Everything You Always Wanted to Know about Austrian Economics*
Humphreys, John, Review - Institute of Public Affairs
* But were afraid to ask
Economics can be confusing enough on its own without the added complexity of dozens of competing 'schools of thought' with different approaches, assumptions and conclusions. Institutional economics, new institutional economics, public choice, monetarists, Keynesians, classical economics, neo-classical, new classical, new Keynesian, Austrian, evolutionary, supply-side, Marxist, Chicago school and others.
The story is further complicated by the fact that the different schools often overlap. Sometimes these economic subgroups conceal more than they reveal. However, for rhose interested in free market economics and the argument fot small government, there is one school of thought that is worth specific consideration - the Austrian school.
Austrian economics in context
Austrian economics came about as a split in mainstream economics at the end of the nineteenth century. Before 1871, mainstream economics followed the 'classical' teachings of people such as Adam Smith and David Ricardo.
Classical economics taught that the value of anything was determined according to the labour that was spent on producing it. This 'labout theory of value' was rebutted at the end of the nineteenth century by three economists who all came to the same conclusion independendy. The Englishman William Jevons, the Frenchman Leon Walras and the Austrian Carl Menger realised that production and consumption needed to be studied in marginal increments. One important conclusion of the 'marginal revolution' was the recognition that value came from the marginal utility that a person has from consuming a good.
At the turn of the twentieth century, a new mainstream emerged that united the ideas from the marginal revolution with classical economics. This 'neo-classical economics' was most closely associated with Alfred Marshall (who popularised the famous supply and demand graph) and is still taught to every undergraduate economics student.
But Carl Menger and a small group of his students (specifically Eugen von Bohm-Bawerk and Friedrich von Wieser) continued to develop an alternative successor school to the classical economists with important differences from the neo-classical school.
This new group of thinkers was referred to as 'Austrian economists' as a put-down by members of the dominant German Historical School to indicate that Menger and his associates were not part of mainstream German economics.
How is Austrian economics different?
Both Austrian and neo-classical economics admit an intellectual debt to classical economics and both accept the lessons of the marginal revolution. The primary differences lie in merhodology and the treatment of time.
The Austrian school, like the preceding classical school, has a strong preference for deductive reasoning and preferred to build theories of the economy based on logic and reason instead of observation. Austrian economists question the value of empirical economic data and are generally sceptical of economic models. This stands in direct contrast to the neo-classical school, which eagerly pursued general equilibrium modelling where the economy is represented by a complex set of thousands of simultaneous equations and a range of estimated variables.
Perhaps more importantly, Austrian economists concentrate on market dynamics, with uncertainty and the consequences arising from changes in knowledge, institutions and preferences over time. Neo-classical economics is primarily concerned with static equilibrium analysis of how an economy will look if knowledge, institutions and preferences are held constant.
In recent decades, mainstream economics has expanded to give greater consideration to economic dynamics. Economic texts still concentrate on static equilibrium analysis, but they also include chapters (hidden in the back) on time and uncertainty. And new areas of economics are concentrating on dynamic issues. …