics that Carl Menger wanted to cover. According to Hayek (p. xi), Menger planned to deliver three more volumes. The second part of the project was to deal with "interest, wages, rents, income, loans, and paper money," and the third part with production and trade, while the fourth part was to discuss and criticize the existing economic system and the proposals for its reform. Probably distracted by the "methodological conflict" (Methodenstreit), Menger did not implement his original plans, leaving the following generations of his followers still much to do.
As is the case with all outstanding economists, Menger's importance is not without controversy. It is striking, however, that Menger's opponents tend to resort to trivialities and denigration rather than make a solid judgment. Menger's "cumbersome style" is lamented, and he is accused of being more of a philosopher than an economist. Some have accused Menger of copying his main ideas. The communist economist Bukharin (1914) even made Menger the "advertising chief of bourgeois feasting and waste." The main representative of the German historical school, Gustav Schmoller, did not shy away from personal insults.
In addition to the economists associated with Menger, such as Friedrich Wieser, Eugen von Böhm-Bawerk, Ludwig von Mises, and Friedrich Hayek, it was above all Americans who found their master in Menger, starting with F. A. Fetter, as well as Mises' direct successor Murray Rothbard and the economists who gathered around the American Ludwig von Mises Institute and others who found their academic home at George Mason University. The verdict of the Chicago economist George Stigler (1937), who was very important for the so-called "mainstream economics," outweighs many of the small-minded criticisms when he recognizes in Carl Menger the "new Adam Smith."
Menger's contribution to the development of an independent "Austrian School" remains undisputed. Ebenstein (2003, p. 26) writes: "Almost everything that distinguishes the Austrian School can be found in Menger's work — marginal utility, subjective evaluation, the importance of knowledge and foresight, the role of prices, the spontaneous emergence of social institutions, and that economic activity is a process in time." Hayek aptly stated in "Economics and Knowledge" (1936) that for Menger, economic activity is essentially a provision for the future. This raises the question of which order is better suited for this task: the state's power to rule, which is shaped by political interests, or consumer-oriented, entrepreneurial action in a market economy. The insights that Menger develops in detail in the principles find their inner cohesion in the thesis that not only the good life but also our survival depends on the extent to which the market economy order retains the upper hand.
SummaryMenger is one of those rare thinkers whose influence grows over time. His work represents a lasting contribution to economics. Many of Menger's findings are now part of standard economics. Others have been preserved as essential components of the independent Austrian School of Economics. This applies in particular to his insights into foresight and the role of uncertainty, which in Menger's view are of fundamental importance for economic activity. The pivotal point of his inquiry is economic action concerning the improvement of living conditions. Menger's work is full of deep insights. Carl Menger is rightly celebrated as the unique founder of the Austrian School of Economics. To the extent that debates about economic order are ignited, Menger's work gains a significance that goes far beyond economics.
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