Freedom and Economic Order

by Linda C Raeder

  In every case, whether the destruction is caused by natural disasters, wanton violence, or war, writers of such optimistic editorials reach the same false conclusion, based on the same flawed reasoning, as the passerby on the street observing the broken window. In all cases they perceive merely the immediate and direct effects of the destruction and ignore the long-term and indirect effects. They perceive only the benefits that will accrue to one group of all those affected and ignore the effect on other persons and groups. The element of truth in all of the examples presented is that certain types of industries do indeed benefit from destruction. Roofers will benefit in the wake of a hurricane; construction workers would have benefitted had the World Trade Center been rebuilt; and corporate giants like Halliburton do benefit from rebuilding infrastructure in war-torn lands. The gains of construction workers and firms, however, are offset by the losses of others—those whose property is destroyed—eliminating any possibility of net benefit to society as a whole. The money that homeowners must pay roofers to repair storm damage is comparable to the money the tailor had to pay the glassmaker to replace his broken window. The roofers gain, but their gain is offset by the absolute loss of the homeowners, just as the glassmaker’s gain was offset by the tailor’s absolute loss. Moreover, the money that homeowners must pay to replace their damaged roofs is no longer available for other purchases, say, a new washing machine, precisely as the tailor’s savings were no longer available to purchase a new computer. The washing-machine manufacturer, like the computer company in the original example, also suffers a loss—the loss of revenue the firm would have earned had the hurricane not damaged the roof.

  The identical analysis applies to destruction of property caused by war. Certain industries, again, do gain from such destruction, mainly governmental contractors in the building and construction trades. Their gain, however, like that of the glassmaker, is offset by the losses of others, those, like the tailor, whose property is destroyed and those who must pay to rebuild it. These are usually but not always the same entities. In the case of postwar Germany and Iraq, for instance, German and Iraqi property owners certainly suffered a loss equal to the value of their destroyed property. But American taxpayers—those required to repair the ravages of war—also suffered a loss. Postwar reconstruction is largely funded by the American government. Government spending, however, is chiefly funded by American taxpayers, who thus suffer a loss equal to the total amount of taxes appropriated for the purpose of postwar reconstruction. Moreover, the resources used to replace destroyed property, whether private funds or funds obtained by taxation, are no longer available to purchase other goods and services, whose producers, like the computer seller, also suffer economic losses. Those who tout the alleged economic benefits of war are victims of the Broken Window Fallacy, failing to consider the direct loss experienced by American taxpayers, equal to the amount taxed to rebuild Germany and Iraq, and the indirect loss of sales and revenue experienced by producers of computers, cars, washing machines, and so on, all those goods and services that American citizens would have purchased had they not been taxed to restore infrastructure ravaged by war. They fail to consider effects beyond the immediate and apparent (the benefit to the reconstruction trades). To recognize the plight of the invisible actors requires imagination and reason, the ability to perceive both “what is seen and what is unseen,” to mentally trace both the long-term and indirect consequences of economic acts or policy.

  Eight

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  Socialism: The Planned Economy

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  The characteristic error of the constructive rationalists . . . is that they tend to base their argument on what has been called the synoptic delusion, that is, on the fiction that all the relevant facts are known to some one mind, and that it is possible to construct from this knowledge of the particulars a desirable social order. —F.A. Hayek

  The most significant political dimension of the modern era has been the great contest between liberal democracy and the so-called “ideological movements” that arose in the nineteenth and twentieth centuries as alternatives and rivals to Western liberal society. Ideological in this regard refers to the fact that movements such as communism, socialism, and fascism were based on a comprehensive and consistent set of ideas—a belief system, worldview or Weltanschauung—that provided both the inspiration and justification for the revolutionary movement in question.[24] Indeed the widespread appeal and impact of such ideologies throughout the twentieth century has led to its dual characterization as both the “Age of Ideology” and “Age of Totalitarianism,” highlighting the relation between modern ideology and the rise of totalitarian government that further marked that period. The general nature and meaning of the ideological movements will be examined in Volume III of this study. The present chapter explores a more particular but highly significant dimension of such movements, namely, the fact that their goals were cast not only in political but also economic terms. The express aim was to replace capitalism with an alternative form of economic arrangement—one variant or other of a centralized, socialized, or “planned” economy. The twentieth-century experiments in planned economy were elaborately organized and conducted in various nations and regions, including the Soviet Union, Eastern Europe, Cuba, China, and others. One benefit of such experience has been an advance of knowledge concerning both the theory and practice of socialism and other forms of planned economy, knowledge unavailable to their original proponents.

  We begin with socialism and its central economic aim—to replace the spontaneous order of the market with the “organization of society as a whole,” as early French socialists such as the St. Simonians and Auguste Comte expressed the goal.[25] In contemporary terminology, such an aim involves the replacement of capitalism with one form or other of planned or command economy characterized by centralization or collectivization of economic decision-making. The textbook definition of socialism is an economic system based on “collective or governmental ownership and administration of the means of production and distribution of goods” or, less formally, “public ownership of the means of production.”

  The conventional definition, while not entirely satisfactory, does successfully highlight the key difference between capitalism and socialism, namely, and as we recall, the locus of property or decision rights in the two systems (private and public ownership, respectively). The private ownership of resources that defines capitalism, as we have seen, means that private individuals decide if and how resources are to be employed. Modern capitalist decision-making, based on the universal right to private property, is decentralized among millions of people, permitting individuals directly to respond to the particular circumstances encountered in their local and immediate environments. The accompanying rule of law, as we further recall, including the security of private property, provides both the institutional certainty and incentives needed to elicit such response, to encourage individuals to act in the face of local and immediate circumstances, informed by the information condensed in the prevailing structure of relative prices. The result is an efficient and rational use of limited resources, adapted to the ever-changing circumstances of human existence and in service of the fluid needs and wants of the people. Such an outcome is made possible by capitalist decentralization of decision-making with respect to both production and consumption. Such, as we have seen, is crucial to the discovery and utilization of all relevant economic knowledge in society, including the tacit and fleeting knowledge requisite to the careful use of scarce resources and that only exists dispersed among countless individual minds.

  Early advocates of economic centralization or socialization well recognized that the institution of private property, securing individual and decentralized decision rights over resources, is the cornerstone of a capitalist economy. For that reason, said Karl Marx (1818-1883), the most prominent advocate of modern socialism, the replacement of capitalism with so
cialism requires, first and foremost, the abolition of private property.[26] As he says in the Communist Manifesto, “the theory of the Communists may be summed up in the single sentence: Abolition of private [bourgeois] property.”[27] Accordingly, he and fellow travelers called for the transfer of property rights—ownership and direction of resources—from the private to the public domain, in effect, from private persons to government or “the state.” Such is the decisive move in the transformation of capitalism to socialism, summarized in the conventional definitions previously stated. Classic socialism involves the transfer of decision rights over resources from the private to the public realm. In terms of our discussion, this means that the responsibility for solving the economic problem confronting society is transferred from private individuals to centralized public authority of one form or another. We have seen that the fundamental fact of scarcity requires every society to reach decisions regarding what is to be produced, and how, as well as decisions regarding distribution of the fruits of production. In a socialized or planned economy, such decision rights are held by government. Government, and not private individuals, decides what is to be produced, and how to produce it; and government also decides, directly or indirectly, how the fruits of production are distributed.

  Economic planning by government can assume a variety of forms and embrace various degrees of control, more or less extensive or restricted. All such variants, however, from pure communism to socialism, fascism, modern-liberal progressivism, Keynesian “demand management,” and others, share certain essential attributes characteristic of all forms of planned economy. The differences among them, as we shall see, largely involve either the methods or extent of governmental planning and control and not the question of governmental control per se.

  Central Planning

  Having identified the defining attribute of all forms of planned or socialized economy—governmental control or direction of resources—the next task is to explore how a planned economy operates both in theory and in practice. To provide the clearest illustration of the dynamics involved, we shall use as our model the classic form of socialized economy, namely, pure or ideal communism, wherein government assumes centralized control over all resources in society. Communism so conceived is best regarded as a Weberian “ideal type.” Few if any actual modern societies practice or have practiced pure communism, just as few if any modern societies practice or have practiced pure or ideal capitalism as described in the previous chapter. The economic arrangements found in most modern societies, as we shall see, represent some mixture of capitalist and socialist elements. The use of ideal types, however, in both the present and preceding chapters, is particularly helpful for our purpose, that is, theoretical clarification of the basic operational principles and methods by which the two rival systems propose to solve the economic problem.

  Keeping such analytic constraints in mind, pure or ideal communism may be defined as exclusive public ownership of the means of production and other social resources. Government is solely and directly responsible for the allocation of resources with respect to both production and distribution. Production and distribution decisions are typically embodied in comprehensive economic “plans” devised by a central authority and aiming, in principle, to further the wellbeing of all members of society. (The more specific aims of economic socialization, practical and moral, will be explored in a following section.) The method is appealingly simple and straightforward. Government assumes ownership of all resources in society. It then establishes various planning boards or committees divided among particular sectors of the economy—agriculture, housing, health care, education, and so on. Committee members are expected to centralize within their purview all relevant economic knowledge held within society, that is, survey all available resources and all needs and desires of members of the community. By such means, it is believed, planners can develop a “big picture” of economic and social conditions (supply and demand) that will assist them in devising rational and efficient production plans that meet the needs of all people. Such plans typically embody various time horizons, such as the Five-Year Plans developed in the early Soviet Union. Planners devise quotas and time lines for the production of various goods and services, which are given in turn to managers of state-owned firms. Managers are expected to fulfill their assigned quotas by appropriate administration of the human and material resources allocated by the committees for their production. Upon production, the goods and services are to be distributed by political authority in a fair and equitable manner. The celebrated Marxist slogan summarizes the ethos underlying such collectivized production and distribution: “From each according to his ability, to each according to his need.”[28] Each member of society is to contribute, in accord with his particular abilities, toward fulfillment of the production plans devised by the central government. The collective fruits of their individual contributions are to be distributed by government for consumption “according to need.”

  Centralized governmental planning so conceived is portrayed by its advocates as a decided advance in economic practice. The rational “organization of society as a whole”—the creation of an overarching economic blueprint ostensibly embodying all relevant economic knowledge found within society—is the collectivist alternative to the alleged irrationality of the spontaneous market process. Advocates of economic socialization are typically marked by the inability to perceive the order intrinsic to a market economy, achieved as it is by observance of abstract or general rules and not specific commands or directives of an identifiable human authority. Indeed such critics of capitalism typically perceive its processes as disorderly and even reckless, without rhyme or reason, and its outcomes the product of chance, luck, or some other random or irrational phenomenon.[29] Economic socialization is invariably portrayed as a far more intelligent and rational manner of resolving the economic problem confronting society.

  As we shall see, however, the socialist demand, while generally cast in economic terms, is not, at bottom, an economic demand, that is, concerned with rational allocation of scarce resources in service of subjective human needs and wants. It is rather a moral demand asserted in the idiom of economics. The impetus for the replacement of capitalism with one form or other of socialized economy largely derives from the conviction that the distribution of resources that results from the market process is unjust. A market economy, as has been discussed, is inevitably characterized by wide disparities in relative income—some people are richer and some poorer. Collectivists of various persuasions regard such an outcome as morally unacceptable, and all forms of socialized economy thus aim to establish a more “even” distribution of wealth. The socialist moral imperative demands that every person have access to certain material goods and services, regardless of individual income. Such universal access is to be achieved by governmental production and distribution of the requisite goods and services. Contrary to the rhetoric often associated with central planning, its purpose is not a more rational or efficient utilization of the earth’s scarce resources but rather a more “equitable” distribution of resources than that achieved by a market economy. The importance of this topic—the competing moral visions embodied within socialism and capitalism—justifies an extended discussion, and it will be explored more fully in subsequent chapters.

  Our main concern at this juncture is to examine the actual operational methods typically employed in a highly centralized economy. The classic procedure, as we have seen, involves the abolition of private property and subsequent establishment of state planning committees charged with the responsibility of devising economic plans encompassing society as a whole. Such comprehensive central planning necessarily involves plans for production of particular goods and services, both “final” or consumer goods, such as automobiles and orange juice, and so-called “intermediate” and “producer” goods (sometimes referred to as “capital” goods). The production of any consumer good, say, an automobile, requires both “intermediate” goods or inputs (ti
res, engines, steel, paint, labor, and so on) and “producer” goods (non-consumable machines and other tools required to produce both intermediate and final goods). The particular plans for all such goods are devised by the committees and given, as said, to public firms for fulfillment. State-owned automobile firms are instructed to produce so many automobiles. State-owned tire firms are instructed to produce so many tires. State-owned manufacturers of steel receive similar orders. Every aspect of production—final, intermediate, and producer goods—must be planned for and organized in this fashion. Governmental planners may be intricately involved in the details of production or their oversight may be confined to assigning target production quotas, omitting precise specification of the manner of production, in which case firm managers may have some flexibility in devising individual ways of meeting their targets.

  Whatever the specific provisions detailed in the plans, however, the point of overwhelming significance is the enormity of such an endeavor. To grasp what is involved in centralized economic planning, consider the thousands, if not hundreds of thousands, of items sitting on the shelves of a local Home Depot or Lowe’s. Consumers can purchase everything from lighting fixtures to gardening supplies to drywall bolts of numerous kinds and sizes. They can do so, however, only because someone had the foresight to plan for their production. In a planned economy, a relatively small number of people, the state planning committees, must be able to fulfill the function performed in a capitalist economy by countless private entrepreneurs and business firms. The central planners alone must anticipate the need for each and every item that may arise over the time horizon established by the plan, as well as plan for all the intermediate and producer goods required for their production. Obviously a tremendous amount of knowledge and information is required to fulfill such a daunting task.