November 1, 2017

Deirdre McCloskey: Austrian Growth and Humane Liberalism

  • Deirdre McCloskey

    Distinguished Affiliated Fellow, F. A. Hayek Program for Advanced Study in Philosophy, Politics, and Economics

Thank you, thank you. I've changed the topic of my lecture from Humane Libertarianism to Austrian Growth. In the end, these two subjects, humane libertarianism and Austrian growth, connect with each other.

It seems silly under the first title to instruct you on saying that liberalism properly defined is moral, and that the doubts of our friends on the left and the right about free markets have very little to recommend them. On the other hand, it would be equally silly of me to come here, to the Hayek Program, and lecture virtually anyone here on the theoretical details of Austrian economics.

I've been drifting towards Austrianism, slouching you might say, towards Austrianism for quite a while, a couple of decades. How far the drift has taken me is something for other people to judge, and I'm certainly not learned in Austrian economics. For God's sake, I don't even know German. My study of the Austrian texts, in any language, has been sketchy at best. Though, when I was a graduate student at Harvard, we read Böhm-Bawerk, and I earnestly tried to understand what he was on about. I failed to understand what he was on about. About ten years later, I bought Kirzner's books but mainly because they were on sale from the University of Chicago Press. I think they were overstocks. I read a little bit of them, but I didn't get it. I was still a Samuelsonian economist. Very much a social engineer of the Cambridge, Massachusetts sort.

There's one argument that is of some interest, and might contribute to the reorientation of Hayekian economics. It's an empirical argument, appropriate for an economic historian to make. I'm just a vulgar economic historian. I'm a fact lady. I can't do this theory stuff. Please, it gives me a headache. I think a Hayekian approach to economics will make progress, and may even save our Samuelsonian colleagues from themselves, if it can illuminate the actual world by empirical standards persuasive to others. Of course, that's the spirit of the program in Austrian economics at George Mason, unlike certain other claimants to the Austrian mantle.

The argument is best expressed in a production possibility curve. Now, there are lots of economists here who understand this perfectly, and probably most of you have had a course in Ec1. I'm going to just draw it in the air here, because we're all very wise to this sort of thing. I'm going to draw some axes. This axis is the housing axis.The other one is the all-other-goods axis. This is an economy with two products. As you were told in the first week of Ec1, the fundamental—or a very fundamental—idea in economics is that there's such a thing as a production possibility curve, which shows you between these two axes what's possible and what's impossible. It divides the combinations of housing and all other goods into those two sets, the possible set and the impossible set.

I remember the first time I taught economics, it was to smart University of Chicago undergraduates back in 1968. I told them about the production possibility curve, and there was this young woman at the back of the class, always sat at the back. She turned out to be the very best student in the class. She did very well on exams and papers and so on; she was a smart kid. In the last class I gave, I thought I would go once more, for the benefit of the weaker students in the class, to convey this fundamental idea of opportunity cost. If you're going to get more housing, you have to have less all other goods, and vice versa. I did it. It suddenly struck her, the tragic claim that economics was making.

I said, "There's the possible and impossible. You can't have everything." This cri de coeur came from this young woman. It suddenly struck her how awful this was. She said, "Why not?" Opportunity cost and production possibility curves are a very important part of what we teach undergraduates, and I wish we could teach Trump the same thing. Life is hard. There's no such thing as a free lunch. Movements around the space of the possible are what economists mainly talk about. They're in the space of the possible. They talk about inefficiencies, and tendencies to mass unemployment, and information asymmetries, and externalities, and uncertainty, and monopoly, and so forth.

It's all about inside this production possibility curve, and getting to a good point, namely on the curve. That's a good start. Instead of being inside where you're not getting as much as you could for the same input. It's around this stuff in the possible area that debates about policy, and certainly debates about theory operate. In the past few decades, economic historians—that's my tribe—have come to be very clear, increasingly clear, that what really happened in the last two centuries in the West, and now in the east and south, is an astonishing movement of this production possibility curve out, outward. Here's why it's relevant.

The Problem For Economists

Let's do this diagram again. We'll have it like this. Here, I'll draw the per capita production possibility curve between housing and all other goods in Britain in 1800, say. It's down here. What actually happened is not about these more or less interesting problems, imperfections as economists call them, inside the possibility frontier; but that the whole thing moved out by a factor of 20, or 30, or by some measures, 100. It would be like talking about the statics of an airplane sitting on the tarmac. You've got the stress analysis of the weight of the plane and blah, blah, blah. You've got it all worked out mathematically. Then, the plane takes off into sustained flight. That's the problem.

We're focusing on the static balance in an airplane, and saying wisely, "Oh no, externalities really need the government." I've heard Joe Stiglitz say, the amiable Joe Stiglitz says, "When there is an externality, the government should step in, period." If I wore an ugly burnt orange dress—the older women in the audience can remember burnt orange, they even made refrigerators that were burnt orange back in the day—if I wore a hideous burnt orange dress, that would be an externality. No question about it. I suppose I wouldn't mind if you came up and tried to bribe me to get out of it. Still, you don't; so, I would be walking around the street and people would be offended all the time, hurt their eyes. Joe says, there should be an agency, a government, that compels Deirdre to not have a burnt orange dress. That's the fundamental problem here.

The problem, in particular, is that in all the assertions of imperfection that have been made since 1848 in economics. Monopoly was one of the earlier ones. Then externalities. Recently, information asymmetries, and blah, blah, blah. Tendency to inequality, etc., etc., etc. None of them, virtually, have been shown to be aggregate important. This gets my colleagues really angry. They say, "What do you mean? There are empirical studies of—I don't know—smoke externalities. I did one for the EPA, and blah, blah." Well, that doesn't show that it matters. That doesn't show that it matters as a force on economic growth.

Considering that what happened, the basic great enrichment of the past two centuries. Enormously increasing the welfare of ordinary people, by a factor of 20, 30, 100. That's what we need to explain. Not little inefficiencies, Harberger triangles, or Gordon Tullock rectangles. That shouldn't be our job. Our job should be understanding the nature and causes of the wealth of nations.

“Enormously increasing the welfare of ordinary people, by a factor of 20, 30, 100. That's what we need to explain.”

So, we arrive at this very strange situation. Of course, what's wonderful about the success of imperfections that economists keep inventing or noticing is that it generates a gratifying large number of Nobel Prizes. I mean, that's swell. Thaler just got it. His Nobel Prize amounts to saying that you all are a bunch of gormless idiots who need to be nudged towards efficiency. Mario Rizzo showed me this afternoon a website of all the biases that psychologists have come up with, to the order of magnitude of six score. It's miraculous that we can cross the street. I mean, here we are, these stupid people that have this bias and that and we're wandering around in a fog of confusion. Good God, it's amazing we don't kill each other.

You can put it this way. If there was a 3,000 percent increase in income per head, since 1800 in a place like England or even Pakistan, you could say well, these imperfections—in Yiddish syntax—these terrible imperfections; we should have such imperfections. It’s terrible monopoly and externalities and common property problems. Oh my God, it's terrible. Yet, meanwhile the airplane is taking off into flight. Explaining the flight, is what we as economists should be focused on. Not the possible imperfections in the small.

Explaining Growth

Now, since Robert Solow and Moses Abramovitz started saying this in the 1950s, it's become clear that what makes us rich is commercially tested betterment, not capital accumulation. Now understand, capital accumulation is necessary. You can't build this building without reinforced concrete. The building is not going to be worth building unless you've already invented reinforced concrete, great windows like these, which would be impossible in 1800. Is this a dropped ceiling? Yeah. Dropped ceilings, electric lights, air conditioning, and so forth. Those ideas, those technological and institutional ideas, such as the modern university, founded in 1810 at the University of Berlin; these are what the causes are.

That property rights are necessary, that capital is necessary, that a labor force is necessary; it's like saying that a fire is caused by the existence of oxygen in the atmosphere. Little Joe, plays with matches behind the barn. The barn burns down. What's the cause of the barn burning down? Now, I admit readily, that you needed the oxygen. In fact, the whole point of fire suppression is to prevent oxygen from getting to oxidization, to fire; but the cause, in any sensible narrative, any way we could have a policy or a sensible understanding of what happened, must be that it's little Joe with his damned matches.

It's ideas that drove the modern world, not capital accumulation. It's certainly true, in case you're thinking, "Ah well, but it's exploitation. It's imperialism or the exploitation of the working class." That too, has the same problem. The exploitation of the Indian subcontinent by the British was not profitable to average people in Britain. It was profitable to a bunch of twits from minor public schools, who got to serve in the empire; but it wasn't the cause of enrichment to any substantial degree. In fact, on the whole, the British Empire was a big burden on the average taxpayer in Britain. Half of the budget for the Navy went to protect the sea routes to India. Well, you only want to protect the sea routes to India if you want to keep India. Whether or not the raj was good or bad for the Indians, and south Asians generally; it was not a big profit center for ordinary English folk. They paid for the guns; they paid for the ships.

Of course, again I don't need to remind this audience, that the core idea of Austrian economics is that entrepreneurs discover what no planner can lay down. Contrary to the salutary messages of the production possibility curve, opportunity cost ... What modern economic growth is, is a massive free lunch. You say there's no such thing as a free lunch. Yes, there is. The steam engine is a free lunch, or the separate condenser for a steam engine. Carbonized cotton as the filament for an electric light is the free lunch. The internet is the free lunch, and so forth.

As Israel Kirzner said, "Entrepreneurship is not about shuffling, since a hired manager can do the shuffling." He says, "The incentive is to try to get something for nothing. If only one can see what it is that can be done." Now that's a definition of a free lunch. My claim, in my three books, is that a new rhetorical environment in the 18th century encouraged, that is gave courage to the hope of, entrepreneurs. As a result, over the next two centuries, the production possibility curve leapt up. It's the conditions for free lunches that economics, and especially Austrian economics, ought to be studying.

“My claim, in my three books, is that a new rhetorical environment in the 18th century encouraged, that is gave courage to the hope of, entrepreneurs.”

What kind of society do we need to get these free lunches? Is it a heavily planned, centralized economy? That's how to get it? Do we need lots of engineers? Is that how to get it? Or do we need a free society in which ordinary people, as the English say, feel free to have a go? To open a hair dressing salon in the neighborhood when they want to. I'm not just talking about the glorious heights of technical change. I'm talking, as the Austrians do, about ordinary arbitrage, so to speak. Buy low, sell high. About all the opportunities in a society that are created by a lack of equilibrium. Once we're in an equilibrium, then it's the heat death of the economy. It's the maximum entropy, and nothing happens. In the meantime, the non-entropic state of the economy makes for opportunities.

Now, it's been very hard for economists to get this straight. In 1871, a century after Smith, John Stuart Mill's last edition of the "Principles of Political Economy," is the perfection of classical economics. Mill says, "Much as the collective industry of the earth is likely to be increased in efficiency by the extension of science and of the industrial arts, a still more active source of increased cheapness of production will be found, probably for some time to come, in the gradual unfolding of free trade and the increasing scale on which immigration and colonization will be carried out." Mill, you can imagine, is a hero of mine, but he was in error.

The gains from trade, though statically commendable… (I'm not against gains from trade. I'd have to turn in my economics union card if I said that, and I wish Trump had people around him who would turn in their economics union cards. It's well worth having.) These gains of further specialization were trivial beside the extension of industrial arts. Now, it's not evil to persuade someone, by sweet words, of a position already known. After all, it's better than shouting them down, or shooting them, or forcing them into Bantustans. The creativity of the West in the 18th or 19th centuries came from other, higher, good conversation rhetoric. You may know that's one of my favorite words.

Austrian economists, such as Kirzner and Hayek—both of whom, by the way, you may not know this, provoke snorts of disdain from Samuelsonian economics. I can give you some names—are focused on this notion of creativity and discovery. George Shackle, another economist snorted at by Samuelsonian economists, remarked wisely, "What does not yet exist cannot be now known. We cannot claim knowledge so long as we acknowledge novelty." Unknown knowns, as someone put it.

These discoveries will sometimes involve money payments, in which the two parties discover mutually advantageous deals. Smith argued, of course, that, "The offering of a shilling, which to us appears to have so plain and simple a meaning, is in reality offering an argument to persuade one to do so and so, as it is for his interests." But discovery involves other forms of non-violent persuasion as well. Examine the business shelves in the airport book stalls. You'll see that about a third of the books are about persuasion, about sweet talk, about persuading your employees, your banker, your customers to go along with this discovery you've made. Without that, and this is one of my criticisms of Israel Kirzner, without that the alertness of the entrepreneur falls on stony ground. If the entrepreneur is not a rhetor, a sweet talker, she's not going to survive the sharks. She's not going to get the investment, or the employees for that matter, to make her point.

The problem with all the economistic explanations lies deep, I say, within classical and most of subsequent economic thought. The conviction that shuffling around makes us better off, which is true; and therefore that the shifting makes us as rich as modern people are, which is false. Transportation, reallocation, information flow, accumulation. As Kirzner expressed it, the British economy flourished in the 1930s, Lionel Robbins and the Samuelsonians, economizing simply means shuffling around available resources in order to secure the most efficient utilization of known inputs in terms of a given hierarchy of ends.

Yet, the path to the modern [economy] was not through shuffling and reshuffling. It was not by the growth of foreign trade of this or that industry, here nor there, nor by shifting weights of one or the other social class. Nor indeed was it re-shufflings of property rights. Nor, to speak of another sort of re-shuffling, was it by rich people piling up more riches. They'd always done that. Nor was it by bosses being nasty to workers. They had always done that too. Nor by strong countries leaning on weak countries. Again, this is universal. Piling up bricks and money and colonies had always been routine, everywhere: in China, in ancient times, in Rome, and so forth.

Virtues and Liberalism

The new path was not about accumulation, or theft, or commercialization, or reallocation, or any other shuffling. It was instead about discovery, and a creativity supported by novel words. In terms of the seven principle virtues, of which I've written, the static routine of efficiency depends only on prudence, the virtue of prudence. What I'm claiming here is that discovery and creativity depend also on other virtues, in particular courage and hope. The conversational society honoring commercial courage and hope depended in turn on a new bourgeois construal of the virtues, of temperance, justice, love, and faith. As a result, previously unknown inputs were discovered—coal for steam engines, for example—and new goods and services were created: black tulips, common stocks, reinforced concrete.

All of it was very far from prudence. The new path led around 1700, from the change in rhetoric. I call it the bourgeois revaluation. It's not so much that individual business people became psychologically more greedy or harder working. That's Max Weber, and it's wrong. It's mistaken. What happened is that the rest of the society joined in praising bourgeois actors. Not entirely. England, to this day, has a certain sneering attitude towards people in trade, but that's increasingly obsolete. In any case, between the time of Shakespeare and Jane Austen, it radically transformed, as I show in the books. We started to admit into civilized society the bourgeoisie, which we had formerly excluded.

Now, why did this happen? Why, around 1800, did commercially tested betterment become so frenetic, so insane? This factor of 30 or 40 or whatever you want. In brief, to use one word, it was liberalism. Adam Smith's liberal plan of social equality, economic liberty, and legal justice. At its core, Austrian economics is the theory of liberalism. Henry David Thoreau declared, in the 1840s, "I hardly agree with that precept, the government that governs best, governs least." So did many in this first age of liberalism, from Mill in England to Farrera in Italy. Liberalism, here's the key economic point, inspirited ordinary people to have a go.

“At its core, Austrian economics is the theory of liberalism.”

In a hierarchy, you're stuck if you're a milkmaid. You're stuck if you're a slave. That's pretty obvious. Hierarchies of the sort we had—men over women, masters over slaves, masters over apprentices for that matter—were stultifying, stultifying. They made people stupid. Whereas giving them the dignity that liberalism does, treating ordinary people as empowered, as our friends on the left say, is exactly what made for the explosion of innovation. Again, in the books which you must buy, they're cheap at Amazon, that's what happened. Liberalism is an ethic, though, of the golden rule. Maybe in the negative form that Thoreau favored. "Do not do unto others as you would not have them do unto you." This is not like the Florida State football player on the eve of the Florida game, who said, "I follow the good book. Do unto others before he do unto you."

We need to take back, we people here, need to take back the word "liberal" now that progressives have abandoned it. Daniel Klein calls it Liberalism 1.0, or channeling the old C.S. Lewis book on the minimum commitments of faith, Mere Christianity, he calls it mere liberalism. David Boaz, of the Cato Institute, wrote a lucid guide, Libertarianism: A Primer, reshaped in 2015 as The Libertarian Mind. I wish David had called it boldly, “The Liberal Mind.” We need to take back our devotion as liberals to the welfare of the poor.

Our friends and our enemies on the left have a very strange psychological theory about many of the people in this room, including me. They think our ethical purpose is to give Charles Koch more money. Now, how they can imagine that anyone would have such an ethical purpose ... Or they say we're just corrupted by Charles Koch. There, you see, you got some money from Charles Koch. They don't apply the same standard to themselves. There, you see, you got some money from the State of Virginia. There, you see, you got money from George Soros. No, that doesn't corrupt them, but it's supposed to corrupt us. It just doesn't make psychological sense.

In other words, let's advocate a humane liberalism. This humane liberalism is mainly against policy. The best policy, usually, is to have no policy. Now, the government, said Max Weber, in 1919, "is the legitimate monopoly of the use of physical force in a certain area." And that's perfectly alright. It's by no means bad. We don't want competing mafias, competing with physical force, but this violent monopoly that Max Weber identified is, of course, very dangerous.

If you were on the left or the right, Democrat or Republican, a Laborite or a Blue Tory, you view the government as an innocuous instrument, for doing the swell things that we good people want. Such as the Hoover Dam, or the War on Drugs, or the Royal Family. You then may object to Weber's definition. Surely this talk of the monopoly of violence is over the top. I suggest that you test your beliefs that governments are not motivated by violence by not paying your taxes, and see what happens. Then, try to escape from prison, and see what happens. On the other hand, you can try not buying an iPhone, and there will be no IRS agent at the door to insist that you buy one.

We, humane liberals 1.0, are neither conservatives nor socialists. Both conservatives and socialists believe, like most lawyers like Hayek put it in 1960, that “order [is]… the result of the continuous attention of authority,” the continuous attention of authority. Regulation. Both, in other words, he continues, “lack the faith in the spontaneous forces of adjustment, which makes the liberal accept changes without apprehension. Even though he does not know now the necessary adaptions which will be brought about.” At root then, humane liberals believe that we should stop pushing people around, standing over them with a fist or gun. Men over women, masters over slaves, politicians over citizens. As Boaz says at the outset of The Libertarian Mind, "In a sense, there have always been but two political philosophies, liberty and power."

A humane liberal 1.0, to put it another way, really, really doesn't like the sometimes necessary monopoly of violence. She worries about it all the time. She is, in fact, says Hayek, "In the party of life, the party that favors free growth and spontaneous evolution.” Against the various parties of the right and left that wish to “impose [by violence] upon the world a preconceived rational pattern.'" Real humane liberals, of course, believe that people should help and protect other people when they can. We liberals care; we really do. The political philosophers Jason Brennan and John Tomasi call themselves neo-classical liberals contributing to a lively website called Bleeding Heart Libertarians. That's what I'm recommending, bleeding heart libertarians.

My historical point is that this is what made us rich and good, bleeding heart libertarianism in the early 19th century. That's what started modern economic growth. We humane liberals are very far from being against the poor people. Nor are we ungenerous and lacking in pity. Nor are we strictly pacifists, willing to surrender in the face of invasion by those terrible Canadians (in their toques you know, they'll come down at any moment.) We believe that in getting such goods as charity for the poor or security for the nation, our polity should not turn carelessly to violence at home or abroad. We should not use violence for leftish or rightish purposes. We should depend chiefly on voluntary arrangements.

“[T]his is what made us rich and good, bleeding heart libertarianism in the early 19th century. That’s what started economic growth.”

So, dears, in brief, liberalism made us rich and good. It turned out that being good in this liberal way, following the golden rule, released economic growth, which had been squashed for millennia. Now, we shouldn't focus on claiming on the no doubt fascinating details of capital accumulation. We should be focusing on why we all started to have a go in a society somewhat freer and less hierarchical, if hardly perfect. After all, the American society was a slave society until 1865. Let's get back to [liberalism], before it's too late. Thank you.

Additional Reading and Listening

For background on McCloskey’s embrace of Austrian economics and links to research, see this blog post by Peter Boettke: http://www.coordinationproblem.org/2011/12/mccloskeys-transition-to-austrian-economics.html.

Harberger, Arnold C. 1964. “The Measurement of Waste,” The American Economic Review 54(3): 58-76. Tullock, Gordon. 1967. “The Welfare costs of Tariffs, Monopolies, and Theft,” Economics Inquiry 5(3): 224-232.

Kirzner, Israel M. 1976. “Equilibrium vs. Market Processes,” in E. Dolan, ed., The Foundations of Modern Austrian Economics. Kansas City: Sheed and Ward.

McCloskey, Deirdre N. 2006. The Bourgeois Virtues: Ethics for an Age of Commerce. Chicago: University of Chicago Press. McCloskey, Deirdre N. 2010. Bourgeois Dignity: Why Economics Can’t Explain the Modern World. Chicago: University of Chicago Press. McCloskey, Deirdre N. 2016. Bourgeois Equality: How Ideas, Not Capital or Institutions, Enriched the World. Chicago: University of Chicago Press.

Thoreau, Henry David. 1849. Civil Disobedience.

Lewis, C.S. 1952. Mere Christianity. London: Geoffrey Bles. Klein, Daniel B. 2004. “Mere Libertarianism: Blending Hayek and Rothbard,” Reason Papers 27: 7-43.

Boaz, David. 2015. The Libertarian Mind: A Manifesto for Freedom. New York: Simon & Schuster.

Hayek, F. A. 1960. The Constitution of Liberty. Chicago: University of Chicago Press.