Author: Zhu Hai
It's not overcapacity, it's not a lack of demand, it's ......
Author | Zhu Hai
Source | Review of Economics of the Austrian School
With regard to the current economic problems, some say that there is overcapacity, others say that there is insufficient demand, but these judgments are superficial or felt. We will explain that it is actually a problem of "misalignment (such as wrong investment)", specifically, the result of economic calculations being unable to be carried out or distorted. "Economic calculation" was proposed by Mises in the great debate of socialist economic calculation, and it is also an important part of the Austrian theory of production and the theory of the business cycle, which is premised on the price of money.
We know that different factors of production are complementary and substitutable, and their combinations are infinite, so one of the problems that "production" needs to solve is "which combination of production factors is the most effective", that is, how to have a combination of production that better meets people's needs? No one, no matter how knowledgeable he is, can give a solution to this problem. One reason is that the knowledge required to give such a scheme is produced only when the production process unfolds, not to mention that he does not possess the knowledge scattered in the minds of countless individuals, which is the reason why a planned economy is not feasible.
This means that production must be handed over to an infinite number of producers and consumers, not to a single planner. Consumers conduct a "monetary bid" on existing goods based on their own subjective value judgments, resulting in an objective currency exchange ratio that links the value of all consumer goods to each other. Entrepreneurs who seek to maximize monetary profits acquire the factors of production owned by these consumers (including those who play the role of entrepreneurs) on the basis of knowledge of the price system of consumer goods and the existing technical conditions of production. In this competitive process, every productive service is objectively evaluated in monetary terms according to its ultimate contribution to the production of consumer goods, and the signal produced by this evaluation is the price, which constitutes the conditions of a socially efficient production.
Therefore, the production process is a process in which producers and consumers evaluate the final product and factors of production according to the price every day and every moment, exchange and produce on this basis, and generate a new price. On the basis of this new price, consumers and producers will re-evaluate and carry out new exchanges and productions. The resulting price structure of money is a truly "social" phenomenon. In this process, each good and service is given a "base" (monetary price) that connects different goods and services and constitutes the conditions for people to produce coordinated "actions" (economic calculations), that is, the efficient allocation of resources.
Thus, the economic calculation of the price of money is such a mental tool that enables one to select the optimal production plan from a large number of intricate production plans, making complex production processes possible. Without such price signals, production activities cannot go beyond the primitive household economy, or in other words, large-scale production cannot be realized. Actors must be in a position where they can assess the benefits and costs of their actions in terms of monetary prices in order for economic activity to be effective.
The market is efficient because it enables individuals to make these calculations and thus make meaningful "choices" that benefit enormously from the exploitation of the law of comparative advantage. Both the market and society are built on the basis of the use of comparative advantages. This exploitation of comparative advantage is achieved through the "universal collaboration" resulting from the calculation of monetary prices. Therefore, the principle of comparative advantage is also known as the principle of collaboration by Mises.
The key to whether a society can function and whether people's living standards can be improved lies in whether the above-mentioned economic calculations can be realized, because it determines the use of the law of comparative advantage. If this kind of calculation can be realized, then the division of labor and cooperation can be carried out, and the society will be "safe and sound", or it will prosper, on the contrary, if this "calculation" is destroyed, then the "economy" will be destroyed, and the "society" will be in trouble. The calculations made by different people on the basis of their personal value judgments based on the price of money are what Mises called the "intellectual division of labor", which distinguishes it from Smith's division of labor and Hayek's division of knowledge, and constitutes the precondition for the latter two divisions of labor to be possible. For, without economic calculations, one cannot compare costs and benefits, and therefore its actions, that is, his use of knowledge, are blind, and therefore there is no division of knowledge, and without the division of knowledge there is certainly no division of labor. The calculation of prices, with the help of prices, is an action that makes use of "entrepreneurial knowledge", which is different from the knowledge that Hayek emphasized.
The above discussion shows the importance of monetary price signals to production. If the price signal is canceled, as in the planned economy, and the price generated by the market is replaced by artificial prices, then the production of a society is carried out in the dark, and this production cannot meet the requirements of the producer's production in line with the needs and preferences of consumers, that is, the allocation of resources is ineffective, and then a society will fall into poverty.
Economic computing establishes a close link between producers and consumers, so that consumers' choices play a full role in determining the allocation of resources, even if production revolves around the real needs of consumers, so that the expected preferences of participants in the social division of labor are reflected, so that there will be no serious disconnect between production and consumption. On the contrary, any coercive intervention in prices will destroy this complex computational relationship, creating a "dissonance" between the production of entrepreneurs and the needs and preferences of consumers. When coordination between the two is disrupted, it reduces the efficiency of resource allocation and reduces social welfare. In fact, we can conclude that every intervention necessarily and unequivocally reduces social welfare.
As already mentioned, the planned economy failed precisely because in the absence of "market prices" one could not make economic calculations, and therefore the entire production process was blind. Similarly, if a country's market processes are artificially distorted or suppressed, it will face a similar problem, i.e., large-scale "dissonance".
The current economic problem can be understood precisely from the perspective of the disharmony caused by the obstruction of "economic calculation", and it is the same as the failure of the planned economy. For example, nationalization means that a large amount of resources are not put into the market, and there is no competition among entrepreneurs to buy them, so that the market evaluation of resources will not be generated, the monetary price signal will disappear in these areas, the process of economic calculation will cease to appear in these areas, the scope of economic calculation in a society will be reduced, and the level of welfare of the society will inevitably decline. In addition, various industrial and fiscal policies also distort the price signal and make the economic calculations of the entrepreneur wrong, which leads to the detachment of the production structure from the demand structure of the consumer, which is manifested in the fact that when the entrepreneur produces the product, he finds that the market does not actually have so much demand.
The "overcapacity" or "underdemand" we see now is actually a "capacity error" caused by the distortion of economic calculations and the destruction of the coordination order. If we stop intervening in currency prices and constantly expand the scope of economic calculations, then the economy will continue to improve, and this is how China's economic development in the past has been achieved. The reform and opening up in 1978 and China's accession to the WTO in the early 20th century are examples of expanding and deepening the scope of economic calculations, which are also China's successful experiences in the past. In other words, China's successful experience is consistent with the above "theory". Proper "attribution" is an important condition for continued prosperity in the future.
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This article is forwarded from the official account of the Austrian School of Economics Review, and the author is Zhu Haizhuo, who is currently a professor at the School of Economics of Zhejiang Gongshang University and a master's supervisor.