Is the Economy a Machine? by Pater Tenebrarum

In the late 19th and early 20th centuries, a never before seen string of very rapid advances in scientific knowledge and technological progress occurred. It is hard to overstate the impact of inventions such as the automobile, radio, airplanes, and so forth. This happened while per capita economic growth in what is today known as the “developed world” reached its fastest pace in all of history — a pace never to be seen again.

Although we cannot prove it, we believe there was a good reason why this combination of vast economic and scientific progress took place at the time: governments were but a footnote in the lives of most people. By 1910, spending by the US government was a mere 4% of GDP. There was no central planning and no central bank, although there was of course a certain amount of crony capitalist government intervention, and the forerunner of the Federal Reserve System (the system of “central reserve city, city and country banks”) was already established.

However, the astonishing advances in the natural sciences had an unfortunate side-effect: many scientists in the field of the social sciences — especially in the most developed branch of the social sciences, economics — began to develop a fascination for the methodologies of physics. They inter alia assumed that what had been lacking so far in economics was the availability of reliable statistics.

Armed with the proper statistical data, so it was held, economists would not only be able to “test” the theorems of economics, but would ultimately also be able to engage in proper macroeconomic planning. As Murray Rothbard put it in the foreword to Ludwig von Mises’ book Theory and History:

“'[R]eal’ science, it is alleged, must operate on some variant of positivism.”

In parallel with this, Alfred Marshall’s partial equilibrium approach as well as mathematical economics and Leon Walras’ general equilibrium approach gained greatly in prominence in economics, in stark contrast with the causal-realist approach of the subjectivist economics propagated by the Austrian School. In spite of Carl Menger having been one of the fathers of modern economics, his economic school of thought soon found itself overshadowed.

It can also be assumed that not too many economists in the Anglophone world were fully aware at the time of the extensive debate that had earlier raged in the German-speaking parts of the world over economic methodology — a dispute between economists who asserted the existence of universally and time-invariantly valid economic laws and the German historicists, who denied that such economic laws existed.

The debate continued to simmer though,  and was taken up again later with some verve. Milton Friedman e.g. strongly came out in favor of positivism in economic science. The reality of the matter is of course that if one looks closely at the arguments of those favoring empiricism in economics, it soon turns out that they too believe in the existence of economic laws — and are usually blissfully unaware of the contradiction this implies.

One may well wonder: if universally valid economic laws exist, why do economists seem so uniquely unable to come up with correct predictions? Well, they are neither speculators nor entrepreneurs, so as a rule they have no special talent for forecasting the future. Also, contrary to what seems to be widely assumed, furnishing precise predictions is actually not the task of economic science.

Sound economic knowledge can merely help to constrain one’s forecasts. One could also say that economic laws suggest that certain things are simply not possible. The fact that every slice of economic history is slightly different from every other, or the fact that economic development in different cultures seems to proceed differently, is due to what one can call “contingent circumstances”.

At any given point in time, a multitude of factors is at work in the economy, many of which are subject to varying leads and lags to boot. These are what produce concrete historical outcomes — but underneath, economic laws are always operative. For example, the law of marginal utility will never be suspended and  empirical testing is certainly not needed to ascertain its validity.

The positivists actually have it the wrong way around: one cannot use economic statistics or economic history to explain or advance economic theory. It is exactly the other way around: one must (inter alia) employ sound economic theory if one wants to properly interpret economic history.

The entire article can be read here.

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