If any twentieth-century economist was a Renaissance man, it was
Friedrich Hayek. He made fundamental contributions in political
theory, psychology, and economics. In a field where the relevance of
ideas often is eclipsed by expansions on an initial theory, many of
his contributions are so remarkable that people still read them over
forty years after they were written. Many graduate economics
students today, for example, study his articles from the thirties
and forties on economics and knowledge, deriving insights that some
of their elders in the economics profession still do not totally
understand. It would not be surprising if a substantial minority of
economists still read and learn from his articles in the year 2050.
Hayek was the best-known advocate of what is now called Austrian
economics. He was, in fact, the only major recent member of the
Austrian school who was actually born and raised in Austria. After
World War I Hayek earned his doctorates in law and political science
at the University of Vienna. Afterward he, together with other young
economists, Gottfried Haberler, Fritz
Machlup, and Oskar
Morgenstern, joined Ludwig von
Mises's private seminar—the Austrian equivalent of Keynes's
"Cambridge Circus." In 1927 Hayek became the director of the newly
formed Austrian Institute for Business Cycle Research. In the early
thirties, at the invitation of Lionel
Robbins, he moved to the faculty of the London School of
Economics, where he stayed for eighteen years. He became a British
citizen in 1938.
Most of Hayek's work from the twenties through the thirties was
in the Austrian
theory of business
cycles, capital
theory, and monetary
theory. Hayek saw a connection among all three. The major
problem for any economy, he argued, is how people's actions are
coordinated. He noticed, as Adam
Smith had, that the price system—free markets—did a remarkable
job of coordinating people's actions, even though that coordination
was not part of anyone's intent. The market, said Hayek, was a
spontaneous order. By spontaneous, Hayek meant unplanned—the market
was not designed by anyone but evolved slowly as the result of human
actions. But the market does not work perfectly. What causes the
market, asked Hayek, to fail to coordinate people's plans, so that
at times, large numbers of people are unemployed?
One cause, he said, was increases in the money supply by the
central bank. Such increases, he argued in Prices and
Production, would drive down interest rates, making credit
artificially cheap. Businessmen would then make capital investments
that they would not have made had they understood that they were
getting a distorted price signal from the credit market. But capital
investments, noted Hayek, are not homogeneous. Long-term investments
are more sensitive to interest rates than short-term ones, just as
long-term bonds are more interest-sensitive than Treasury bills.
Therefore, he concluded, artificially low interest rates not only
cause investment to be artificially high, but also cause
"malinvestment"—too much investment in long-term projects relative
to short-term ones. He argued that the boom must turn into a bust.
Hayek saw the bust as a healthy and necessary readjustment. The way
to avoid the busts, he argued, was to avoid the booms that caused
them.
Hayek and Keynes
were building their models of the world at the same time. They were
familiar with each other's views and battled over their differences.
Most economists believe that Keynes's General Theory won the
war. Hayek, until his dying day, never believed that, and neither do
other members of the Austrian school. Hayek believed that Keynesian
policies to combat unemployment would inevitably cause inflation,
and that to keep unemployment low, the central bank would have to
increase the money supply faster and faster, causing inflation to
get higher and higher. Hayek's thought, which he expressed as early
as 1958, is now accepted by mainstream economists (see Phillips
Curve).
In the late thirties and early forties Hayek turned to the debate
about whether socialist planning could work. He argued that it could
not. The reason socialist economists thought central planning could
work, argued Hayek, was that they thought planners could take the
given economic data and allocate resources accordingly. But Hayek
pointed out that the data are not "given." The data do not exist,
and cannot exist, in any one mind or small number of minds. Rather,
each individual has knowledge about particular resources and
potential opportunities for using these resources that a central
planner can never have. The virtue of the free market, argued Hayek,
is that it gives the maximum latitude for people to use information
that only they have. In short, the market process generates the
data. Without markets, data are almost nonexistent.
Mainstream economists and even many socialist economists (see Socialism)
now accept Hayek's argument. Harvard economist Jeffrey Sachs has
stated: "If you ask an economist where's a good place to invest,
which industries are going to grow, where the specialization is
going to occur, the track record is pretty miserable. Economists
don't collect the on-the-ground information businessmen do. Every
time Poland asks, Well, what are we going to be able to produce? I
say I don't know."
In 1944 Hayek also attacked socialism from a very different
angle. From his vantage point in Austria, Hayek had observed Germany
very closely in the twenties and early thirties, and then moved to
Britain. He noticed that many British socialists were advocating
some of the same policies for government control of people's lives
that he had seen advocated in Germany in the twenties. He had also
seen that the Nazis really were National Socialists—that is, they
were nationalists and socialists. So Hayek wrote The Road to
Serfdom to warn his fellow British citizens of the dangers of
socialism. His basic argument was that government control of our
economic lives amounts to totalitarianism—total government control
of our lives. Wrote Hayek: "Economic control is not merely control
of a sector of human life which can be separated from the rest: it
is the control of the means for all our ends."
Surprisingly to some, John Maynard Keynes praised the book
highly. On the book's cover, Keynes is quoted as saying: "In my
opinion it is a grand book.... Morally and philosophically I find
myself in agreement with virtually the whole of it; and not only in
agreement with it, but in deeply moved agreement."
Although Hayek had intended The Road to Serfdom only for a
British audience, it also sold well in the United States. Indeed,
Reader's Digest condensed it. With that book Hayek established
himself as the world's leading classical liberal, now called
libertarian or market liberal. A few years later, along with Milton
Friedman, George
Stigler, and others, he formed the Mont Pelerin Society so that
classical liberals could meet every two years and give each other
moral support in what appeared to be a losing cause.
In 1950 Hayek became professor of social and moral sciences at
the University of Chicago, where he stayed until 1962. During that
time he worked on methodology, psychology, and political theory. In
methodology Hayek attacked "scientism"—the imitation in social
science of the methods of the physical sciences. His argument was
that because social science, including economics, studies people and
not objects, it can do so only by paying attention to human
purposes. The Austrian school in the 1870s had already shown that
the value of an item derives from its ability to fulfill human
purposes. Hayek was arguing that social scientists more generally
should take account of human purposes. His thoughts on the matter
are in The Counter-Revolution of Science: Studies in the Abuse of
Reason. In psychology Hayek wrote The Sensory Order: An
Inquiry into the Foundations of Theoretical Psychology.
In political theory Hayek gave his view of the proper role of
government in his book The Constitution of Liberty. He
discussed the principles of freedom and based his policy proposals
on those principles. His main objection to progressive taxation, for
example, was not that it causes inefficiency but that it violates
equality before the law. In the book's postscript, "Why I Am Not a
Conservative," Hayek distinguished his classical liberalism from
conservatism. Among his grounds for rejecting conservatism were that
moral and religious ideals are not "proper objects of coercion" and
that conservatism is hostile to internationalism and prone to a
strident nationalism.
In 1962 Hayek returned to Europe as professor of economic policy
at the University of Freiburg in Breisgau, West Germany, and stayed
there until 1968. He then taught at the University of Salzburg in
Austria until his retirement nine years later. His publications
slowed substantially in the early seventies. In 1974 he shared the
Nobel Prize with Gunnar
Myrdal for his theories of money and his illumination of the
"interdependence of economic, social, and institutional phenomena."
This award seemed to breathe new life in him, and he began
publishing again, both in economics and in politics.
Many people get more conservative as they age. Hayek became more
radical. Although he had favored central banking for most of his
life, in the seventies he began advocating denationalizing money.
Private enterprises that issued distinct currencies, he argued,
would have an incentive to maintain their currency's purchasing
power. Customers could choose from among competing currencies, and
whether they reverted to a gold standard was a question that Hayek
was too much of a believer in spontaneous order to predict. With the
collapse of communism in Eastern Europe, some economic consultants
have considered Hayek's currency system as a replacement for
fixed-rate currencies.
Hayek was still publishing at age eighty-nine. In his book The
Fatal Conceit, he laid out some profound insights to explain the
intellectuals' attraction to socialism and then refuted the basis
for their beliefs.
Selected Works
The Constitution of Liberty. 1960. Reprint. 1972.
The Counter-Revolution of Science: Studies on the Abuse of
Reason. 1952.
Denationalization of Money. 1976.
"Economics and Knowledge." Economica NS4 (February 1937):
33-54.
The Fatal Conceit. 1988.
Individualism and Economic Order. 1948.
"Price Expectations, Monetary Disturbances, and Malinvestments."
In Hayek. Profits, Interest, and Investment. 1939. Reprint.
1975.
Prices and Production, 2d ed. 1935. Reprint. 1975.
"The
Use of Knowledge in Society." American Economic Review 35
(September 1945): 519-30.
"Richard
Cantillon." First published 1931. Translated by Micheál Ó
Súilleabháin in the Journal of Libertarian Studies, vol. VII,
No. 2. Fall 1985.
"Foreword"
to Economics
as a Coordination Problem: The Contributions of Friedrich A.
Hayek by Gerald P. O'Driscoll, Jr., 1977.
Introduction
to Bastiat,
Selected Essays on Political Economy, 1995.