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HISTORY AND ANALYSIS OF THE
SOCIALIST CALCULATION DEBATE

BY

Nabil George Dahdah

A DISSERTATION

Submitted to
Michigan State University
in partial fulfillment of the requirements
for the degree of

DOCTOR OF PHILOSOPHY
Department of Economics

1987

ABSTRACT

HISTORY AND ANALYSIS OF THE
SOCIALIST CALCULATION DEBATE

BY

Nabil George Dahdah

In an article published in 1920, Ludwig von Mises
started what came to be known as the socialist
calculation debate. He argued that rational economic
calculation in a socialist system characterized by
public ownership of the means of production is
impossible. In the absence of a market for capital
goods, decision makers are left with no rational basis
to determine the prices of such goods and their
allocation to different uses.

Mises's thesis elicited strong responses from
socialist economists in the 19303 in England. A number
of solutions to the problem of socialist calculation
were suggested. Apparently, some were advanced with no
knowledge of Mises's work. One category of solutions is
based on solving a system of simultaneous equations for
the whole economy, yielding equilibrium prices and

quantities for both factors and products. The other is

Nabil George Dahdah

based (H) a process (Hf trial-and-error resulting in
prices that would prevail under perfectly competitive
conditions. Both socialist and Austrian protagonists of
the debate made arguments and counter-arguments which
ended with the refutation of Mises's argument.

Although tflua competitive socialist solutions
represented a decentralized socialist planning answer to
Mises's claim, the debate ignored the possibility of
finding a centralized socialist planning solution. In
this dissertation, therefore, Soviet prices and planning
are analyzed to determine the basis of Soviet price
formation and its relationship to the arguments raised
by Mises and other Austrians. In addition, Soviet
theoretical debates about alternative methods of price
calculation in the Soviet economy are examined.

This study concludes that there is more than one
answer to Mises's contentions and the arguments raised
by other Austrian economists. The competitive socialist
solutions offer but one answer to Mises; another answer
to the problem of socialist economic calculation is
found in the context of the Soviet central planning

system.

To the memory of my late father,
to my mother, and to my
uncle, Farid N. Dahdah

ii

ACKNOWLEDGMENTS

I would like to express my deepest gratitude and
appreciation to Professor Warren J. Samuels, the
chairman of my dissertation committee, for his guidance,
support, and encouragement throughout the work on this
study. Without his valuable advice and critique, this
work might never have materialized.

Special appreciation is extended to Professors
John Henderson, Charles Larrowe, Jeff Biddle, and Suzan
Linz for their valuable comments.

I wish also to thank Mr. Gene Purdum for the
tedious job of typing this dissertation, which he did
with utmost patience and professionalism.

Last, but not least, appreciation is due to Ms.
Elizabeth Johnston for the fine editing job she did on
this dissertation.

Any errors in this study are the sole

responsibility of the author.

iii

Chapter I.

Chapter II.

NNNNNN

NNN

Chapter III.

Chapter IV.

.0000
O‘U’IbWNH

o 0
mm“

TABLE OF CONTENTS

INTRODUCTION 0 C O C O O O O 0

Notes to Chapter I . . . . .

THE FIRST ROUND OF THE DEBATE:
BARONE, TAYLOR, ROPER, DICKINSON,
DOBB, ROBBINS, AND HAYEK . . .

Mises's Thesis . . . . . . .
Barone's Solution . . . . .
Taylor's Solution . . . . .
Roper's Solution . . . . . .
Dickinson's Solution . . . .
Summary of Comparisons and
Contrasts among Solutions
Dobb's Response . . . . . .
Robbins's Response . . . . .
Hayek's Response . . . . . .
Notes to Chapter I . . . . .

THE SECOND ROUND OF THE DEBATE:
LANGE, LERNER, DICKINSON, AND HAYEK .

MISES,

Lange‘s Responses and Solution . .

Lerner's Contribution . . .
Dickinson's Contribution and

Rejoinder . . . . . . . .
Hayek's Response . . . . . .
Notes to Chapter II . . . .

THE ORIGINAL PARTICIPANTS POST-WORLD
WAR II REASSESSMENT OF THE
CONTROVERSY: MISES, LANGE, DOBB,
AND HAYEK . . . . . . . . . . .

Mises's Response . . . . . .
Lange's Re-evaluation . . .
Dobb's Solution . . . . . .
Hayek's Reassessment . . . .
Notes to Chapter IV . . . .

iv

10

10
13
16
20
22

27
32
36
39
45

48

48
60

64
71
81

85

86
90
94
100
106

Chapter V.

SOCIALISM,
SYSTEM .
5.1
5.1.1
5.1.2
5.1.3
5.1.4
5.1.5
5.2
5.2.1
5.2.2
5.2.3
5.3
5.4

Chapter VI.

Chapter VII.

SECONDARY AND COMPLEMENTARY
LITERATURE: COMPARATIVE ECONOMIC
SYSTEMS LITERATURE, SECONDARY
CONTRIBUTIONS, YUGOSLAVIA'S MARKET

AND THE SOVIET PRICE

Comparative Economic Systems

Literature . . . . . . . . . . .

General Applicability and
Practicability of the
Competitive Solutions . .

Statics and Dynamics . . .

The Rules Imposed on
Managers . . . . . . . .

The Supervision and Reward
of Supervisors . . . . .

Other Issues of the Debate.

Secondary Contributions:

Drewnowski, Ward, Lavoie . . . .

Drewnowski's Dual
Preference System . . . .

Ward's Evaluation of the
Debate . . . . . . . . .

Lavoie's Contribution . . .

Worker-Managed Market Socialism .
Prices and Planning in the

Soviet Economy . . . . . . . . .
Notes to Chapter V . . . . . . . .

THEORETICAL ASPECTS OF THE SOCIALIST
CALCULATION CONTROVERSY . . . . . . .

l Rational Economic Calculation . .
2 Price Formation . . . . . . . . .
3 Cost Categories and Cost-Pricing .
4 Microeconomic Aspects of the
Debate . . . . . . . . . . . . .

Consumers' versus Planners'

Preferences . . . . . . . . . .

Macroeconomic Aspects of the

Debate 0 O O O O O O O O 0 O O 0
Notes to Chapter V . . . . . . .

OTHER ASPECTS OF THE SOCIALIST
CALCULATION CONTROVERSY . . . . . . .

Page

109

110

110

114

116

118
121

125
125
132
137
143
149
167
174
174
180
187
193
196

202
205

206

Page

7.1 Historical Development of the
Debate . . . . . . . . . . . . . 206
7.2 The Problem of Knowledge
Utilization . . . . . . . . . . 212
.3 Socialist Solutions Reconsidered . 215
.4 The Rhetoric and Methodology of
the Debate . . . . . . . . . . . 219
Notes to Chapter VII . . . . . . . 222

Chapter VIII. CONCLUSION . . . . . . . . . . . . . 223

Bibliography . . . . . . . . . . . . . . . . . . 237

vi

CHAPTER I

INTRODUCTION

The right to property ownership was the subject
of conflict even before capitalism and socialism came
into existence. The debate over this issue developed
and grew more severe with the rise of two schools of
economics: scientific socialism and the Austrian
(marginal utility) school. The theories developed by
Marx regarding the ills of the social organization of
the capitalist system and the eventual overthrow of
that system did not appeal to the Austrian economists.
In particular, they vehemently opposed public ownership
of the means of production that would prevail under
socialism. Believing that the capitalist market system
works, they stressed the harmony among social classes
and endeavored to show this existed by using the theory
of utility. These views were popular and persuasive
until the capitalist mode of production began to
encounter a number of problems. Socialism then gained
ground among various classes in many countries

1

2
throughout Europe, and by World War I the appeal of
socialism was well entrenched.

This climate of rivalry was not confined to
these schools but was part of the general conflict
between socialists and supporters of the
free—enterprise system. The central problem for the
Austrian economists was the allocation of available
resources. among competing uses, whereas for the
socialists it was the achievement of social justice
through the distribution of wealth. The partisans of
each ideology refined and shaped their lines of
reasoning to defend their own position and to attack
and criticize the other. The socialist ideology was a
unique and radical theory that "promised" or
"threatened" unprecedented economic and social
changes. It faced strong criticism, and for a while
its proponents were on the defensive. An important
criticism was the claim that scientific socialism did
not offer any economic theory of socialism and that it
"discouraged any inquiry into the actual organization
and working of the socialist society of the
future."1

One particularly telling argument was that the

socialist economy was unable to allocate resources
rationally. Specifically, in the absence of markets

for consumer and especially for capital goods, there

3

would be no market prices for such goods to guide
resource allocation; rational economic calculation
would thus be impossible in a socialist economy.2
This claim--made for the first time in 1920 by the
Austrian economist Ludwig von Mises--spurred much
argument in both Germany and England. The controversy
became known as the “Socialist Calculation Debate."

There was much discussion in the German
literature about the issues raised by Mises, but the
debate intensified in the English literature of the
19305, following the translation of Mise's article
into English. Only that literature will be dealt with
in this study, since it contributed more to the
economic theory of socialism than did its German
counterpart. The controversial issues raised
constitute some of the most important and difficult
topics in contemporary economic theory. Recently, a
renewed interest in the debate has been initiated by
some Austrian economists, who believed that the

3 The

matters involved are far from being resolved.
socialist theorists consider the debate closed,
maintaining that Oskar Lange has offered a.complete
refutation of Mises's claim. Furthermore, prior to
World War II most economists had judged the
socialists' arguments more convincing and had accorded

them the upper hand in the matter.4 Nevertheless,

the Socialist Calculation Debate merits study due to

4
the renewed interest in it and because of the
importance of the issues raised.

The objective of this study is to explore the
history of the Socialist Calculation Debate, beginning
with Mises's claim in 1920 and continuing until the
present. Various and distinctive aspects will be
identified and analyzed in order to detect the
implications and significance of the debate and its
elements. To achieve these objectives, the problem of
socialist calculation and rational allocation of
resources will be explained, and the literature on
this topic, together with the standpoints of different
participants in the debate and the views of other
economists, will be analyzed.

The study will tackle the socialist controversy
from both historical and analytical angles. Chapters
II through V will cover.the historical aspects, and
Chapters VI and VII will analyze the debate and its
elements. Finally, Chapter VIII will present the
conclusions of this study.

The first round of the debate began with Mises's
thesis regarding economic calculation in a socialist
society, which is the subject of Chapter II. It also
covers early solutions to the problem advanced by
Enrico Barone, Fred M. Taylor, and W. Crosby Roper.
The ideas of H. D. Dickinson also are explored. Next,

the chapter examines the critique by Maurice Dobb of

both sides of the debate. Finally, the responses of
Lionel Robbins and Friedrich von Hayek to the
socialist solutions are discussed.

The second round of the controversy, a turning
point marked by the famous trial-and-error solution of
Oskar Lange, is the subject of Chapter III. Also
examined are the arguments of Abba Lerner and H.D.
Dickinson and the latter's articulation of his
trial-and-error solution. Finally, the chapter ends
with Hayek's criticism of the solutions of Lange and
Dickinson.

Chapter IV will deal with the original
participants' post-World War II reassessment of the
controversy to detect any additions, articulations, or
reformulations. Mises, Lange, Dobb and Hayek were the
only ones who ventured new insights to the socialist
controversy after the war.

Chapter V will cover the secondary and
complementary literature which emerged after World War
II and the positions taken by other economists who
discussed the controversy. Specifically, it will
examine the literature of comparative economic systems
pertaining to the socialist debate. It will then
cover the solution advanced by Jan Drewnowski,
Benjamin Ward's evaluation of the debate, and Don
Lavoie's assessment and articulation of the Austrian

position. Finally, it will explore the relevance to

6
the socialist controversy of Yugoslavia‘s experience
with a market socialist system and prices and of
planning in the Soviet economy.

Chapter VI will analyze the theoretical aspects
of the socialist calculation debate. Particularly, it
will examine the meaning of Mises's rational economic
calculation, the basis (HE price formation,
cost-pricing, and cmnsumers' versus planners'
preferences. 131 addition, it discusses issues
connected vfiiflm the management of the socialist
enterprise and the macroeconomic aspects of the
debate.

Chapter VII analyzes certain other issues of the
socialist calculation controversy. Specifically, it
analyzes the historical development of the debate, the
problem of the diffusion and utilization of knowledge,
reconsideration of the socialist solutions, and the
debate's methodology and rhetoric.

The debate covered a wide range of diversified
issues. The following are the critical elements of
the discussion.

1. What did Mises mean by rational economic
calculation? Does it apply to any system of economic

organization? In other words, was Mises correct in
using his definition of rational economic calculation

for a socialist economic system?

7

2. Did Hayek's viewpoint constitute a: retreat
from the "theoretical impossibility" (HE economic
calculation in a socialist system to one of "practical
impossibility"? Related issues are whether the
competitive socialist solutions will "work" in
practice and the meaning of "workability."

3. Do competitive socialist solutions pmovide
an answer to Mises's claim? Could there be an answer
in the context of a socialist central planning system?

4. Could the socialist system utilize widely
dispersed zuui individually acquired knowledge to
secure the efficient employment of resources? A
related question is the relative efficiency of
capitalism and socialism.

5. Is it ideologically' feasible to include
economic categories such as rent, interest, and profit
in socialist price calculations?

6. Which is the more appropriate basis of
socialist price calculation, marginal or average cost?

7. Will the managers of the socialist
enterprise follow the rules set for them by the
central planning authorities?

8. Could thousands <mf simultaneous Paretian
equations be solved, as suggested by Dickinson in his
mathematical model, to arrive at resource prices?

9. Would the proposed solutions for the planned

socialist economy cater to consumers' or to planners'

8
preferences? Is there a justification for a complete
consumer sovereignty since, as some economists argue,
'consumer choice in a market economy is affected
tremendously by advertisements? A related argument is
the accusation by Austrian economists that even the
"competitive socialist solutions" would not allow
consumer choice since consumers wouLd not necessarily
affect the production decisions made by the Central
Planning Board. How strong is the influence of
consumers (n1 production decisions :hi the market

economy itself?

Notes to Chapter I

 

l. F.A. Hayek, ed., Collectivist Economic Planning
(London: Routledge and Kegan Paul, 1935), p. 13.

2. Ludwig von Mises, "Economic Calculation in the
Socialist Commonwealth," in F.A. Hayek (ed.),
Collectivist Economic Planning (London: Routledge and
Kegan Paul, 1935), p. III.

3. Karen I. Vaughan, "Economic Calculation under
Socialism: the Austrian Contribution," Economic Inquiry
18, October 1980, p. 535.

4. Ibid., p. 550.

 

CHAPTER II

THE FIRST ROUND OF THE DEBATE: MISES,
BARONE, TAYLOR, ROPER, DICKINSON,
DOBB, ROBBINS, AND HAYEK
The debate between opponents and proponents of
socialism over the actual working of the socialist
economy acquired a new dimension after the rise of the
first socialist state in 1917. The USSR faced immense
political and economic problems during war communism
(1918-1921), and it was in this period that Ludwig von

Mises opened what came to be known as the "Socialist

Calculation Debate."

2.1 Mises's Thesis

 

In 1920, Mises published the "Economic Calculation
in the Socialist Commonwealth," in which he argued that
rational economic calculation in a socialist system with
public ownership of the means of production is

impossible.1

He said that such a system cannot have
calculation 3 natura (physical terms) that would
replace monetary calculation.2 Few socialists would

disagree with this point. Mises, however, while granting

10

11
that the socialist economy has to use monetary
calculation, claimed that the absence of a free market
for production goods would prevent putting money values
on such goods.

Just because no production-good will ever

become the object of exchange, it will be

impossible to determine its monetary. value.

Money could never fill in a socialist state

the role it fills in a competitive society

in determining the value of production-

goods. .Calculatiog in terms of money will

here be 1mp0351ble.

Mises considered the basis of monetary value or price of
capital goods to be the exchange value, whereas proposed
socialist solutions stressed the role of the central
planning authority in "determining" or "fixing" such
prices. The basis of monetary valuation of capital goods
from the socialist viewpoint will be discussed later.

The problem with the socialist economy, according
to Mises, is that production goods will not be exchanged
in a free market since there is public ownership of the
means of production. The absence of that market would
preclude the existence of a pricing mechanism, which is
a prerequisite for economic calculation: "Where there is
no free market, there is no pricing mechanism; without
pricing mechanism, there is no economic calculation."4
Consequently, decision makers would have no rational
basis for allocating resources to different uses, and

thus any production decision made by the socialist state

would be irrational.

12
Without economic calculation there can be no
economy. Hence, in a socialist state wherein
the pursuit of economic calculation is
impossible, there can be 'in our sense of the
word' no economy whatsoever. In trivial and
secondary matters, rational conduct might
still be possible, but in general it would be
impossible to speak of rational production
any more. There would be no means of
determining what was rational, and hence it
is obvious that production couldsnever be
directed by economic considerations.
Mises meant by "economic considerations" those existing
in a system of private ownership of the means of
production, namely, the interplay of the evaluation
processes of goods and services established by both
consumers and producers which determines the prices of
all goods and services, including capital goods.6
According to Mises, only the production and consumption
will be governed by the "economic principle which is
necessarily absent from a socialist state."7
In essence Mises maintained that in a socialist
economy with public ownership of the means of production
and without freely determined market prices for capital
goods, rational economic calculation is impossible. He
did not consider the problem of resource allocation from
the technical aspect, particularly the production of
goods involving varying combinations of inputs. He also
did not cover the alleged problems associated with

allocating resources for the production of new capital

goods.

13

2.2 Barone's Solution

 

Socialists contend that Mises was refuted long
before his article was even written.8 In 1908, in
"The Ministry of Production in a Socialist State,"
Enrico Barone suggested a solution to the problem later

raised by Mises.9

Barone adopted a mathematical
approach to solving the problem faced by the Ministry of
Production. He extended and elaborated on the works of
Vilfredo Pareto and Leon walras.

According to Barone, the problem to be solved by
the Ministry of Production is how to combine
individually owned and collectively owned services to
achieve the "maximum welfare for its people."10
Barone then listed the "conditions" (assumptions) facing
the Ministry of Production in pursuing its
objective.11 (1) Although money and prices do not
exist, for social accounting purposes the ministry
"maintains some method for determining ratios of
equivalence" between and among various products and
factors of production. (2) Individuals exchange their
products for consumer goods based on these equivalents
at socialized shops. (3) Benefits from communally owned
resources can be distributed directly or indirectly;
however, Barone prefers a direct supplement to incomes.
(4) The ministry should give a premium (an interest

payment) for deferred consumption to encourage savings

for capital accumulation purposes. (5) The individual,

14

having received earnings in exchange for his services
according to the ratio of equivalents in addition to the
supplement to incomes, can spend them in any manner he
deems fit, that is, there is freedom of choice in
consumption.

Barone then assumed that the Ministry of
Production adopts the technical coefficients of
production existing at the time which satisfy the

12 Having chosen these

ministry's technical equations.
coefficients, the system of production must be subject
to the condition that the available amount of factors of
production must suffice for final output and new
capital. Since there is more than a single series of
equivalents which satisfy the technical conditions of
production, the ministry chooses at random a single

series.13

In this manner, it arrives at a single
solution which reflects a specific amount of goods and
services an individual receives. The Ministry of
Production makes adjustments in the "ratios of
equivalence" in order to maximize the amount of goods
and services received by an individual. By successive
attempts or changes in these ratios, the ministry
arrives at the "maximum collective welfare," defined to
be the maximum amount of goods and services produced for

the people of the socialist state.14

Barone expected that his solution would lead to

15

the following results. (1) The system his solution

15

established is "perfectly determined." (2) Production
will take place at minimum cost, and "the equivalents
for the products and for the additions to capital may be
such as will correspond to their respective costs of
production." (3) The system of equations of the
"collective equilibrium" is the same as that of free
competition.

The "equivalents" Barone used are none other than
the prices being determined by the collectivist state.
By using a system of equations, he demonstrated that,
theoretically, a socialist system can have rational
economic calculation. Toward the end of his article
he made the following points. (1) Solution of the
system is possible: "It would be possible by a paper
calculation to find a series of equivalents, which would
satisfy the equations expressing the physical
necessities of production and the equalization of costs
of production and the equivalents, which become the

"16 (2) Technical coefficients of production

prices.
(inputs) are variable, and it is not possible
economically to determine them a priori while at the
same time satisfying the minimum cost of production
condition, which is a prerequisite for maximum

17

collective welfare. According to Barone, "the

determination of the coefficients economically most
advantageous can only be done in an experimental way

. . . with experiments on a very large scale."18

l6

(3) Production in a socialist economy will not be
"ordered" in a manner different from that of the
capitalist economy; "the same economic categories
(profit, interest, rent, and so on) must appear in the
socialist system; and the socialist system has to use
the same two fundamental conditions that characterize
free competition . . . minimum cost of production and
the equalization of price to cost of production."19

Barone's conclusions completely support neither
the socialists nor the proponents of the free-enterprise
system in the sense that he accepted the "theoretical"
but denied the "practical" possibility of rational
economic calculation. Barone was quoted by both sides,
each claiming he supported that point of view. Later in

this study, the specific reactions to Barone's solution

will be analyzed.

2.3 Taylor's Solution

 

After the publication of Mises's article, a
conservative American neoclassicist, Fred M. Taylor,
offered a solution to the problem raised by Mises. In
his presidential address to the American Economic
Association in 1928, which was reprinted as "Guidance of
Production in the Socialist State," he suggested a
process of trial and error.20 -

According to Taylor, any economic system must

decide what to produce: "What is the proper method of

l7
determining what commodities shall be produced from the
economic resources at the disposal of a given

21

community?" A socialist society also must answer

such a question, and a few assumptions were made by
Taylor about its nature.22 (1) Unlike Barone's
socialist state, "the state assures its citizens a given
money income" that follows a "socially correct" system
of income distribution. (2) The consumer is free to use
his income in buying the commodities he chooses. (3)
Based on the socially correct system of income
distribution, any decision reached by the citizens
regarding he relative importance of different
commodities would be a "social judgement," and
consequently the resulting commodity prices would
express the "social importance of commodities." (4) The
state is the only producer authorized to employ the
community's economic resources and its "stock or income
of primary factors" to produce goods and services. (5)
The state would set the selling price of any commodity,
which would cover completely the cost of producing that
commodity. The state should bear in mind that the cost
of producing any commodity is a "drain" on the
community's economic resources (its stock or income of
primary factors). Taylor did not specify whether he
wanted to set prices at marginal or at average cost.

As to what commodities should be produced by the

socialist state, Taylor asserted that it first must

18
solve the imputation problem, that is, "the problem of
ascertaining the effective importance in the productive

23 Failure to do so

process of each primary factor."
would preclude the socialist state from computing the
resource—cost and consequently the selling price of
commodities.

Although some economists, according to Taylor,
would question the possibility of solving the problem of
imputation in a socialist state, he suggested a solution
based on trial and error.“ Taylor assumed that, for
a given production period, the necessary quantity of any
economic factor of production is "substantially

determinate."25

Furthermore, he stated that the
economic authorities of the socialist state must
undertake the following steps in order to solve the
imputation problem.26 (1) Construct factor-valuation
tables, where the valuation of each factor is
approximated based on previous experience. (2) Managers
of production units behave as if the constructed
factor-valuation tables are correct and set the selling
price at factor-cost. (3) These managers watch for any
signs that provisional valuations are incorrect. (4) If
any "mistakes" appear, corrections are made. (5) This
process is repeated until no signs of divergences from
the last factor-valuation tables appear.

A simple procedure is used by authorities in

determining whether a specific factor was over- or

l9
undervalued in the tables. If a specific factor is
overvalued, authorities would be unnecessarily
economical in employing that factor, which would be
reflected in a surplus for that factor at the end of the
production period, given the assumption of a determinate
quantity for each economic factor during a production
period.27 If the factor is undervalued in the tables,
this would be reflected in a shortage for that factor at
the end of the production period: "Surplus or deficit -
one or the other of these would result from every wrong

valuation of a factor."28

The problem of imputation
would be resolved by this trial-and-error process until
the correct factor—valuations tables were obtained.
When the authorities set the selling price of any
commodity at its resource-cost and "recognize equality
between cost of production on the one hand and the
demand price of the buyer on the other" as the only
guidance that determines production, then the "right use
of economic resources placed at their disposal" is
assured.29

Taylor was thus able to demonstrate that the
economic authorities in a socialist state could compute
the resource-cost of any commodity, thereby
contradicting the principal criticism made by Mises.
Taylor concluded that the authorities in the socialist

state, by following his solution, would make the "right

use of economic resources."

20

2.4 Roper's Solution

 

Another trial-and-error solution was suggested by

W. Crosby Roper in The Problem of Pricing in a Socialist
30

 

State, which appeared in 1931. Roper assumed that
the aim of the socialist state is the "maximization of
production and the greatest attainable well—being for

”31

the people. He also assumed public ownership and

operation of all productive resources, private ownership
of consumption goods, and free choice among
consumers.32 According to Roper, the socialist state
should adopt the principle of pricing products at
cost.33 He did not specify whether he meant average
or marginal cost.

The solution to the pricing problem in a socialist
state, which Roper described as "at least theoretically

34 (1) The

sound," involves the following procedure.
state managers must generally know the quantities and
the prices of different goods demanded by consumers,
depending on previous experience. (2) With the knowledge
of a fixed quantity of productive factors and the prior
decision of production techniques, the state managers
would construct tables that evaluate the various
productive agents. (3) These tables will become the
basis of state accounting and will be used to compute
the cost of production of each commodity, which, by

assumption, is the price. (4) The prices of commodities

would not stay fixed but would be changed by the state

21
managers to permit the equality of supply and demand,
adjustments being constantly made in production so as to
produce the amount which will sell at cost. At the same
time, the state managers will change their valuation
tables whenever error appears.

According to Roper, error in the valuation of the
factors of production will be realized whenever there is
a lack of equality between the demand and the fixed
supply of the factors of production. Whenever there is
an insufficient demand for a factor, the authorities
know that it is overvalued; the factor is undervalued
whenever there is an excess demand for it. Thus, the
state managers will revise the prices of the factors of
production, working by trial and error until equilibrium
is achieved.35

For Roper, the economic possibility of such a
solution in a socialist state was highly conceivable:
"In fact, [sic] rationally planned and efficiently
managed accounting system would seem a sounder and more
accurate method of pricing goods than the uncontrolled

"36 How-

and imperfect processes of a market economy.
ever, Roper denied the practical possibility of a
national pricing structure due to the great complexity
of such a system and the limitation of human abilities:
"It seems safe to say that the pricing apparatus
necessary for an efficient centralized collectivism is,

n37

at best, only a remote possibility. Roper did not

22
deny the theoretical but rather the practical
possibility of solving the pricing problem in a
socialist state.

Among the problems that the socialist state must
face, the most vital are those of economic motivation
and technical efficiency.38 Roper stated that the
stable equilibrium that could be reached can only happen
in a static economy, which can never exist.39
Furthermore, earlier in his paper, he argued that any
socialist state has to take account of rent and interest

in its national accounting system.40

2.5 Dickinson's Solution

 

An early participant in the debate was H. D.

Dickinson, who advanced a solution in his 1933 article,

"Price Formation in a Socialist Community."41 His

object was to refute Mises's thesis, summarized as:

"Where the state is the sole owner of instrumental goods
there can be no price formation for such goods, hence no

rational reckoning of cost hence no rational

42

economy." Dickinson also wanted to demonstrate that

rational pricing of capital goods is "at least
theoretically possible in a socialist economy."43

Dickinson made several assumptions about the
socialist state.44 (1) There is private ownership
of consumption goods, these goods cannot be

subsequently traded, and consumers cannot produce for

23

purposes of trade. (2) There is communal ownership of
natural resources and capital goods, and the community
alone undertakes all production activities.
(3) Production of goods falls into a "sector of
socialized consumption" (public goods), in which goods
are offered free to all members of the community, and a
"sector of individualized consumption," in which goods
are produced to meet the demands of individual consumers
as expressed in a market. (4) Price formation and cost
determination will cover only the sector of
individualized consumption. (5) There is freedom of
choice in occupation, with workers hired under freely
chosen contracts of service. (6) In the individualized
consumption sector, production is organized in
autonomous production units which are grouped, according
to their technical nature or the needs of the market,
into "trusts," which in turn are grouped into units that
comprise an industry. All of these are supervised by
what Dickinson calls the Supreme Economic Council (SEC).

Based on these assumptions, Dickinson suggested a
method for determining prices for both production and
consumption goods. He assumed that the selling agencies
start with stocks of goods which they "will sell on the
basis of what the market will bear, raising price when
stocks fall short and lowering it when they

"45

accumulate. This would allow the selling agencies

to construct demand schedules for different goods. When

24
the stocks in the hands of the selling agencies fall
short of expected current demand, productive agencies

are asked to replenish them.46

Productive organs will
charge an appropriate price, to be explained later, for
goods supplied to selling agencies, who will enter these
prices as costs and who will also act to reduce the
difference between cost and sales price.47

Based (H1 orders received from time selling
agencies, the productive organs would draw up demand
schedules for their products, and each would be able to
offer a price for the factors of production they use in

manufacturing their products . 48

Thus, demand could be
constructed for production goods and, consequently, for
the ultimate factors of production.

The amounts of these factors assumed to be known
and fixed, the SEC would fix at random a price for each
factor of production that would ensure its full
employment based on the constructed demand schedules for

these factors. 49

The productive organizations would
calculate the costs of production based on these prices,
and they would expand or halt production depending on
whether demand price were above or below cost price.50
Furthermore, these productive organizations could use
the least costly production method by substituting one
factor for another, which would cause a change in the

demand for these factors. Finally, by a "process of

successive approximation," a true economic price for

25
each factor would be arrived at that would become the
basis for cost calculation: "The costs are imputed from
the demand for marginal product and then deputed [sic]

back to all other products."51

Presumably, Dickinson
used "true economic prices" for the factors of
production in the sense that they are derived from the
equality of the price and the cost of production for
each good.

Dickinson also suggested that the SEC could
construct a mathematical model for the whole socialist
economy that would yield unique prices and quantities of
goods and resources. He stated that this would require
knowledge of the following four functions:

(1) a demand function for each consumption-

good, relating quantity consumed to price;

(2) a function connecting unit quantity of

each consumption- good with the quantities

of factors used in its production; (3) a

function for each product expressing the

condition that selling price must equal the

sum of the prices of the factors of

production; (4) a supply function for each

factor of production relating quantity
available with price.
According to Dickinson, the second and the third of
these functions are technical rather than economic in
nature and could be calculated, while the supply
functions are known since they are assumed fixed for a

d.53 The demand functions are

production perio
determined as explained earlier in his solution. Thus,
the whole) model could be reduced to a set of

simultaneous equations, or, since we already have an

26
established equilibrium, small deviations from this
equilibrium reduce the whole task to that of solving a

54 Dickinson

problem in calculus of variations.
claimed that, "given a free market at each end of the
chain of production," the prices and the quantities of
final goods and the ultimate factors of production can,

"theoretically, " be determined.55

Two things should
be noted here. The first is that the solution he
suggested in the beginning is separate from his system
of mathematical equations. The second is that he spoke
only about the "theoretical" and not the actual
possibility that his mathematical model would lead to
the determination of prices and quantities of factors
and products.

In order to reach a complete costing system for
the socialist community, allowances for interest and
risk should be taken into consideration, according to
Dickinson. Interest here is a "discount" or an
"allowance for time spent in production," and regardless
of how the community arrives at this rate of interest,
it will be used for all accounting purposes; thus,
capital will be supplied to different undertakings using

56 The allowance for risk that

this rate of interest.
Dickinson suggested is in the form of a surcharge above
the normal rate of interest; if it is not taken into
account, it would appear reasonable to invest in any

undertaking with a remote possibility of success.57

27
The issue of whether rational economic calculation in a
socialist community requires the inclusion of interest,
rent, and profit was an element of the debate.

Reversing Mises's emphasis on the market in a
capitalist society, Dickinson described the advantages
of the socialist costing system over that of capitalism
and concluded that the "true principles of economic
valuation" are only possible in a socialist community,
"where production can be carried on in the full light of

"58 Dickinson

statistical measurement and publicity.
considered the present capitalist society, with its
deviations from equilibrium, to be a "very imperfect
approximation to the economic ideal," whereas he
considered "the beautiful systems of economic
equilibrium" described by many economists to represent
not a competitive capitalist system but a "socialist

system of the future."59

2.6 Summary of Comparisons and Contrasts among Solutions

 

The solutions of Barone, Taylor, Roper, and

Dickinson all assumed freedom of choice in consumption,

.4 I _-._- fl-.w.~A—Lmnda-n ‘ --

but only Dickinson assumed, in addition, freedom of
choice in occupation. Barone was the only one to assume
neither money nor prices in the socialist state. All

took into account the preferences of consumers and

n.., .r— H. ”, Ah .-.
M-.." '4-

implicitly assumed consumer sovereignty. Barone assumed

it by establishing a system of equations of equilibrium

28
which was the same as that of free competition. The
others assumed it by incorporating the demandfunctions
~of consumers, as expressed by their demand prices, as an
elementwin the decision making about production or
fiestefs-priges.

All these solutions had an element of trial and
error in the adjustment of a particular variable until a
state (ME equilibrium III the socialist state was
attained. Barone called for the adjustment of the
ratios (If equivalence (prices) that satisfied the
technical conditions of production until the maximum
collective welfare was attained. Taylor's solution
considered the adjustment of the valuation of the
factors of production until the demand for each matched
its supply and was subject to the condition of pricing
goods at cost. The same applied to Roper's solution.
Dickinson called for adjusting the prices of the factors
of production that would ensure their full employment
based on the constructed demand schedules for these
factors.

The starting point for Barone was the ratios of
equivalence (prices), chosen at random with no explicit
or implicit basis-for such choice. For Taylor and Roper
the starting point was the prices of the factors of
production, derived from experience prior to the
socialist transformation. The choice of factor prices

for Dickinson was random, according to his description,

29
but was expected to ensure the full employment of the
factors of production, as mentioned above.
All these solutions called for prices of goods and

”a. 7- a-

services to equal their respective costs of production.

-...-..—_.-.A

However, none of the four specified whether they meant
the average or the marginal cost. Most probably, they
implied th_e”equality_of price and the average cost.
Barone asserted that the solution of his system of
equations would lead to the equality of prices and the
cost of production and that production would take place
at minimum cost. Taylor's solution called for setting
the prices of goods at their respective cost of
production. Neither Barone nor Taylor provided for
market clearing prices during the adjustment process.
This would cause inefficiencies in resource allocation
since some goods could be in short supply and others
abundant. Roper asserted that the state should adopt
the principle of pricing at cost. Furthermore, he
allowed the state managers to change prices to clear
markets, adjustments in production being constantly made
to produce the amount which will sell at cost. In
Dickinson's solution, the productive organizations
calculated the costs of production based on the
provisional prices of the factors of production, and
they could expand or halt production depending on

whether demand price was above or below cost price.

30
Thus, both Roper and Dickinson offered a market clearing
provision.

Barone asserted that the same economic categories
of the capitalist economy (profit, interest, rent, and
so on) must appear in the socialist economy. Roper
believed the state must take account of rent and
interest in its national accounting system. Dickinson
believed that only interest needed to be taken into
account in a socialist state, whereas Taylor did not
di‘scusswhether any of these categories should be
included in the socialist accounting system.

In all solutions, there was no discussion of the
decisions for allocating new capital goods. In
addition, none showed the method by which the central
economic authorities calculate depreciation.

Regarding the role of the managers of production,
Barone offered no guidelines or information as to their
responsibilities. Taylor assumed they should watch for
any deviations from the correct factor valuations. He
did'not suggest a method by which the central economic
authority could verify the authenticity of the reports
of the production managers. Roper and Dickinson
assigned more clearly defined roles to these managers,
but offered no independent test to verify their reports.

The conclusions of Barone and Roper supported the

theoretical possibility but denied the practical

possibility of rational economic calculation in a

31

socialist economy. Barone asserted the possibility of
calculating the ratios of equivalence (prices) but
denied the possibility of the prior determination of the
technical coefficients of production (inputs) while at
the same time satisfying the minimum cost of production
condition. Roper believed that a rationally planned
socialist system would yield a better method of pricing
goods than did the market economy, but he denied the
practical possibility of a national pricing structure
due to its great complexity. Furthermore, Roper
considered the stable equilibrium achievable by his
solution could only take place in a static economy,
which is nonexistent.

Taylor and Dickinson, in contrast, believed they
had demonstrated the theoretical as well as practical

possibility of a rational economic calculation in a

.\\

socialist economy. Taylor asserted that when the.

central economic authorities set the selling price at;

the resource cost and recognized the equality between)".

cost of production and the demand price, an efficient
allocation of resources was guaranteed. Dickinson
advanced a solution to demonstrate the possibility of
rational economic calculation in a socialist economy and
also constructed a system of mathematical equations, the
solution of which would prove the theoretical

possibility of socialist calculation.

32

2.7 Dobb's Response

 

These suggested solutions to the problem of
calculation or pricing in a socialist economy elicited
several reactions. Before we examine those of the
supporters of Mises's thesis, we will consider the
response of a British Marxist socialist who objected not
only to the criticism made by Mises but also to the
suggested solutions it elicited, particularly that of
Dickinson.60 ‘

Maurice Dobb first took to task those who assumed
that the main propositions of economic theory used in
regard to the capitalist system would apply in a

socialist economy.61

They did not question whether
changes in property ownership, distribution of wealth,
and class relationship, as well as differences
introduced by state investment would alter the forms of

economic problems faced by a society.62

According to
Dobb, Mises claimed that socialism would fail because
economic criteria would not apply in the absence of a
free market and a price system, whereas Dickinson, among
others, "proclaimed the possibility of combining a
socialist system with a price system."63 Dobb
criticized Dickinson for incorporating an element of
competition in order to achieve such a combination. For

Dobb, both parties to the debate shared a common and

invalid assumption, namely,the claim that the categories

33
of economic theory are equally valid in a socialist as
in a capitalist system.

As for the participants in the debate, Dobb
asserted they were treating economics as a
"non-normative theory of equilibrium" that is only
concerned with supplying a system of functional equa-

64 When the theory of value is understood as a

tions.
theory of equilibrium, Dobb continued, then it can
define only an arbitrary maximum, and it cannot decide
which arrangement of resources is preferable or more
economic because it excludes "any assumption about the

"65 Dobb was alluding to the Austrian

end in view.
contention that the socialist economy could never
achieve the efficiency of a capitalist market economy,
and thus he used "more economic" to reflect the notion
of economic efficiency deduced from the principle of
marginal adjustment and marginal pricing.

In Dobb's view, any pure equilibrium theory, when
it is conceived to be % economic theory, "provides no
criterion of judgement at all." Thus, an equilibrium
theory cannot judge whether a socialist system is
rational.

Dobb criticized a position unique to the
participants of the debate, the notion that consumers'
preferences are sacred. For him, this idea finds its

parallel in the political system of western democracies:

"The highest economic good consists in giving the

34
consumer what he thinks he wants, as political good
consists in giving people the government it thinks it

"66 In a capitalist system, with the

deserves.
inequality of reward in jobs, some consumers have more
say than others, similar to "plural voting" in
parliamentary democracies.67 In explaining why
following consumers' preferences in a capitalist system
is unfair, Dobb posited an equality of reward in jobs.
In such a situation, all consumers would have equal
voting power, and the cost of production differentials
among products would not be due to wage

68

differentials. Consequently, according to Dobb,

market valuations "would lose alleged significance" if
there were an equality of reward in jobs.69 However,
this constitutes the

central dilemma: precisely because consumers

are also producers, both 'costs' and 'needs'

are precluded from receiving simultaneous

expression in the same system of market

valuations.

Furthermore, Dobb considered consumers' choice
under the capitalist system to be far from free due to
the great influence of advertising and also because
tastes are ”acquired" rather than "innate," being a
function of "culture and convention." Although there is
nothing to prevent the socialist state from influencing
consumers in a similar manner, there is no reason the
socialist state should emulate the corrupt capitalist

71

system. This is an implicit criticism of Dickinson

35

for stressing the importance of consumers‘ preferences
in his version of the socialist state. Dobb failed to
discuss the problems that would arise if planners'
preferences were to be followed, which is the obvious
alternative to considering consumers' preferences.

Another claim that Dobb criticized was the
argument that a free market system provides an
"automatic index and regulator of economic

"72 He asserted there is a limit to

relationships.
this claim when it concerns a fundamental relationship
in any economic society, namely, that of deciding on the
relation between producing production goods and
producing consumption goods, a question which neither a
capitalist nor a socialist economy per se can
answer.73 The problem concerns the lack of a basis
for defining the relationship between two categories of

cost, capital and labor.74

Under capitalism, these
two are supplied by different social classes, and
consequently the free market does not itself provide an
answer. In the socialist economy, this fundamental
relation is determined a priori because the state
determines the proportions of the resources to be
allocated to the production of consumable goods and
capital goods.75

Concluding his article, Dobb asserted that

"planned economy will have its economic laws, as has

laissez-faire economy: it will have its economic

36

accounting and its calculation."76

Although Dobb's
criticisms had some basis, they did not refute Mises's

claim.

2.8 Robbins's Response

 

These early responses to the problem of pricing
and calculation in the socialist economy elicited
reactions from supporters of the free-enterprise system.
Among the first to criticize these solutions was the
British economist, Lionel Robbins, who believed any
economic system should organize production to meet the
preferences of consumers. If a planned economy is to do
this, it must have knowledge of the demand functions for
all products and of the best way to produce these
products; it also must have the knowledge to ensure that
the factors of production are employed efficiently in

the production of every commodity.77

Furthermore, the
planned economy should rearrange production if tastes of
consumers change, which would require a mechanism to
take account of all the different and complex tastes of
millions of consumers.78 However, in a planned
economy, the problem of planning production involves
thousands of commodities and millions of decisions

regarding the methods of production.79

Any effort to
satisfy consumers in a planned economy would result in
"complete chaos," and consumers would not get what they

want but would be "given simply what the planning

37
authority on quite arbitrary principles decided they

ought to want. "80

This means that the preferences of
planners and not consumers are satisfied in a socialist
economy.

Even if a free market were created for consumption
goods in order partially to ascertain the preferences of
consumers, the planning authority would have to know the
relative efficiencies of the factors of production in
all possible alternative uses.81 According to
Robbins, the suggested system of simultaneous equations
whose solution is supposed to yield equilibrium
distribution (HE the factors of production and
equilibrium production of commodities is "unworkable" in

practice.82

This system, Robbins asserted, would
require millions of equations, and by the time they were
solved, the information used to construct them would

have become "obsolete. "83

Consequently, Robbins
disregarded the claim that there could be a practical
solution to the pricing problem based on Paretian
equations since the organization of production could not
meet the preferences of consumers and since relative
efficiencies of the factors of production could not be
found in a planned socialist economy. Such conditions
could be satisfied only under a competitive free market
system.

According to Robbins, under competitive conditions

there are computations of costs and prices at every

38
stage of production, and there are free markets for all
goods and for all factors of production to permit
marginal reallocations on the basis of differential and
changing price-cost, or price-profit, relationships.
This allows realization of the preferences of consumers
and the rational distribution of resources. In a
centrally planned socialist economy, the centralized
disposal of the factors of production prevents the
existence of free markets.84 Consequently, production
is organized according to the wishes of a planning
authority which does not seem to "be in a position to

"85 Robbins criticized the

keep accurate accounts.
notion that the difficulties facing the planning
authorities could be solved by creating fictitious
markets. Such a solution involves independent
production units that would compete among themselves for
the factors of production and sell their products
competitively, that is, behave like competitors.86
Robbins wondered at a suggestion that aims to reproduce
the conditions under which the free-enterprise system
operates, a system that socialism is supposed to
replace. Furthermore, there is no reason to believe
such a scheme would be successful because it advocates a
conception of the problem that is too static, whereas
the formation of prices in a free-enterprise system is
subject to a continuous process of change involving a

87

vast number of variables. According to Robbins, it

39
is unlikely that a socialist system would resort to
pseudo-competition; it would rather use force and

dictate production in order to realize its plan.88

2.9 Hayek's Response

 

Another economist who defended Mises's thesis and
became the foremost critic of socialism and central
planning was the Austrian, Friedrich von Hayek. He
reviewed the controversy and criticized the solutions to
the problems of calculation in a socialist economy in

two articles contributed to Collectivist Economic

 

Planning. Hayek claimed that, scientifically speaking,
means and not ends are judged, and thus he divorced the
end of socialism from the means of planning, the latter

89 The

of which is the subject of his criticism.
problem of socialism as a method, according to Hayek, is
that a single central authority must solve the economic
problem, which he defines as "distributing a limited
amount of resources between a practically infinite

"90 The "fundamental

number of competing purposes.
question" then becomes the ability of one central
planning authority to cope with the complexities of a
modern society and achieve such a task as successfully
as the competitive capitalist system.91

As far as the mathematical solutions suggested by

Taylor, Roper, and Dickinson are concerned, Hayek

claimed that their analysis is based on the assumption

40
of complete knowledge by planners of all relevant

data.92

This knowledge would enable planners to
determine the values and the quantities of the different
commodities produced by applying "the apparatus by which
theoretical economics explains the formation of prices
and the direction of production in a competitive

«93

system. Hayek asserted that these solutions are

theoretically possible but practically suffer from the
following problems.”1 (1) The plan would not be
confined to generalities but would deal with a
diversified and a complex amount of details. Specifics
about the technical properties of different tools and
machinery and their degree of wear and tear have to be
entered separately into the calculation of the central
planning authority. (2) In theories pertaining to
equilibrium in a competitive system, a range of a given
technical knowledge is assumed, but this assumption
would not apply in a planned economy. In such a system,
the selection of the best among the different technical
methods would be concentrated in the hands of a very few
people who could not reach rational decisions since they
require vast and diversified technical knowledge. (3)
Before production takes place, another set of data must
be available, namely, the relative importance of the
different kinds of consumption goods and their projected

quantities. With the assumption of freedom of choice in

consumption and the ever changing tastes of consumers, a

41
complete set of data of different combinations of
quantities at different prices has to be assembled and
continuously revised.

Hayek concluded that the assembly of such data
would be a "task beyond human capacity."95
Furthermore, assuming that the central planning
authority was able to gather these data, to arrive at
one decision would require solving hundreds of thousands
of simultaneous equations, which "could not be carried
out in a lifetime."96 Consequently, there is an
impossibility in rational decision making regarding the
details that the solution of the suggested system of
equations entails.97

Hayek claimed that those who advanced the
mathematical solution actually had in mind a solution by
trial and error, which suffers from two fundamental

mistakes.98

The first lies in their assumption that
the starting point of the process is the prices existing
in the capitalist system just before the transformation
to socialism. According to Hayek, such transformation
brings about major changes in relative values, which
requires a complete rearrangement of the price

99

system. The second mistake is that consideration of

a small section of the economy ignores the effects of a
change in one price on the prices of other goods.100

It is "absurd" to think that all the necessary

42

adjustments in prices could be carried out by successive
orders until equilibrium is achieved.101

Regarding some discussion, which was taking place
but was unpublished at the time, about the possibility
of introducing competition either among industries or
among firms, Hayek asserted that the partial
reintroduction of competition is incompatible with
central planning in a socialist state.102 The manager
of any enterprise or industry would not be as free as
one in a capitalist economy and would not be driven to
assume risk since he would not be able to make

profits.103

If the central planning authority were to
permit the manager of the firm to have free initiative,
then Hayek wondered about the kind and amount of
resources that should be entrusted to him and how his
performance should be tested.104 Since it is
understood that the central planning authority would
distribute resources, according to a plan, to all
industries and firms, the ability of the firm's manager
to compete for resources would disrupt the specific plan

allocations of resources. 105

Hayek concluded that the
idea of introducing partial or full competition while
still retaining public ownership of the means of
production in a socialist state is more impracticable
than the "older socialist proposals" of a complete

106

central planning system. Furthermore, he asserted

that as yet there is no real demonstration of how

43

planning and competition could be combined in a rational
manner.107 Until such a demonstration is possible,
Hayek claimed, he is entitled to deduce that the two
alternatives, planning and competition, cannot be
combined and that advocates of socialism should choose
one alternative and show how the difficulties "inherent"
in it should be overcome.108

After claiming the irrationality of any decision
making regarding the proposed solutions of a
comprehensive system of mathematical equations and those
of a trial-and-error process, Hayek concluded that the
free choice of consumption (and occupation) is
incompatible with central planning.109 To support
this claimed incompatibility, Hayek referred to the
position taken by Dobb regarding the sacredness of
consumers'_preferences. Dobb arrived at the "logical
conclusion" by "asserting that it could be worth the
price of abandoning the freedom of the consumer if by
the sacrifice socialism could be made possible."110
Hayek mixed two issues Dobb discussed: his questioning
of the sacredness of consumers' preferences and his
disregard of the claim that the categories of economic
theory applied in a market economy is valid in a
socialist system. Hayek wrongly considered these views
to imply that Dobb thought the necessity of pricing in a

socialist state is only due'to the "prejudice that

consumers' preferences should be respected," and,

44
consequently, "the categories of economic theory and
apparently all problems of value would cease to have

1“ Dobb did not

significance in a socialist state."
imply that all problems of value would be unimportant
under socialism but stated that the socialist economy

would have its own economic laws, its own economic

accounting, and its own economic calculation.

1.

Socialist Commonwealth," trans.

Notes

45

to Chapter II

 

Ludwig von Mises, "Economic Calculation in the

S. Alder, in Collecti-

vist Economic Planning, ed. Friedrich von Hayek (London:

 

Routledge and Kegan Paul,
2. Ibid., p. 104.
3. Ibid., p. 92.
4. Ibid., p. 111.
5. Ibid., p. 105.
6. Ibid., p. 107.
7. Ibid.
8. Daniel

4th ed. (Glenview, Illinois:

1982), p. 111.
9.

Planning,
10.

11.
12.
13.
14.
15.
16.
17.
18.
19.

1935): PP. 87-130.

R. Fusfeld, The Age of the Economist,

 

Scott Foresman and Company,

Enrico Barone, "The Ministry of Production in
the Collectivist State,"
ed. Hayek, pp.

Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,

p. 265.
PP-
p.
p.
PP-
p.
p.
p.

269.
270.

274.
287.
288.
p. 289.
p. 290.

270-

in Collectivist Economic
245-290.

 

267—269.

271.

20. Fred M. Taylor, "The Guidance of Production in
a Socialist State," American Economic Review 19(1),
March 1929, pp. 1-8.

21. Ibid., p. 1.

22. Ibid., pp. 1-3. Taylor defines "primary
factors” as "those economic factors of production behind
which the economist does not attempt to go. For
example, the land itself; the water power; the original
raw materials such as metallic ores; the different kinds
of labor services." He defines "effective importance"
as "the degree of importance which is a resultant of the
factor in question and the quantity of it available."

23. Ibid., p. 6.

24. Ibid.

25. Ibid., p.

26. Ibid.

27. Ibid.

28. Ibid., p.

29. Ibid.

 

7.

8.

46

30. W. Crosby Roper, The Problem of Pricing in a
Socialist State (Cambridge, Massachusetts: Harvard

 

 

University Press, 1931).

31.
32.
33.
34.
35.
36.
37.
38.
39.
40.
41.

Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.

Ibid., p.
Ibid., p.
H.

p.
p.
p.

p.
p.

PP-

PP.

D. Dickinson,

21.
22-25.

27.
55-57.

58.

60.

61.

59.
32.
"Price Formation in a Social-

ist Community," The Economic Journal 43(170), June 1933,

PP-
42.
43.
44.
45.
46.
47.
48.

 

237-250.

Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.

p.
p.

p.
p.

Ibid., pp.

PP-

237.

238.
238-239.

239.

240.

240-241. By "ultimate factors of

production" Taylor means "parcels of land of known area
and quality, definite quantities of minerals and other
resources, and a certain number of workers registered
and willing to do their jobs."

49.
50.
51.
52.
53.
54.
55.
56.
57.
58.
59.

Ibid., p.
Ibid.
Ibid.
Ibid., p.
Ibid.
Ibid.
Ibid.
Ibid., p.
Ibid., p.
Ibid., p.
Ibid., p.

241.

242.

244.
243.
246.
247.

60. Maurice Dobb, "Economic Theory and the
Problems of a Socialist Economy," The Economic Journal

43, December 1933, pp.

61.
62.
63.
64.
65.
66.
67.
68.
69.
70.
71.

Ibid., p.
Ibid.
Ibid., p.
Ibid.
Ibid., p.
Ibid., p.
Ibid.
Ibid., p.
Ibid.
Ibid.
Ibid.

 

588-598.
588.

589.

590.
591.

592.

47

72. Ibid.

73. Ibid., pp. 592-593.
74. Ibid., p. 594.

75. Ibid.

76. Ibid., p. 597.

77. Lionel Robbins, The Great Depression (New

York: MacMillan Company, 1934), p. 148.

78. Ibid.

79. Ibid., p. 149.

80. Ibid.

81. Ibid., pp. 150-151.
82. Ibid., p. 151.

83. Ibid.

84. Ibid., p. 153.

85. Ibid.

86. Ibid.

87. Ibid.

88. Ibid., pp. 154-155.
89. Friedrich von Hayek, Collectivist Economic

Planning (London: Routledge and Kegan Paul, 1935).

90. Ibid., pp. 16-17.
91. Ibid., p. 17.

92. Ibid., p. 207.

93. Ibid.

94. Ibid., pp. 208-211.
95. Ibid., p. 211.

96. Ibid., p. 212.

97. Ibid., p. 213.

98. Ibid.

99. Ibid.

100. Ibid.

101. Ibid., pp. 213-214.
102. Ibid., pp. 218-219.
103. Ibid.

104. Ibid., pp. 232-233.
105. Ibid.

106. Ibid., p. 238.
107. Ibid., p. 241.

108. Ibid.

109. Ibid., p. 214.

110. Ibid., p. 215.

111. Ibid.

 

 

CHAPTER III

THE SECOND ROUND OF THE DEBATE:
LANCE, LERNER, DICKINSON, AND HAYEK

The criticism by Hayek and others that appeared in

Collectivist Economic Planning, which Hayek edited,

 

created another round of solutions and debates. In a
review of this work, Maurice Dobb considered it a
"formidable counter-attack by laissez-faire on all forms
of planning, and in particular, on Socialism. The
economic impossibility of Socialism is held to follow as
a direct corollary of economic theory."1 This new
challenge by \Hayek called for a definite answer to
demonstrate, once and for all, that rational economic”

calculation under socialism, is, possible. Oskar Lange

.--"

was credited with supplying a "comprehensive answer"
that refuted Mises's thesis.2 Furthermore, the
solution proposed by Lange was considered "the economic

theory of socialism."3

3.1 Lange's Response and Solution

 

Mises's contention that a socialist economy cannot

rationally allocate resources was based, according to

48

49

Lange, on a misconception about the nature of
prices.4 Lange referred 1x) Wicksteed's point that
"price" may mean either the "exchange ratio of two
commodities on a market" (the meaning in the ordinary
sense) or "terms on which alternatives are offered" (the
generalized meaning).5 Lange asserted that it is
prices in the generalized meaning which are necessary
for a solution to the problem of resource allocation.
Consequently, to solve this economic problem there are
three requisites.6 (1) A scale of preference is needed
that will guide the activity of choice, which may be
considered as given either by the "demand schedule of
individuals" or established by the judgment of the
economic authorities. (2) Knowledge is required of
"prices" in the generalized sense, that is, the terms on
which alternatives are offered. Such knowledge is
ultimately determined by the "technical possibilities of
transformation of one commodity into another; i.e., by
the production functions," a knowledge, or the lack of
it, equally shared by the socialist administrator and
the capitalist entrepreneur. (3) It is necessary to know
the quantities of available resources which could be
assumed accessible to the economic authorities of the
socialist state.

For Lange, the elements necessary to demonstrate

the possibility of rational allocation of resources in a

50
socialist community are in the hands of the economic
authorities. Mises's conclusions regarding such an
allocation were wrongly based on the consideration of
"prices" in the ordinary sense, that is, the exchange

7 Mises stated that with

ratio between commodities.
public ownership of the means of production there is no
market for, and hence no prices for, capital goods.
Consequently, there is no "index of alternatives" to
guide resource allocation in a socialist economy. Thus,
the whole argument of Mises, according to Lange, was not
valid because it was based on "prices" in the ordinary
rather than the generalized sense, and it is the latter
which offers the index of alternatives necessary for

8 The opposing conceptions

resource allocation.
regarding the kind of prices that should be used to
direct resources might imply that both parties had in
mind a different meaning of "rational calculation."
According to R.L. Hall, "the word 'rational' should only
be used of actions with respect to a stated end, in
which there is no contradiction."9

According to Lange, Hayek and Robbins ceded the
most important element of Mises's argument when they
admitted the "theoretical" possibility of resource
allocation in a socialist economy and, consequently,
"retreated to a second line of defence" by contesting
that a “practical" solution to the problem could be

10

possible. Both Hayek and Robbins denied that such a

51

practical solution could be achieved without private
ownership of the means of production. Furthermore,
Lange inferred they both admitted that, from a
theoretical perspective, "prices" in the generalized
sense can be found without actual markets.11 However,
Lange added, they claimed that the function of the
market is to provide a process by which resources are
allocated by trial and error.12 Lange concluded that,
practically, they denied that the suggested solutions of
trial and error in the socialist economy could work
without actual markets, and in this manner they
"retreated" or shifted the significance once again from
the "theoretical" to the practical "impossibility"
through their conception of the meaning of prices and
their understanding of the function of the market.13

Although Lange believed that the solution to the
problem using a method of trial and error proposed by
Taylor constituted an answer to Hayek and Robbins's
argument, he stated the need for a more "detailed
investigation." Lange began by describing how a
trial-and-error method determines the allocation of
resources in a perfectly competitive market system with
the aim of finding out whether a similar procedure could
be employed in a socialist economy.l4

Lange divided each economy into conditions of

subjective equilibrium, objective equilibrium, and a

third condition which expresses the social organization

52
of the economic system. The conditions he set for the
perfectly competitive market system will not be covered
in this study because of their general familiarity.15
In the socialist state, Lange assumed freedom of choice
in consumption and in occupation, and he stressed that
the "preferences of consumers, as expressed by their
demand prices, are the guiding criteria in production
and in the allocation of resources."16 Furthermore,
Lange explained, in such a socialist system there are
actual markets for consumers' goods and for labor
services but not for capital goods and productive
resources aside from labor.17 For these latter, the
prices used are the ones in the generalized sense (terms
on which alternatives are offered), being fixed for

accounting purposes. 18

Lange did not specify how
prices in the generalized sense are determined, but
presumably the process of trial and error would lead to
equilibrium prices for capital goods and nonlabor
productive resources that would reflect the "terms on
which alternatives are offered." According to Lange,
there are two types of equilibrium conditions:
subjective and objective.19

The subjective equilibrium conditions are as
follows.

1. As in a perfectly competitive market system,

consumers maximize the utility they derive from their

income. The demand for consumer goods is determined

53
once both the incomes of consumers and the prices of
these goods are given.

2. Unlike producers in the perfectly competitive
system, managers of production do not aim at maximizing
profits; instead, they follow two rules set by the
Central Planning Board in order to satisfy consumers'
preferences. First, each manager should combine factors
of production in such a manner as to minimize the
average cost of production. This guarantees the
efficient employment of the factors of production
because this rule leads to the combination of factors so
as to "equalize the marginal productivity of the amount
of each factor that can be purchased for a unit of
money." Second, each plant manager should choose the
scale of output that equates the marginal cost to price.
When both rules are followed by plant managers, the
scale of output of each plant and its demand for factors
of production are determined. These two rules perform
the same functions as those of a profit-maximizing
perfect competitor who considers his output and the
amount employed of factors do not affect their prices.

The second rule must also be followed by the
directors of whole industries to determine total output
and to guide them in their decision as to when to add
new plants or to replace or refrain from replacing
obsolete plants. Accordingly, each industry produces

exactly that amount of output that can be sold or

54
"accounted for" by other industries at marginal cost
pricing. When imposed on a whole industry, the second
rule performs the same function that under a perfectly
competitive market system is achieved by free entry and
exit which determines an industry's output. Thus, with
the imposition of these rules, with prices being given,
the output of each plant and industry and, hence, the
supply of all products and the total demand of factors
of production are determined.

3. Workers take jobs that pay the highest
possible wages, since there is an assumption of freedom
of choice in occupation, whereas capital and natural
resources have "generalized" prices that are fixed by
the Central Planning Board with the directive that these
resources are directed to those industries that will
"account for" this price. With all prices given, the
allocation of resources among different uses is
determined.

The second set of equilibrium conditions--the
objective conditions--are the same for both the
perfectly competitive market system and the socialist
system. Equilibrium prices, whether market or
accounting, are determined by the equality of the
quantities demanded and supplied of each commodity.
Lange wondered whether the prices set by the Central
Planning Board for the ultimate productive resources

aside from labor would be necessarily quite arbitrary.

55
He asserted that there is an objective price structure
in a perfectly competitive market because of the
"parametric function of pmices," which results from the
large number of competing individuals, each of whom
cannot influence prices by any action taken. The same
objective price conditions can be achieved in a
socialist economy by imposing the parametric function of
prices on the production managers as an "accounting
rule," and once set they should be treated as constants.

The third condition, which expresses the social
organization (Hf production, holds regardless of
equilibrium In“: is necessary in order to have a
determinate system. It states that incomes of consumers
are equivalent to their receipts from labor services in
addition to the social dividend. The social dividend is
distributed, according tx> certain principles, among
individuals and is derived from the ownership by society
of the capital and natural resources. This condition
determines the incomes of consumers by the prices of the
factors of production and the principles used in
distributing the social dividend.

These three conditions determine equilibrimn in a
socialist economy; and along with the principles
determining the distribution of the social dividend,
"prices" alone are the variables that determine the
supply and the demand of commodities.20 Lange, as

previously mentioned, considered preferences of

56
consumers to be expressed by their demand prices. With
the objective equilibrium condition, that is, the
equality of quantities demanded and supplied for every
commodity, the choice of equilibrium prices will be

achieved.21

Lange asserted that prices different from
equilibrium prices would be reflected in a surplus or a
shortage of these commodities at the end of the
accounting period.22 Consequently, accounting prices
are objectively determined by the Central Planning Board
because they have to be corrected until no physical
surplus or shortage appears in any commodity or factor
of production. Thus, by a process of trial and error, a
unique set of prices and costs is determined which is
the only one that will satisfy the objective equilibrium
conditions.23

Lange concluded that the process of price
determination in a socialist economy is quite analogous
to the one that takes place in a competitive market.
Furthermore, the Central Planning Board performs the
same functions of the market by virtue of the rules it

24 It determines the combination of factors

imposes.
of production, the plant's scale of output and the
output of an industry, the allocation of resources, and
the use of the parametric functions of prices, and it
fixes prices to ensure equilibrium. This might imply

that the Central Planning Board shares the role of

consumers in deciding what to produce.

57
According to Lange, two special problems dealing
with the social dividend and the interest rate need
further qualification. The distribution of the social
dividend should be conducted in such a manner as not to
influence the individual's choice of occupation and not
to affect the optimum distribution of labor services

25 This does not

between different industries.
contradict Lange's assumption of freedom of choice in
occupation, whereby different jobs pay different wages,
which leads to labor mobility. Regarding the
determination of the interest rate, Lange distinguished
between the short-run and the long-run solution of the

problem.26

In the short run, the supply of capital
should be regarded as fixed, and the interest rate is
determined subject to the condition that the demand for

capital is equal to the fixed supply.27

In the long
run, however, capital accumulation takes place; if it is
determined by the Central Planning Board before
distributing the social dividend, the rate of capital

28 The claim

accumulation is arbitrarily determined.

that the Central Planning Board aims at accumulating

enough capital to have a zero net marginal productivity

of capital is not sensible and will never be attained

because of new labor-saving techniques of production,

population increases, and the discovery of additional
29

natural resources. If the decision about the rate

of capital accumulation were left to the saving of

58
consumers, it would be incompatible with socialist
organization.30
Such was Lange's theoretical determination of
equilibrium in a socialist economy; what remained to be
shown was the practical determination of equilibrium
using a method of trial and error similar to the one

31 In the

operating in a perfectly competitive market.
socialist economy, this method is based on the
parametric function of prices; the Central Planning
Board chooses a set of prices based on "historically

32 Productive decisions and individual

given" prices.
decisions of consumers are based on these prices;
consequently, the quantities demanded and supplied of

each commodity will be determined.33

The price of any
commodity will be raised if the quantity demanded
exceeds the quantity supplied of that commodity, and
vice versa. With each new set of prices fixed by the
Central Planning Board, a new set of production and
consumption decisions will be made, each in turn
resulting in a new set of quantities demanded and
supplied of each commodity. This process continues
until the equality of the quantities demanded and
supplied of each commodity is achieved; only then is the
Central Planning Board assured that the equilibrium set
of prices has finally been determined.

Contrary to claims made by Hayek and Robbins, the

Central Planning Board does not have to solve millions

59
of equations, according to Lange.34 Consumers and
managers of production, whether in a socialist or in a
perfectly competitive economic system, are the only
groups that have to "solve" equations, and they do so by
a process of trial and error that involves small
variations at the margin.35 Knowledge of the demand
and supply functions is not necessary to determine
equilibrium prices by the Central Planning Board. The
only requirement is to watch excess demand or excess
supply and eliminate such excess for every commodity, by
a process of trial and error, until equilibrium prices
are reached. This also applies to the labor market,
where the quantities of labor services demanded and
supplied should be equal, according to Lange's
subjective equilibrium conditions. Lange concluded
there is no reason to believe that such a
trial-and-error process could not be carried out in a
socialist economy to determine the accounting prices of
the publicly owned factors of production.36
Furthermore, this process could be conducted by a "much
shorter series of successive trials" in a socialist
economy due to the more comprehensive knowledge of the
Central Planning Board, which could never be available
to a single entrepreneur in a perfectly competitive
market.37

Lange also considered a socialist economy in which

there is no freedom of choice in either consumption or

60
occupation and resource allocation is directed by
preferences of the administrators of the economic system

38 Although occupations

rather than by consumers.
would be assigned and consumption goods would be
distributed by rationing, rational economic accounting

is still possible.39

Since the preferences of
consumers are not taken into account, the Central
Planning Board has to adopt a scale of preferences upon
which the valuation of consumption goods is based.40
With the Central Planning Board imposing the same rules
described previously upon managers of production,
including the use of the parametric function of prices
as an accounting rule, the process of trial and error
would be carried out as before. Prices arrived at
through trial and error in such a socialist system would
be objectively determined, and thus rational economic
calculation would still be possible, according to Lange,

even though consumers' preferences would not guide the

allocation of resources.

3.2 Lerner's Contribution

 

Abba Lerner, a British socialist and an active
participant in the debate, did not suggest a specific
solution to the problem of calculation in a socialist
economy; rather, he put more emphasis on the managerial

41

rules a socialist enterprise should follow. Lerner

criticized the tradition, existing at the time, of

61

approaching socialist calculation by starting with the
competitive equilibrium rather than the "more
fundamental principle of marginal opportunity cost."42
For him, this approach was "indirect" and "cumbersome"
and suffered from error due to the static nature of
competitive equilibrium.43

Lerner stated that the most general principle of
economic calculus that would apply in a socialist state
is that of ordering economic activity so that "no
commodity is produced unless its importance is greater
than that of the alternative that is sacrificed.“14
Consumers spend income on commodities in such a manner
that a dollar's worth of different goods has the same
attractiveness at the margin and the same "marginal

social significance" to each individual.45

According
to Lerner, this tendency in consumers that guides their
choice of consumption will cause the same marginal
sacrifice of the society's resources.46 If the
consumer, for one reason or another, is forced to choose
a commodity that will give him less satisfaction at the
margin than another good which was not produced, it
would cost society more, since resources have not been
properly allocated for the production of the more

47

preferable good. This waste will not be confined to

the misallocation of resources in the production of
final consumption goods, but will be repeated at every

stage of production.48

62

When producers do not consider the prices of
resources as given and compete with one another for the
factors of production, optimum distribution of resources
does not take place. Consequently, to increase output,
resources have to be moved from less to more productive
uses.49 According to Lerner, the most economic
utilization of resources could be achieved by following
the directive that every factor should be employed until
the "marginal physical product multiplied by its price

"50 In other

is equal to the price of the factor.
words, Lerner explained, factors should be used until
the price of the product is equal to the "physical
quantity of any factor needed to produce another unit of
product, multiplied by the price of the factor."51
Lerner defined the value that should be equated to the
price of the product as the marginal cost and asserted
that it is the guiding principle in the most economic

employment of the factors of production.52

According
to him, this principle is superior to the approach based
on competitive equilibrium because this single rule
substitutes all other rules that would work only if the
conditions of perfect competition were present.53

In defending his rule, Lerner considered two

others. The first calls for equating price to average

cost, and the second equates marginal revenue to

54

marginal cost. The second rule follows from the

Austrian marginal analysis, which is the condition of

63
profit maximization for the firm. The equilibrium
resulting from attaining this condition will not be the
desired competitive equilibrium until the conditions of
perfect competition are achieved.55 This is
guaranteed by the application of the first rule, derived
from the Marshallian supply and demand analysis, which
calls for the equalization of price to marginal cost as
a prerequisite to a perfectly competitive equilibrium.
If the application of the second rule results in a
deviation from the perfectly competitive equilibrium,
managers should be directed to subordinate it to the
first rule.56 Lerner added that whenever the
objective conditions of perfect competition exist, the
application of the second rule leads automatically to an
equalization of price and average cost, so that the

first rule becomes unnecessary.57

Furthermore, Lerner
referred to Mrs. Robinson's analysis of imperfect
competition, which showed that if there is freedom of
entry into an industry, both rules are satisfied; yet
the equilibrium reached in this case is not one of
perfect competition.58 Lerner concluded that a
perfectly competitive equilibrium cannot be established

by issuing rules which satisfy some of the "symptoms" of
this equilibrium if the objective conditions of such an
equilibrium are absent.59 He asserted that the best
single principle or rule to follow is the one calling

for the equalization of price to marginal cost, the

64

application of which is not dependent on the existence
of the objective conditions of perfect competition.

Lerner asserted that the application of his
principle will lead to the same result--perfectly
competitive equilibrium--that the scheme of bounties and
taxes advocated by Pigou is supposed to achieve.60
Lerner argued that there is no necessity for applying
such a scheme to a socialist economy because conditions
are simpler, in the sense that there is no need for a
firm or an industry in the socialist economy to cover

its costs.61

Thus, the only general principle that
should be followed in a socialist state is that of
adjusting output until price is equal to marginal cost.
This principle, Lerner asserted, is the "contribution
that pure economic theory has to make to the building up

of a socialist economy."62

3.3 Dickinson's Contribution and Rejoinder

 

In his more elaborate and comprehensive 1939 work,

Economics of Socialism, Dickinson basically advanced the

 

same trial-and-error solution, albeit with certain
specific refinements added.

In his earlier formulation, Dickinson only
considered two special categories of cost, interest and
an allowance for uncertainty, which he advocated
including in the cost calculation of the socialist

economy. According to him, the rate of interest

65
calculated in the socialist community will be used for
all accounting purposes. Dickinson proposed two

procedures for determining this rate.63

First, the
Supreme Economic Council could fix the total supply of
capital and calculate the current rate of interest from
a constructed aggregate schedule of marginal
productivity of capital. Second, it could fix a
specific rate of interest that would determine the
capital portion to be "saved out of the [current] total

. . 64
soc1al income. "

In either case, the calculated rate
of interest would be used to distribute capital to
different undertakings according to specific needs.
Such needs, Dickinson advocated, would be known by
drawing up demand schedules for capital at alternative
rates of interest.65

Dickinson believed that only two kinds of
uncertainty, which warrant a surcharge, cannot be

66 The

eliminated under the planned socialist economy.
first is due to changes in methods of production and
results in technological obsolescence. Uncertainty
surcharge in this case will be added over and above the

67 The second

already estimated depreciation rate.
results from changes in consumers' tastes which render
some already produced consumer goods nonsalable. In

this case Dickinson claimed that the socialist community

"might in time [find] a statistical treatment of

66
uncertainty based on the frequency distribution of sales
and of price changes.“68
Dickinson added a third special cost category,
rent, generated from land and natural resources, to his

"rational costing system."69

He suggested the
calculation of rent by utilizing the "calculus of
variations"; it determines which land will produce the
maximum return, which in turn requires that comparisons
be based on marginal rather than average returns.70
According to Dickinson, if average cost pricing is
adopted and if endowments of land and natural resources
differ for different undertakings producing the same
product under increasing cost conditions, then when
output is extended, the true cost to the community "will

"71

be underestimated. He concluded that average cost

pricing in this case will distort cost calculation

72 This

because "rent will be absorbed into cost."
will cause an overinvestment in increasing-cost
industries relative to average or diminishing-cost
industries. It should be borne in mind that marginal
versus average cost pricing is analogous to pricing
production goods according to average versus marginal
cost of production.

Dickinson asserted that the three special
categories of cost--rent, interest, and uncertainty

surcharge--are "merely accounting prices" that do not

accrue to any single individual but to society as a

67

73 He believed that any surplus which has the

whole.
nature of profit is different from the product of labor,
which is paid as wages. This surplus falls under the
domain of the Social Fund, which is used to finance new
investments.74

In analyzing what Dickinson meant by pricing being
based on "cost" in the previous chapter of this study,

it was thought that he was implying average cost

pricing. However, in his Economics of Socialism,

 

Dickinson qualified pricing based on "cost" as marginal
rather than average cost pricing. He spoke of two cases
in which cost varies with scale of output: the "long"

and the "short" period.75

The long period, in which
“organization and technical equipment of production" can
be adapted to the chosen scale of output, is divided
into two subcases depending on the cause of cost

variation.76

The first, due to changes in the supply
price of factors of production as volume of production
changes, gives rise to increasing costs as output
increases because, "broadly speaking, the price of a
factor tends to rise the more of it is used."77
Dickinson asserted that marginal cost pricing here will
lead to a surplus, or rent. The second, caused by
changes in efficiency of industrial organization as

volume changes, gives rise to decreasing cost as output

increases. In this case, marginal cost pricing will

68
lead to "accounting losses" which warrant the extension
of subsidies to cover these "negative rents."78
In the short period, cost varies with output
because "organization and technical equipment," which
are unchangeable, are preadjusted at normal plant

capacity;79

Dickinson described the relationship
between cost and output as a U-shaped AC curve, with the
MC curve intersecting the minimum AC curve, which
happens to be the normal plant capacity output. Pricing
of goods at marginal cost, in this situation, entails
"substantial accounting profits" if production is larger
than normal plant capacity and "requires substantial
subsidies" if production is less than this capacity.80

If the Supreme Economic Council decided to adopt
marginal-cost pricing under conditions of both
increasing and decreasing costs, then it should set a

81 This would balance

Marginal Cost Equalization Fund.
or equalize "positive rents" resulting from producing
under increasing cost conditions, with "negative rents"
stemming from decreasing cost industries.

Supporting the analysis of the last chapter, in
which it was concluded that Dickinson was demonstrating
the theoretical possibility rather than the practical
applicability of the mathematical model of the socialist

economy, Dickinson advanced the following:82

It is, however, unlikely that the method of
trial and error would be replaced entirely

69
by centralized price determination, based on
the solutions of thousands of simultaneous
equations.
According to Dickinson, this is not due to the lack of
computing technology but to the "constantly changing"
data resulting from Innfli the changing technical
coefficients of production and the conditions of demand
and supply.83
Dickinson argued that the main objection of Mises
to the planned socialist economy can be summarized in
the following "propositions":84
(l) Rational economic activity requires the
pricing of all goods, production goods as
well. as consumption goods. (2) Pricing
requires the existence of a market. (3) A
market requires the existence of independent
owners of the goods exchanged.
Dickinson asserted that his trial-and-error solution
answers Mises. The "association of price with private
ownership, free enterprise and the free market" was,
according tx> Dickinson, (a "historical" occurrence or
"accident" and could not be considered as a "logical

"85 In addition, he asserted that the

necessity.
"essential function and character of price" is basically
"independent of any particular organization of the

"86 Price, i1: Dickinson's viewpoint, is :3

market.
numerical relationship that exists between quantities of
different kinds of goods and is a function of the degree

of scarcity. Thus, Dickinson concluded that Mises

confused the "essence of the pricing process" (scarcity)

70

with its manifested "form" in the capitalist economy,
the latter being the "market and private ownership of
production goods."87

Dickinson also addressed Mises's contention that
the role of the entrepreneur in the capitalist economy
will be impossible to emulate by the socialist manager
of the enterprise. According to Dickinson, Mises
claimed that the socialist manager "can have no
discretionary power and no pecuniary responsibility for
production," hence "rational risk bearing becomes

impossible."88

Dickinson countered by pointing out
that the "ideal" entrepreneur no longer exists in the
"real economic world of today" and is being replaced by
a "salaried manager" of joint-stock corporations who has
a limited freedom and is answerable to many owners.89
In addition, the idea that the entrepreneur is supposed
either to reap the profits or suffer the consequences of
failure involves, in Dickinson's view, an "all or
nothing" fallacy.90 The entrepreneur in the current
capitalist system Operates subject to varying influences
of financial and bankruptcy laws that will tend to
protect him from part of the risk he is supposed to
assume.

The central issue that has been stressed by many
socialists is the achievement of society's ends by the

means of central planning. In this context, Dickinson

believed that, under the socialist system he proposes,

7l
"planning, rationalization, and scientific management"
all contain one common element, the "idea of rational

"91 In addition, he

coordination of means and ends.
ventured another understanding of the rational economy,
"the use of scarce resources so as to produce maximum

"92 These

satisfaction [to society] at minimum cost.
two views, which are "complementary" and "not opposed,"
stem from Dickinson's belief of combining a system of
"economic planning" with a "system of
quasi-individualistic pricing and costing."93
However, for Dickinson, the system of economic planning
"supplements" the system of quasi-individualistic

pricing and costing, which reflects his advocacy of a

decentralized socialist economy.

3.4 Hayek's Response

 

Given the various contributions and responses of
the socialist proponents of the debate, Hayek considered

two chapters pertaining to the discussion of the

94

socialist economy to be closed. The first was the

belief that socialism could have calculation _i_p_ natura
(physical terms) rather than in terms of value. Hayek

asserted that this view has been completely abandoned by

95

economists. The second chapter which Hayek

considered closed was the proposal that socialist

calculation could be achieved by solving a system of

96

simultaneous equations. As pointed out earlier in

72

this study, Dickinson did not suggest that such a system
could lead to a practical solution, but it was used by
him as a theoretical demonstration. According to Hayek,
a third stage of the debate started with the suggestions
to solve the problem of calculation in a socialist
economy by the "reintroduction of competition."97
Hayek was referring to the trial-and-error approaches
offered by Taylor, Lange, and Dickinson, although the
latter, according to Hayek, essentially suggested the
same solution in his earlier and later works.98

Hayek believed that these solutions rely partially
on the competitive mechanism for the determination of
relative prices, but they do not allow the market to
determine prices directly.99 They proposed instead
that the central authority follow a system of price
determination or "price-policy" whereby the demand and
the supply of a specific commodity serve to indicate
whether the "prescribed prices" should be raised or

lowered.100

Hayek posed three questions regarding
these competitive solutions. The first involved "how
far this kind of socialist system still conforms to the
hopes that were placed on the substitution of a planned
socialist system for the chaos of competition."101
Hayek claimed that socialist economists stressed the
superiority of planning over competition, and now the
planned society would "rely for the direction of its

industries to a large extent on competition."102

73
Hayek concluded that the claim of the superiority of
planning over competition is false. Furthermore,
according to him, planning economists considered
planning and competition as "opposites," which
contradicts the suggested solutions that incorporate
some features of competition in their socialist planning

models.103

The idea that "planning" and "competition"
cannot be mixed does not hold ground for either system,
since a laissez-faire economy must rely on some sort of
government participation in the economy, which would
necessarily be subject to planning.

The second question Hayek considered was the
extent to‘which the proposed competitive socialist
solution "is an answer to the main difficulty," that is,
to the problem of socialist calculation.104 Hayek
believed the contention that the competitive socialist
solution constitutes an answer is groundless.105 He
questioned the whole procedure of trial and error,
particularly the choice of a "random" set of prices and
the gradual approach by successive trials to the values

106

of the factors of production. Hayek doubted that

"within the domain of practical possibility, such a
system will ever even distantly approach the efficiency"

of a market economy, where price changes are effected

107

spontaneously. Hayek asserted that these solutions

resulted from an "excessive preoccupation with problems

of the pure theory of stationary equilibrium."108

74

According to him, the process of trial and error would
arrive at a stationary equilibrium if the data were
constant, which does not exist in the real world. He
contended that the real issue is not whether a specific
method will achieve a hypothetical equilibrium, but
which method -"will secure the rapid and complete
adjustment" to the continuous changes in a modern
economy.109

The third question posed by Hayek dealt with the
extent of the applicability of the competitive solutions
that are based on the process of trial and error. Hayek
believed that preoccupation with the concepts of pure
economic theory, particularly perfect competition,
caused both Lange and Dickinson to overlook an important
area in which their solutions will be inapplicable.110
Hayek said that there will be a problem in fixing prices
in advance for unstandardized goods, particularly those
produced for individual orders and on contract, such as
the products of "heavy industries," machinery, and ships

111

which are not produced for a market. Hayek

questioned the basis for fixing prices in all these

cases in order to equalize the demand and the supply for

112

each particular good. If the central authority

fixes the prices in advance, this has to be done for
each case and on the basis of the calculations conducted
by the authority regarding supply and demand for each

113

good. Hayek concluded that in all these cases the

75

central planning authority has to assume the function of
the entrepreneur and abandon the proposed competitive
socialist solution in favor of a more completely
centralized system, else price fixing becomes
"exceedingly cumbersome" or just a "pure
formality."114

In discussing the procedure of trial and error,
Hayek criticized the lack of a clear definition of the
length of the period over which the managers of

production have to consider prices constant.115

Hayek
noted that Taylor talked about a "productive period,"
Lange considered it an "accounting period," and

Dickinson did not specify any.116

Nevertheless, Hayek
concluded that the inability to define the period
resulted from the socialists' failure to "understand the
true function of price mechanism" and was caused by
their preoccupation with stationary equilibrium.117
The price mechanism would work almost instantaneously to
bring about the equality of demand and supply.

Hayek asserted that regardless of the method used
by the central authority to fix prices and whatever the
period for which they stay constant, two obvious

118

conclusions could be established. First, price

changes under the proposed competitive socialist
solution would occur later than they would if the prices

119

were determined by the market parties. According

to Hayek, economic efficiency demands prompt changes in

76
prices, but these solutions would require actual changes
in prices to be undertaken after a lengthy time.120
Second, under such solutions there will be "less
differentiation between prices of commodities according
to differences of quality and the circumstances of time

"121

and place. If no such simplification were made,

the central economic authority would face the prospect
of fixing an] infinite number of separate prices.
However, Hayek believed this would not induce the
managers of production to benefit from the special
opportunities anui circumstances that could be
obtained.122

Hayek distinguished between [firminson's and
Lange's solutions regarding the method by which the
central planning authorities would implement price
changes to conform 1x) supply-and-demand price.
According to Hayek, Lange suggested "experimentation" in
prices to deplete excess demand or supply, whereas
Dickinson suggested "statistically established demand
schedules as a guide to determine the equilibrium

prices."123

Hayek mistakenly claimed that this
suggestion of Dickinson, in the trial-and-error context,
is "evidently a residue" of the latter's "belief" in the
solution of the problem by using a mathematical model of

the socialist economy.124

Hayek criticized Lange for "being vague" about the

definition of an industrial unit regarding its nature

77

and size and the selection of its management.125
Hayek also claimed that Dickinson was "even more vague"
than Lange when he did not define the different roles
and functions of the organs of the socialist
economy.126 According to Hayek, Lange failed to

discuss what constitutes an industry and ignored the

distinction between the functions of a plant manager and

those of the managers of a whole industry.127

Hayek questioned the procedure by which the
central authority would ensure the applicability of
Lange's rules, calling for plants to produce at minimum
average cost and to expand production of individual
plants to achieve the equalization of price and marginal
cost.128 Hayek mistakenly claimed that Dickinson
suggested, in the case of decreasing cost industries,
that production should be expanded until "prices are
equal, not to average, but to marginal costs."129
Hayek believed that the problem of applying these two
rules resulted from the absence of a main driving force
in competitive economy that brings about the reduction
of costs to the minimum, which is price

competition.130

Hayek asserted that this force would
be absent in a socialist economy since the central
economic authority fixes prices and because all
decisions regarding improvement in the techniques of
production that could lead to lower cost are made by

131

such an authority. Thus, the central economic

78

authority assumes the functions of the entrepreneur, and
consequently the automatic adjustment to production at
lowest cost is absent in these socialist blueprints. In
the end, this authority would have difficulty in
imposing the two rules proposed by Lange.

Hayek also criticized the procedure by which the
success of production managers in carrying out Lange's
two rules are to be verified by the central economic

authority.132

Hayek explained that the plant manager,
since he has to take prices as given, will turn into a
"quantity adjuster" whose only task is to combine the
factors of production at his disposal to produce
output.133 Since he cannot induce his supplier to
offer more factors of production, he would be forced to
use inferior substitutes or to employ other uneconomical
methods in order to increase production to the point at
which the prescribed price equalled the minimum average
cost.134 In addition, Hayek criticized Lange's model
because it limits the freedom of the managers of
production to take advantage of expected or anticipated
future price movements.135

Hayek claimed that all competitive socialist solu-
tions, as well as most discussions of economic theory at
the time, treat the cost curves as "objectively given

facts. "136

Hayek asserted that Lange talked "about
'marginal costs' as if they were independent of the

period for which the manager can plan," while in

79

actuality they depend on buying at the right time, and
they depend not only on current prices but also on
expected future prices.137

Regarding the distribution of the available
capital supply to different industries and plants, Hayek
asserted that both Lange and Dickinson wanted the
interest mechanism to determine this decision.138
However, Hayek criticized the failure of Lange to show
how the responsibilities regarding this decision would
be shared between the central economic authority and the

various industrial units.139

The same applies to the
amount of capital accumulation and how much to save and
invest; Lange believed that this decision, which would
be left to the central economic authority, would

necessarily be arbitrary.140

Regardless of how these
decisions are made, Hayek believed that the central
economic authority would exercise much more control over
the distribution of capital and the rate of capital
accumulation than both Lange and Dickinson wanted to
admit.141

The main theme that Hayek reiterated regarding the
competitive socialist solutions was that they will end
up in more extensive central direction of all economic
activity in the socialist state. Hayek denied the
repeated assurances of both Lange and Dickinson that

142

their socialist model would ensure freedom. Hayek

claimed that regardless of the different models

80

demonstrating that socialism is supposed to work,

socialism is bound to become totalitarian.143

1936,

l. Maurice Dobb,
Planning," Friedrich von Hayek, ed., Economic Journal
14, September 1935, p.

2.

3.

Paul M. Sweezy,
1949), P.
Karen Vaughan,
Socialism: the Austrian Contribution," Economic Inquiry
October 1980,

81

Notes to Chapter III

 

"Review of Collectivist Economic

 

532.
Socialism (New York: McGraw

 

227.

"Economic Calculation under

 

p. 540.

4. Oskar Lange, "On the Economic Theory of

p.
5.
6.
7.
8.

Socialism," The Review of Economic Studies 4(1),

October

 

54.

Ibid.,
Ibid.,
Ibid.,
Ibid.

54.
54-550
55.

p.
PP-
p.

9. R.L. Hall, The Economic System in a Socialist

State (London:
Russell,

 

New York,

Macmillan,

 

1937; reissued by Russell &
1967), p. l.

10. Oskar Lange, "On the Economic Theory of

 

 

Socialism," p. 56.

11. Ibid.

12. Ibid.

13. Ibid.

14. Ibid., p. 57.

15. Ibid., pp. 57-60.

16. Ibid., p. 60.

17. Ibid.. pp. 60-61.

18. Ibid., p. 61.

19. Benjamin E. Lippincott, ed., On the Economic
Theory of Socialism (Minneapolis: The University of
Minnesota Press, 1938), pp. 75-81.

20. Ibid., p. 81.

21. Ibid., p. 82.

22. Ibid.

23. Ibid.

24. Ibid., p. 83.

25. Ibid., pp. 83-84.

26. Ibid., p. 84.

27. Ibid.

28. Ibid., PP. 84-85.

29. Ibid., p. 85.

30. Ibid.

31. Ibid., p. 86.

32. Ibid.

33. Ibid.

34. Ibid., p. 88.

35. Ibid.

36. Ibid., p. 89.

37.
38.
39.
40.
41.
Socialist

82

Ibid.

Ibid., p. 90.

Ibid., p. 91.

Ibid.

Abba Lerner, "Statistics and Dynamics in
Economics," Economic Journal 47, June 1937,

 

42.
43.
44.
45.
46.
47.
48.
49.
50.
51.
52.
S3.
54.
55.
56.
57.
58.
59.
60.
61.
62.
63.

Ibid., p. 253.
Ibid.

Ibid.

Ibid., p. 256.
Ibid.

Ibid.

Ibid.

Ibid., pp. 256-257.
Ibid., p. 257.
Ibid.

Ibid.

Ibid.

Ibid., p. 255.
Ibid.

Ibid.

Ibid.

Ibid.

Ibid., pp. 255-256.
Ibid., p. 269.
Ibid.

Ibid., p. 270.
Henry D. Dickinson, Economics of Socialism

 

(Freeport, New York: Books for Libraries Press, 1971
[1939]), p. 82.

64.
65.
66.
67.
68.
69.
70.
71.
72.
73.
74.
75.
76.
77.
78.
79.
80.
81.
82.
83.
84.

Ibid., p. 83.
Ibid., p. 82.
Ibid., Pp. 94-95.
Ibid., pp. 95-96.
Ibid., pp. 97-98.
Ibid., p. 75.
Ibid., p. 78.
Ibid., pp. 76-77.
Ibid., p. 77.
Ibid., p. 98.
Ibid., p. 85.
Ibid., p. 105.
Ibid., p. 106.
Ibid.

Ibid.

Ibid., p. 107.
Ibid., pp. 106-107.
Ibid., p. 107-8.
Ibid., p. 104.
Ibid.

Ibid., p. 111.

85.
86.
87.
88.

83

Ibid., p. 112.

Ibid., p. 115.

Ibid., pp. 114-15.

Ibid., p. 13. Dickinson was referring to

Mises's view expressed in the latter's Gemeinwirtschaft
(1922), which appeared in English translation as

Socialism in 1936.

 

role of the entrepreneur;

 

Other works of Mises stressed the
these works are discussed in

the next chapter.

89.
90.
91.
92.
93.
94.

Ibid., PP. 216-17.
Ibid., pp. 217-18.
Ibid., p. 15.
Ibid., p. 66.
Ibid., p. 220.
F. A. von Hayek,

"Socialist Calculation: The

Competitive 'Solution,'" Economica 7(26), May 1940, p.

125.
95.
96.
97.
98.

Dickinson'
organized, comprehensive, lucid and concise" book.

 

Ibid., p. 125.
Ibid.
Ibid., p. 128.

Ibid., pp. 128-129. Hayek evaluated

5 Economics of Socialism (1939) as a "well-

In

 

Hayek's view, Dickinson basically proposed the same
"trial-and-error solution" that first appeared in his

1933 article,

"Price Formation in a Socialist

Community."

99.
100.
101.
102.
103.
104.
105.
106.
107.
108.
109.
110.
111.
112.
113.
114.
115.
116.

Dickinson
117.
118.
119.
120.
121.
122.

Ibid., p. 129.
Ibid.

Ibid.

Ibid., p. 130.
Ibid.

Ibid., pp. 129-130.
Ibid., p. 130.
Ibid., pp. 130-131.
Ibid., p. 131.
Ibid.

Ibid., pp. 131-132.
Ibid., p. 132.
Ibid.

Ibid.

Ibid.

Ibid., p. 133.
Ibid., p. 134.
Ibid. In this article, Hayek only dealt with

and Lange, making no reference to Lerner.
Ibid.

Ibid., p. 135.

Ibid.

Ibid., p. 136.

Ibid., p. 135.

Ibid., p. 136.

123.
124.
125.
126.
127.
128.
129.
130.
131.
132.
133.
134.
135.
136.
137.
138.
139.
140.
141.
142.
143.

Ibid.,
Ibid.
Ibid.,
Ibid.,
Ibid.
Ibid.
Ibid.
Ibid.,
Ibid.
Ibid.,
Ibid.,
Ibid.
Ibid.
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,

p.

p.
p.

p.

PP-
p.

p.
p.
p.
p.
p.
p.
p.
P.

135.

137.
138.

139.

84

139-140.

140.

139.
140.
142.
143.
142.
144.
145.
148.

CHAPTER IV

THE ORIGINAL PARTICIPANTS POST-WORLD WAR II
REASSESSMENT OF THE CONTROVERSY:
MISES, LANGE, DOBB, AND HAYEK

In the mid-19403, the socialist calculation debate
gradually faltered. Some of the original participants
nevertheless continued to discuss the controversy or
some of its elements.

It is the purpose of this chapter to examine the
statements of these participants to detect changes in
their positions or views. Additions, articulations, and
reformulations of the issues by these participants will
be dealt with in this chapter. Some made references to
the debate but neither elaborately discussed it nor
contributed insights different from those offered prior
to World war II.1

Critique here will be kept minimal for the sake of
postponing analysis until Chapters VI and VII. It is to
be understood that the views of non- participants will
not be covered in this chapter. In addition, perusal of

the post-World War II literature shows that some

participants considered the debate closed.

85

86

4.1 Mises's Response

 

Throughout his writings, Mises reiterated his
original position, although with reference to the
"impossibility of rational economic calculation" under a
socialist system, he dropped the word "rational."2
One possible explanation could be the controversy over

the definition of the term. Some economists defined

rationalitj as an "arrangement of the means that

 

achieves the ends, whatever they may be,"3 which
applies to the individual as well as the society. Mises
was applying the notion of rationality to the individual
and his actions in the context of the capitalist
economy, but it seems Mises became aware that the
aggregation of rational actions of individuals might not
be rational to the society, particularly a socialist
one. A socialist economy is necessarily subject to a
different notion of nonindividualistic rationality,
which Mises was not about to accept. In this sense, he
wanted to disassociate his concept of individualistic
rationality from his criticism of the socialist economy,
which is subject to a different nonmarket and
nonindividualistic kind of rationality.

In essence, Mises's notion considers only an
action made by an individual in his pursuit of material
as well as immaterial wants and needs to be

rational.4 Regardless of whether an action taken

87

might be faulty or might not result in a desirable
outcome, Mises claimed that "human action is necessarily
always rational."5 An "individual economic action"
which might be unreasonable with respect to attaining
one's ends is nonetheless rational, since it derives
from an individual's free will. Mises asserted that
“nobody is in a position to substitute his own value
judgments for those of the acting individual."6 His
concept, of a highly subjective and individualistic
nature that is synonymous with libertarian philosophy,
could hardly be manifested outside the context of a
laissez-faire economic system. This implies that
Mises's notion of rationality will not apply to a
collective body, such as the planning agency of a
socialist economy.

Mises articulated another idea that prompted the
socialist controversy, that of economic calculation.
According to Mises, an “acting individual" uses economic
calculation to determine the outcome of his actions by

7 He defined economic

"contrasting input and output."
calculation to be either an "estimate of the expected
outcome of future action or the establishment of the

8 Furthermore, Mi ses claimed

outcome of past action."
that economic calculation and its fundamental notions,
which he described as "capital and income, profit and

loss, spending and saving, cost and yield," are

"inseparably linked" with the operation of the

88

9 This conception derives from the general

market.
ideology of the Austrian school, that the individual is
the focal point of the economy, and as such only
considers the microeconomic element of the capitalist
market economy.

Mises repeated, time and again, his earlier
contention of the impossibility of socialist economic
calculation and the resulting impracticability of any
socialist economy. He also reasserted his previous
position that economic calculation cannot take place
except in a market system based on exchange for all
commodities and characterized by the private ownership

10 What is new, however,

of all means of production.
is his evaluation of the proposed solutions to the
controversy. Mises classified the "recent" suggestions
as the method of trial and error, the artificial
quasimarket, and the differential equations of
mathematical economics.11

In discussing trial and error, Mises was more
concerned with taking a stand against this method than
with offering an analytical refutation. He claimed that
the approach would be unable to solve the problem of
socialist economic calculation because the "computation
of profit or loss is not feasible" in the absence of

market prices for the factors of production.12

Furthermore, he described the production of capitalist

goods as centralized and controlled by a single agency,

89
where the goods are "neither bought nor sold, and that
there are no prices for them," which cannot yield any
comparison between the "input and output by methods of

13 Finally, Mises asserted that there is

arithmetic."
no ground for comparing the method of trial and error
under socialism with its counterpart in the market
system because what makes it workable under capitalism
is the profit motive, lacking in a socialist economy.
Mises attacked the competitive socialist solution
of Lange and Dickinson, described by Mises as the
"artificial quasi-market solution." He asserted that
socialism came to replace the market system with
"unrestricted centralization and unification" of all
activities in the hands of a single authority, whereas
these "neosocialists" devised schemes, for a "socialist
system in which the market, market prices for the
factors of production, and 'catallactic' competition are

"14 Mises claimed that these

to be preserved.
"intellectual leaders of socialism" acknowledged the
devastating critique of socialist central planning by
their paradoxical suggestions of combining public
ownership of the means of production with "market

15

exchange, market prices, and competition." In his

view, under the quasimarket solution, the managers of
production units cannot emulate the success of their
capitalist counterparts because these managers lack the

16

necessary element of entreprenuership. Furthermore,

90

Mises claimed that the proponents of these solutions
also assume a "rigid" or static structure of production
and capital allocation, which prevents them from solving
the problem of socialist calculation under this
scheme.17

Mises criticized the "differential equations of
mathematical economics" solution as advancing a "static"
state of equilibrium of a "purely imaginary construc-
tion" that can never materialize in the real world and
differs from any "realizable state of affairs."18 He
asserted that if there exists a static situation, then
socialist economic calculation ceases to be a problem;
however, such a situation can never exist.19 In
conclusion, Mises inferred that all three solutions

could never be used to solve the problem of socialist

economic calculation.

4.2 Lange's Reevaluation

 

Lange acknowledged that the theoretical solution
of Barone, although leading to rational economic
calculation, represents a static equilibrium solution to
socialist calculation. However, Lange asserted that
"only the static equilibrium aspect of the accounting
problem was under consideration" in Barone's time.20

In response to the argument advanced by Hayek and

Robbins that Barone's approach, based on solving the

system of simultaneous equations, is impossible in

91
practice, Lange reasserted that his trial-and-error
procedure showed how this system could be empirically
perfected and used. In essence, Lange restated that not
only the theoretical but also the practical possibility
of socialist calculation had been established.

With the advent of electronic computers, Lange
pondered the possibility of utilizing this tool in
partial replacement of the market process of his
socialist model. Although Lange did not offer a new or
a revised competitive socialist solution, he argued both
the merits and shortcomings of the electronic computer
and the market in the socialist economy. According to
Lange, the "most powerful electronic computers have a
limited capacity," could be costly, and could not solve
a huge number of variables and equations in some

economic processes . 2 1

Furthermore, there are no means
other than the market for consumers' goods in all
existing socialist economies. They are
"institutionally" and socially "embodied" in these
economies, which makes the search for an "alternative
accounting device . . . useless to apply" in
practice.22 Lange concluded that these two advantages
of the market over the computer make it impossible to
ignore the market's role in the socialist economy.

Lange acknowledged that the market in the

socialist economy suffers from some shortcomings that

electronic computers would overcome. Among the

92
disadvantages, Lange classified lengthy adjustments to
equilibrium of the process of trial and error; price
adjustments causing social problems due to the varying
incidence of income effect; and the fact that the

Walrasian t’atonnements cannot always lead to a
23

 

convergent equilibrium. Lange asserted, however,
that the electronic computer cannot be used as an
alternative accounting device to the market.

One important element which Lange conceded is that
the market in the socialist economy treats the
accounting problem "only in static terms" in the sense

24 The market

of being an equilibrium problem.
process, Lange admitted, suffers from an important
limitation, that of advancing the basis of long-term
economic planning. Such admission gives credibility to
Mises's argument in the preceding section (4.1) that it
is possible to have economic accounting only under
unrealistic static conditions. Lange implicitly
conceded that his trial-and- error solution has a static
nature and in this sense acknowledged Mises's criticism.

According to Lange, in the sphere of economic
development, long-term investment decisions are subject
to a "developmental economic policy" and could not be
left to the market. Such a view is based on the fact
that investments change future supply and demand

conditions which determine equilibrium prices. Thus,

Lange concluded that "planning of long-term economic

93
development as a rule is based on overall considerations
of economic policy rather than upon calculations based

. 2 '
on current prices." 5

In short, the planning agency
is to set investment goals without reference to
efficient prices but to overall growth strategy. That
economic accounting is a function not only of current
prices, but of prices consistent with growth targets as
well, could be construed as Lange's answer to Mises's
contention of the impossibility of economic calculation
in a socialist economy.

Lange did not suggest a specific means for
determining future shadow prices relevant to long-term
economic planning. However, he asserted that in
pursuing "optimal long-term economic planning,"
mathematical programming, with the aid of electronic
computers, could be applied to determine future shadow
prices which will be the basis of long-term economic
accounting.26

Lange's post-World War II position obviously
differs from the; one be advanced during the debate.
Whereas he did not alter his belief in the
trial-and-error procedure, he did concede there were
certain elements that his decentralized socialist
solution could never achieve. Particularly, he admitted

the static nature of his solution and its inability to

take into consideration long-term economic planning.

94

4.3 Dobb's Solution

 

In viewing the socialist calculation debate, Dobb
asserted that "there can remain scarcely any doubt that
the von Mises objection in the form he stated it
[Chapter III of this study] cannot be sustained."27

Dobb criticized Hayek's interpretation of Mises's
thesis, in which Hayek claimed that Mises was denying
not the theoretical possibility but the practical
feasibility of rational economic calculation under
socialism. According to Dobb, to adopt such an
interpretation is to "lose something in definiteness and
rigor" in the treatment of Mises's "dogmatic" thesis,
since "arguments about feasibility always involve

28 Furthermore, Dobb pointed out

personal judgments."
that there was a "subtle element of bias" in dealing
with the question of practical feasibility, since the
analytical framework used was the competitive
market.29

Dobb described the competitive socialist solutions
of Dickinson and Lange as decentralized models of social-
ism with output and investment decisions taken "at the
level of individual industries or production-plants

30 Lange himself admitted, as noted in

(enterprises)."
section 4.2, that the market process in the socialist
economy suffers from an important limitation, that of

advancing the basis of long-term economic planning. It

seems that Lange shared this reevaluation with Dobb's

95
criticism in reference to investment decisions.31
Furthermore, with regard to these solutions, Dobb denied
the possibility of borrowing from capitalism the
"advantages of an automatic decision making mechanism"
without also importing its major defects as well.32
According to Dobb, such defects include cyclical
fluctuations, uncertainties associated with
decentralized decision making, and problems "with
maintaining a stable-growth path over time."33
Consequently, Dobb denied the "practical existence of a
completely decentralized socialist economy in which
‘market autonism' is allowed full rein."34
In describing the "blend" of centralization and
decentralization of the Eastern European economies, Dobb
declined to qualify such "blend" as offering a practical
support to the Dickinson-Lange answer to Mises.35
Dobb asserted that, on the practical level, it is
difficult to evaluate the success by which such
economies could "combine the positive elements of
centralization and decentralization without their
negative ones."36
The important missing emphasis in the debate is,
as Dobb maintained, the obvious lack of belief in
finding a proper procedure of socialist economic
calculation in the context of a centralized socialist

planning model. The problem for Dobb stems from the

commonly held belief that the "valuation [of capital

96
goods] . . . would be affected by the allocation, and
the allocation could not be conducted . . . without

valuation."37

To solve this problem under a centrally
planned economy, investment decisions could not be left
to a free market or a semimarket of a competitive
solution variety.

The solution advocated by Dobb rests on the basic
assumption of the "rate of investment and hence (given
certain productivity conditions) the growth rate as an

"38 In other words, this rate 0f

independent datum.
growth (of output) is to be taken as given exogenously
and determined a priori in the central plan as a
specific positive rate. Apparently, Dobb and Lange,
although with no obvious cooperation, independently
reached the same conclusion: Prices are a function of
overall growth strategy as determined by long-term
economic planning.

The starting point for Dobb in finding a
value-unit for capital goods is the fact that, at any
given moment, the stock of capital is historically
determined by "existing productive capacity of the
capital good sector of industry“ or by "some
'consumption fund' setting a limit (at any given level
of real wages) to the possible size of employment on

"39 The rate of investment and

investment projects.
the rate of growth, however, change in the future

depending on the investment policy adopted in the

97
central plan itself. It is not clear why Dobb treated
capital as a homogeneous factor of production that could
be reduced to a common unit of measurement.

According to Dobb, a continuous positive rate of
growth requires the application of more quantities of
the labor-input at "earlier" than at "later" stages of
production. The amounts of labor-input required at
earlier stages that would sustain the specific rate of
growth could be taken as a measure of investment. The
population of these amounts of the labor-input of the
total available labor input "can be taken as a measure

40 Assuming that

in labor of the rate of investment."
the growth rate of output for the whole economy per
time-unit is 9, then Dobb maintained that g would be the
proper "weighing factor" to be applied per time-unit "to
labor of earlier dates compared with labor of later
dates in the sequence of production-stages and

production-flows."41

If the period of production is
extended by one time-unit, then the amount of needed
investment in terms of the labor input increases by a
margin of the specific rate of growth, 9. In essence,
Dobb argued that 9 represents "the social cost of
altering productive methods so as to extend the
time-dimension" of the whole period it takes to produce
a capital good at the margin of industry.42

It is Dobb's assertion that this process requires

a condition for minimizing the quantity of investment

98
labor needed to sustain 9, namely, that the lengthening
of the "time-dimension of the productive process should
not occur in any industry beyond the point where the

"43 If

increment of productivity . . . is equal to 9.
all produced inputs should be priced according to this
procedure, then the "appropriate interest-rate per

44 Dobb

unit-period" that should be used "must be 9."
asserted that once the "time pattern of inputs" is
known, pricing of all produced inputs could in
"principle be derived" and in practice approximated
subject to an "iterative process of successive
adjustments."45

Pricing of produced inputs will be used, according
to Dobb, to derive prices of currently produced
consumption goods. He assumed that wages are to be
spent, and the relevant price for consumption goods is a
supply-demand market-equilibrium price. Dobb asserted
that the "ratio of what we [Dobb] termed
investment-labor to [total] labor involved in
maintaining the present [fixed] rate of output" will be
actually equal, under the above assumptions, to the
"ratio of total profit (or surplus) to wage-cost in
current output" of goods for final consumption.46

Dobb asserted that the period of production and
the required "time-pattern of labor-inputs within this

period" vary depending on the different lines of

production. This reflects itself in a different

99
"mark-up on wage-cost," or different prices, not only
for produced inputs but also for final goods.47 In
this manner, Dobb arrived at a "centralized-socialist"
solution to the problem of socialist economic
calculation.

The objection to this approach, Dobb anticipated,
could be mostly directed against his assumption of the
rate of growth of output being taken as a "datum." For
Dobb, there should be no reason to suggest that this
unconventional assumption is contrary to the obvious
objective of achieving consumers' welfare. He
maintained further that his assumption complicates the
analysis of welfare economics, the propositions of which
are based on static conditions and in which saving and
investment, that is, rate of growth, are treated

quasistatistically.48

In a socialist economy, Dobb
asserted, the choice between the allocation for the
present versus the future (rate of growth) is more of a
political than an economic decision. It makes perfect
sense, in Dobb's view, to have this decision
(assumption) of a fixed rate of growth be determined "3
priori to any costing or pricing process in terms of
which methods of production are chosen."49

Dobb's "provisional conclusion" about centralized
socialist solutions, which he described as "providing an

opportunity for some compromise between centralization

and decentralization, planning and market," is a

100

"contrary conclusion" to what emerged from the pre-World
War II debate.50 As stated by Dobb, that debate
provided a "theoretical" but not a "practical"
solution. However, Dobb asserted that many feasible
solutions could exist, among them the one just covered,
"quitee consistent with central decision and
planning."51

An important comment is in order here. Dobb
assumed that productivity conditions are given in his
model. This implicitly leaves technology to be
exogenously determined, which renders methods of
production, particularly of produced inputs, known. A
question of circularity could arise: If produced inputs
are already known, why should there be a need to
calculate their prices? Dobb assumed that, in his
centralized model, market exchange takes place only in
the realm of final consumers' goods. This requires
these goods to be priced based on prices for the already
known produced inputs. Thus, in Dobb's model, pricing

of produced inputs is a prerequisite for deriving prices

of currently produced consumption goods.

4.4 Hayek's Reassessment

 

In another argument against the practical
possibility of rational economic calculation under
socialism, Hayek further articulated a particular

dimension of Mises's argument, that of economic

101
efficiency.52 He wanted to demonstrate that the
market economic system is more efficient than a
centrally planned socialist economic system. Hayek's
yardstick is the ability of an economic system to
utilize the "knowledge" as to "how to secure the best

53
use of resources . "

It seems that he was referring
to "knowledge" acquired by the individual actor based on
this individual's subjective preferences.

Hayek asserted that such "knowledge" does not
exist in "concentrated or integrated form" but is
available to all individuals as "dispersed bits of

incomplete" information. 54

According to Hayek, each
individual has some "advantage" by possessing some
"unique information" or "knowledge of the particular
circumstances of time and place" that allows him to be‘
the sole decision-maker of the best and ultimate course

of action.55

Hayek claimed that all this knowledge,
due to its nature, "cannot enter into statistics and
therefore cannot be conveyed to any central authority in

"56 He concluded that the central

statistical form.
planners cannot, therefore, possess all the knowledge
required to secure the best use of resources because
such knowledge cannot be aggregated.

According to Hayek, each individual solves the
problem of how best to allocate his resources "only by
constructing and constantly using rates of equivalence

«57

[marginal rates of substitution]. Hayek

102

maintained, however, that such an individual need not
know the details of the specific changes that affect his
decision of resource allocation because these changes
are communicated to him through the price system.58
Since the pertinent knowledge is dispersed among several
individuals, prices act as a coordinating mechanism of
the separate actions of different individuals.59
Hayek claimed that the basis of an "efficient
calculation" is understanding that the "changing
supplies of different factors of production determine
their variable marginal rate of substitution."60
Hayek concluded that "understanding the function of
changing rates of equivalence . . . as the basis of
calculation" and understanding "the communication
function of prices" are both necessary to understand the
"argument that rational calculation . . . is only
possible in terms of value or prices, . . . such as the
values formed on the market."61

According to Hayek, then, the argument of rational
economic calculation is understood based on two factors
that could exist only in a market economy. First,
knowledge can only be individually acquired and used to
attain efficiency in resource allocation by equating
the marginal rates of substitution between any two
commodities (or factors) in all different uses. Second,

the communication function of prices serves as a common

signal of all the knowledge dispersed among several

103
individuals. The competitive market economic system,
assuming its practical existence, ensures an efficient
allocation of resources which Hayek implied was one and
the same with rational economic calculation.

Hayek used this "knowledge" theme to attack the
competitive socialist solutions by denying that such
knowledge, which is one of the essential features of
rational economic calculation, could be conveyed to or
aggregated by a central planning authority.62
Furthermore, Hayek maintained that the other essential
feature of rational economic calculation, prices that
reflect this knowledge, "can never be determined [by any
socialist manager] without relying on competitive

markets."63

Consequently, any competitive socialist
solution could not ensure a rational economic
calculation.

Hayek even denied that he ever "conceded, as is
often alleged, that Lange provided the theoretical

"64 This denial was based on

solution of the problem.
the same argument about the inability of the central
planning board to aggregate the dispersed knowledge
individuals possess.6S This "knowledge" argument
falls under the realm of the practical rather than the
theoretical. Furthermore, Hayek had already clearly
conceded that the competitive socialist solution offered

a theoretical but not a practical solution to the

problem of socialist calculation, as shown in the

104

preceding chapter. It is worth noting that these
articulations by Hayek did not elicit, to my knowledge,
any explicit response from the other original
participants of the debate.

It could be observed that the concept of
rationality for Hayek is that of the individual acting
in his self-interest and reaping the benefit of his

66 This implies that there could be

rational action.
no rationality, based on Hayek's viewpoint, in socialist
economies since the individual is not allowed to acquire
the material outcome of his rational action. Hayek
implicitly acknowledged that his concept of rationality,
which is similar to that of Mises, cannot be applicable
to a socialist economy:

. . . it is therefore in general not

rationality which is required to make

competition work, but competition, or

traditions which allow competition, which

will produce rational behavior.7
It could be argued that the concept of rationality of
both Mises and Hayek exists only in and is synonymous
with the competitive market economy. To apply this
concept to another economic system is a contradiction in
terms.

As far as socialist economic calculation is
concerned, Hayek, in the post—World War II debate,
seemed to be avoiding making a clear and direct

statement on this issue. Instead, he was reformulating

Mises's attack on socialism. In attempting to explain

105

Mises's description of socialism as "impossible," Hayek
claimed that this is but one example of the "incautious
formulations" of the pre-World War II debate. Hayek's
explanation of Mises's incautious formulation that
socialism is "impossible" can be given as follows:

. . . Mises obviously meant that the

proposed methods of socialism could not

achieve what they were supposed to do! We

can, of course, try any course of action,

but what is questioned is whether any such

course of action will produce the effects

claimed to follow from it. 8
Hayek's postwar argument attempted to reformulate the
attack of Mises toward not only comparative efficiency
but also the practicality argument. In this manner,

Hayek avoided addressing the original Mises thesis of

the impossibility of socialist economic calculation.

106

Notes to Chapter IV

 

l. Lerner, Dickinson, and Robbins did not offer
any reevaluation or new insights to the debate after
World War II.

2. SeeILudwig von Mises, The Free and Prosperous
Commonwealth (Princeton, N.J.: William Volker Fund,
[1927] 1962), pp. 70-71; Epistemological Problems of
Economics (Princeton, N.J.: D. van Norstrand Company,
Inc., [1933] 1960), pp. 157-158; Socialism: An Economic
and Sociological Analysis (London: Jonathan Cape, [1922]
1951), pp. 113-124 and 131-142; Omnipotent Government
(New Haven: Yale University Press, 1944), p. 54; Human
Action (New Haven: Yale University Press, [1949] 1963),
pp. 698-715; and Economic Policy (South Bend, Indiana:
Regency/Gateway, Inc., 1979), pp. 32-36.

3. P.J.D. Wiles, Economic Institutions Compared
(New York: Halstead Press, 1977), p. xi.

4. Ludwig von Mises, Human Action, pp. 19-20.

5. Ibid., p. 18.

6. Ibid.

7. Ibid., p. 210.

8. Ibid.

9. Ibid., p. 211.

10. Ludwig von Mises, Socialism, pp. 131-142.
Mises inserted certain additions on the problem of
calculation in the 1951 English edition, according to
the translator, p. 14.

ll. Ludwig von Mises, Human Action, pp. 703-15.

12. Ibid., p. 705.

13. Ibid.

14. Ibid., p. 706.

15. Ibid.

16. Ibid., p. 708.

17. Ibid., pp. 706-708.

18. Ibid., pp. 710-711.

19. Ludwig von Mises, Socialism, p. 122.

20. Oskar Lange, "The Computer and the Market," in
C.H. Feinstein (ed.), Socialism, Capitalism and Economic
Growth (Cambridge, U.K.: Cambridge University Press,
1967), p. 158.

21. Ibid., p. 160.

22. Ibid.

23. Ibid., pp. 159-160.

24. Ibid., p. 160.

25. Ibid., pp. 160-161.

26. Ibid., p. 161.

27. Maurice Dobb, Welfare Economics and the
Economics of Socialism (Cambridge, U.K.: Cambridge
University Press, 1970 Reprint [1969]), p. 183.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

28.
29.
30.
31.

107

Ibid., p. 184.

Ibid., p. 185.

Ibid.

As far as Dickinson is concerned, perusal of

his post-World War II literature did not show any

reference
32.
33.
34.
35.
36.
37.
38.
39.
40.
41.
42.
43.
44.
45.
46.
47.
48.
49.
50.
51.
52.
Society."
September
53.
54.
55.
56.
57.
58.
59.
60.

[1978] in

to these issues.
Ibid., p. 186.
Ibid.
Ibid.
Ibid.,
Ibid.
Ibid.,
Ibid.,
Ibid.,
Ibid.
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.
Ibid.
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.
Friedrich Hayek, "The Use of Knowledge in
American Economic Review, Vol. 35, No. 4,

p. 188.

190.
190-91.
191.

p.
PP-
p.

191-92.
194.

194—95.
195.

PP-
p.
PP-
p.

196.
196-97.

198.

207.

p.
PP-
p.
p.

 

1945, p. 520.
Ibid., p. 519.
Ibid.
Ibid., pp.
Ibid., p.
Ibid., p.
Ibid.
Ibid., p. 526.

Friedrich Hayek, "Socialism and Science,"
Chiaki Nishiyama and Kurt Leube (ed.), 223

524.
525.

Essence of Hayek (Stanford, California: Hoover

 

Institution Press,

61.
62.

Impossibility of Socialist Calculation,"

1984), pp. 121-22.
Ibid., p. 122.
Friedrich Hayek, "Two Pages of Fiction: The

[1982] in

Chiaki Nishiyama and Kurt Leube (ed.), The Essence of

Hayek, p.
63.

64.
65.
66.

 

56.

Ibid., p. 61.

Ibid., p. 58.

Ibid.

Friedrich Hayek, The Political Order of a Free

 

People (Chicago: The University of Chicago Press, 1979),

108

p. 75. It is the third volume of Law, Legislation and
Liberty.

67. Ibid., p. 76

68. Friedrich Hayek, "Socialism and Science,"
p. 116.

 

CHAPTER V

SECONDARY AND COMPLEMENTARY LITERATURE:
COMPARATIVE ECONOMIC SYSTEMS LITERATURE,
SECONDARY CONTRIBUTIONS, YUGOSLAVIA'S MARKET
SOCIALISM, AND THE SOVIET PRICE SYSTEM

The socialist calculation debate is extensively
covered by most texts in comparative economics because
the topic deals directly with the subject matter of that
field. According to Alexander Eckstein, the debate was
"a theoretical controversy . . . of far-reaching
importance in the study of comparative economics" which
"focused on a range of problems that had a profound
impact on the development of the field."1 The
critical evaluation by some comparative economists of
the socialist calculation debate will be the subject of
the first section.

Allusions to the controversy are found in
surprisingly few texts in welfare economics, contrary to
the expectation that such a topic would have received

2 Even when references

some attention if not emphasis.
are made, the topic is not seriously discussed; indeed,
it is hard to find references in this literature to

3 It seems that welfare economics is more

socialism.
involved with perfect competition and capitalist

109

110
economies than with comparative welfare critera among
various economic systems.

The next section covers some modern secondary
critical evaluations of the debate in addition to the
theory of dual preferences in socialist economies.

The final two sections deal with the worker-
managed market socialism of Yugoslavia and with prices
and planning in the Soviet economy. The treatment is
not extensive but highlights prices, planning, and
institutional elements for the purpose of demonstrating
certain practical alternative insights to the highly

theoretical debate.

5.1 Comparative Economic Systems Literature

 

The critical evaluation by comparative economists
of the socialist calculation debate and the competitive
socialist solutions will be organized around certain
specific central issues.

5.1.1 General Applicability and Practicability
of the Competitive Solutions

 

 

One important issue is the theoretical possibility
as opposed to the practical possibility of socialist
calculation. The majority of economists seem to have
believed that Mises denied both possibilities in a
socialist economy.4 Joseph Schumpeter, who favored
this interpretation of Mises, believed in the

theoretical possibility of socialism and asserted that

111

"there is nothing wrong with the pure logic of
socialism."5 According to Abram Bergson, if this was
the proper interpretation of Mises, then Mises's thesis
is refuted completely by the work of Barone.6
Schumpeter held the same view.7 Schumpeter seemed to
imply that the theoretical possibility of the
competitive socialist solution is accepted and is no
longer a subject of debate.

The other interpretation of Mises, favored by
Hayek, Robbins, and several Austrian economists, was
that there is a practical impossibility of rational
calculation under socialism. Although this view of
Mises was denied by competitive socialists, the issue of
whether socialism could or would work in practice became
a main element of the controversy. Schumpeter stated:
"Can socialism work? Of course it can. No doubt is
possible about that once we assume, first, that the
requisite stage of industrial development has been
reached and, second, that the transitional problems can
be successfully resolved."8

There are different views regarding the practical
possibility and workability of socialist blueprints.
How well would socialism work? Would it merely survive?
Would it be efficient? Would it be more efficient than

capitalism? What is the proper test to determine

efficiency or comparative efficiency?

112

One view held by Schumpeter is that a modern
socialist economy requires a huge bureaucracy, and
consequently the practicability of socialism "should
never be discussed without reference to given states of
social environments or to historical situations."9
Schumpeter believed that the important question is not
"how well or ill" such a bureaucracy will function, for
"there is no reason to believe that it will break down

under the task. "10

This means clearly that the test
of practicability of a socialist blueprint for
Schumpeter is different from the test of efficiency.
Bergson believed that the question of
practicability of the competitive socialist solutions
for Hayek is a matter of the relative efficiency of

socialism and capitalism.11

According to Bergson,
"which is more efficient, socialism or capitalism," is
the only issue that was still outstanding at the end of
the 19405.12

John E. Elliott believed there are some
difficulties in reaching a valid answer to the question
of the practicability or workability of the competitive

socialist solutions.13

(1) These solutions represent
a “prospective, not an actual, economic system";
consequently, their practicability cannot be verified by
testing their correspondence to an existing national

economy. (2) The definition and degree of workability

is not defined. One definition for some economists, in

113

Elliott's View, might be the fact that such an economy
would survive, that it "would not lead to economic
anarchy and chaos, and that the problems of economic
calculation and coordination would be manageable at some
unspecified level of efficiency and success.“ If this
is the case, the competitive solutions would be
workable. (3) If the rules set by the central planning
authorities are followed by the managers, then the
economy would have a "workable basis for rational
calculation of costs and benefits and an efficient,
consumer directed allocation of resources." According
to Elliott, if this is the meaning of workability, then
the competitive socialist solution "would be workable,
just as competitive market capitalism would be workable
if the institutional bases for the enforcement of the
rules, that is, pure perfect competition, existed in
reality."

Concerning the practicability of the competitive
socialist solutions, ideal models should be compared
with ideal models and practical problems with practical
problems as well as ideals with practice.14 According
to Bergson, "participants on both sides of the debate
have erred in failing to observe this elementary

"15 If these rules of critical evaluation had

rule.
been followed, there would have been a more specific,
exact, and thorough comparison between the two economic

systems.

114
To judge how well the competitive socialist
solutions would work in practice, not only economic
factors have to be considered but also political,

16 According

sociological, and psychological factors.
to Elliott, Lange's model suffers from a gap in the
sense that his rules are only economic and are not
supplemented by a "psychologically acceptable and
administratively workable incentive system."17 It
should be noted, however, that the workability of any
competitive socialist solution is a function not of
existing but of future political, sociological, and

psychological factors whose conducivity to the

workability of these solutions is difficult to predict.

5.1.2 Statics and Dynamics

 

A major criticism made by the Austrian economists
against the competitive socialist solution was that it
deals with a static situation which would never exist in
reality. Some critics agreed with this evaluation,
while others did not even discuss the issue.

According to Leeman, competitive socialist
solutions produced models defined in comparative
statics, while an operational model must be dynamic

because most transactions take place at nonequilibrium

18 Another critic claimed that "the

positions.
theoretical foundations of the competitive solution

guarantees at best that an economic optimum will be

115

found and maintained under completely static

19

conditions.“ Any dynamic model for competitive

socialism must take into account expectations of future

20

prices and speculation. The concept of innovation

must be materialized according to definite rules in any

dynamic and operational model of competitive

socialism.21

A high priority in competitive socialist solutions
must be given, consequently, to "making quick and

accurate responses" to imbalances of demand and

22

supply. Furthermore, the less bureaucratic and the

shorter the chain of command regarding price changes,

"the more flexible prices are likely to be," which

implies a shorter path toward equilibrium.23

Even more sympathetic evaluations of the

competitive socialist solution admit that it deals with

Liv:

a. static economy. One assessment of Lange's model is
that it "succeeded in demonstrating the compatibility of

efficiency and socialism in a static world in which

"24

managers follow the rules. It seems that the

evaluation of the competitive solutions as static does
not disprove that they constituted a refutation of
Mises's thesis:

Lange--with Taylor, Lerner, and Dickinson--
made one major contribution to the theory of
socialism. He demonstrated beyond the shadow
of a doubt that through trial and error
scarcity prices could be found in a socialist
economy and that rational decisions in
response to conditions of scarcity could be

116
made in such a system. Beyond that, his model

is essentially a formal exercise in
comparative statics.

5.1.3 The Rules Imposed on Managers

 

A number of critical evaluations centered around
Lange's cost or managerial rules, specifically with
regard to feasibility, applicability, and/or managerial
adherence.

One problem with the application of Lange's two
cost rules concerns price determination in declining
cost industries. If Lange's rules are followed and
prices are adjusted as a function of inventory
movements, the result in a declining cost industry could

be perverse.26

If the price in such an industry were
tentatively set higher than the marginal cost at its
point of intersection with the demand schedule, a supply
deficit would take place, and there would be a decline

in inventories.27

According to Lange's
trial-and-error process, prices should be increased
whenever there is a decline in inventories; thus, the
central planning authorities are supposed to raise the
price to guarantee a larger output, which would
effectively worsen the situation.28

Another problem is the lack of managerial rules
dealing explicitly with externalities. The managers in
Lange's model are plant and industry managers, not

"economy” managers.29 According to one view, even if

117
Lange's rules were followed, economic efficiency would
not be guaranteed "unless private and social costs and

benefits always coincide. "30

This requires the use by
the central planning authorities of additional rules,
including proper taxes and subsidies, to ensure that any
potential external effects are internalized.31

Regarding the possibility of replacing Lange's
rules by a single one, as suggested by Lerner, Leeman
proposed that, instead of the MC curve, the central
planning authority could use a CMF curve (cost of the
marginal quantity of factor), defined as "the cost of
the marginal unit of output in terms of the quantity of
factor in input required, with this input valued at

factor prices."32

Leeman suggested the use of a
"modified" rule, namely, extending production to the
point at which the "cost of the marginal quantity of

factor" is equal to price.33

According to Leeman,
this single rule replaces the one of Lange which calls
for production at the point where marginal cost and
price are equal and, in addition, replaces Lange's rule
of production at minimum average cost as long as it is
assumed that "the incremental factors employed are the
minimum necessary to produce the output and that they
are obtained at the minimum possible price."34
Furthermore, Leeman asserted that this single rule would

also replace Lange's requirement that plant and industry

managers behave as if prices are given because such a

118

rule would cause managers to ignore their influence on
factor prices as well as on product prices.35

Leeman defended the rationale for using this
single rule (produce at CMF = P) and stated there are
two reasons for preferring it to Lange's rules:36
(1) When CMF = P everywhere in the economy, a Pareto
optinwmm is achieved. Under special conditions, a
competitive equilibrium is a necessary and sufficient
condition for a Pareto optimum, and, at a competitive
equilibrium, CMF = P. Leeman claimed that many
economists believe that if this rule is imposed on
managers throughout the economy, whether monopolists or
perfect competitors, and whether their costs are
increasing or decreasing, a Pareto optimum will result.
Nevertheless, Leeman admitted that it has not been
established in reality that the application of this rule
throughout the economy would produce a Pareto optimum.
(2) The more plausible argument is the contention that
the "cost of the marginal quantity of factor" measures
the opportunity cost of producing the good.

5.1.4 The Supervision and
Reward of Supervisors

 

 

The most predominant view among economists seems
to be that Lange's model did not offer any procedure for
the central planning authorities to supervise the degree

37

by which the managers follow the rules. According

to Melinkovitch, Lange's assumption that managers would

119

do so cannot be accepted and is equivalent to assuming
efficiency at the enterprise level in a capitalist
economy.38 Such an assumption cannot be accepted
"without empirical or theoretical justification because
it has important implications for the conclusions."39
Another critic, Holesovsky, did not discredit moral
incentives and sense of community and professional
ethics as a managerial driving force; however, he
questioned their dependability under advanced industrial
conditions.40

If there is self-interested behavior on the part
of some managers, then they might be induced away from
following the rules. Managers could exert some indirect
control over output targets set by the central planning
authority by manipulating the information regarding
their own production requirements and capacity which
they send back up the chain of command}1 Managers
could also influence the effective price set by the
central planning authority by varying quality.42 An
oligopolist manager, by producing less output at a
slightly higher price than the marginal cost, could
influence the other oligopolists to follow suit; the
central planning authority would receive this
information and raise its price, and in this manner the
managers would have indirectly extracted some power from

43

the central planning authority. In their pursuit to

gain more monopoly power, some firms in Lange's economy

120

44 According

might resort to product differentiation.
to Carson, the central planning authority could control
both undesirable production differentiation and quality
reduction by "enforcing a detailed list of product
specifications."45 However, he admitted that "general
guidelines" would be preferable because the detailed
list would cover a huge number of products, require a
huge bureaucratic body to enforce, be costly, and might
have adverse effects on technological advancement.46
Carson concluded that much of the functioning of any
competitive solution "must remain a matter of academic
speculation"; however, he believed that "inefficiency"
resulting from certain problems would persist.47

What is lacking, then, in competitive socialist
models, particularly Lange's, is a system of reward and
punishment for managers and a system to monitor
managerial behavior. Some dedicated managers would
follow the rules, but for others even a system of moral
or material incentives might not suffice; the central
planning authority needs a simple criterion by which to
measure managerial success.48 It was argued that such
a criterion could be profits, which would be the

49

immediate success indicator of managers. According

to Elliott, such a measure would be conducive to
following Lange's cost minimization rule and would
encourage the pursuit of Lange‘s second rule

50

(MC = P). Another critic believed that if the

121
profit incentive for managers is applied, then the

social investment with which the managers are entrusted

51 Profit as a test of

52

will increase in value.
managerial success suffers from some drawbacks:
(1) Managers of decreasing cost industries would be
compelled to violate the managerial rules, since
following the "P = MC" rule means losses. (2) Large
firms could act like monopolists by restricting output
to make large profits, which would violate the cost
rules.

According to Bergson, the question of managerial
incentives would not pose serious difficulties provided
that the issue of supervision and controls could be

53 He further asserted that

satisfactorily resolved.
once a proper policy of reward and punishment is
followed by the central planning authority, the managers
would find themselves in a climate in which they would
properly evaluate the risks involved in any action they

would take.54

5.1.5 Other Issues of the Debate

 

First, there was criticism of Lange for his
failure to incorporate a "good investment rule" in his
model. According to Leeman, a "good investment rule"
should apply investments whenever the present value of
their net income is positive, provided that uncertainty

55

is absent. The central planning authority could use

122

this investment rule as a success indicator of
managerial behavior.56

A second element found to be lacking in Lange's
model is the sufficient information necessary to
"determine an exact social preference function."57
According to Carson, this function has to accomplish two
basic tasks.58 (1) It must express the national
priorities of the central planning authority. (2) It
must express the pattern of aggregate demand for goods
and services, "including leisure and capital goods which
actually emerge in the economy plus the actual
distribution of welfare in the system." Without such a
use of a social preference function, the central
planning authority's priorities would not be "translated
into demand-and-supply votes that guide economic
activities of industries, firms, and households," which
could prevent its social goals from being translated
into reality.59

Third, regarding whether some economic categories
such as rent, interest, and profit should be used in a
socialist economy, Schumpeter asserted that their use
does not mean that socialism emulates capitalism: "Our
socialism borrows nothing from capitalism, but
capitalism borrows much from the perfectly general logic

of choice."60

Schumpeter explained his position,
using "rent" as an example, and asserted that such

consideration does not mean that rent should be actually

123

paid to landlords.61

Any kind of land that is "not
plentiful should be allocated efficiently which requires
an index of economic significance with which any new use
must be compared and by means of which the land enters

the social bookkeeping process."62

Schumpeter
asserted that if the central planning authority were to
ignore such a category it would be behaving
irrationally. He believed that "no concession to
capitalism" would be implied because all the economic
and sociological association of ground rent in
capitalism would have been removed.63

Some economists believed that the central planning
authority could or would be able to contribute to the
smooth functioning of the socialist economy. The
socialist managers have to deal with much less
uncertainty than their capitalist counterparts since, it
was believed, the actions of one manager would be known
to other managers through the central planning author-

64

ity. That authority could, to a great extent,

reduce uncertainty by acting as a "clearing house" of

65 The

information and as a coordinator of decisions.
better the relations between the "center" and the
"periphery" (firms and industries), the easier it is for
the center to obtain information from the

periphery.66

In a socialist economy, these relations
would be "amicable," resulting from "community and

cooperative relations," whereas in a capitalist economy

124
they are characterized by antagonism and conflict
resulting from competing self-interests.67 In regard
to the ends that the socialist economy sets, Bergson
asserted that "any particular optimum conditions are
relevant only in contexts to which the corresponding

"68 According to Bergson, the

ends are relevant.
condition that the marginal value productivity of a
factor must be the same in every use could be formulated
regardless of whether the marginal rates of substitution
are those of the consumer or of the central planning

69

authority. He concluded that socialist economic

calculation is valid "no matter whether the principle of
consumer sovereignty prevails or not."70

Elliott criticized Hayek for proposing the goal of
allocational efficiency as the central purpose of
socialist planning and the "basic criterion for his
critical evaluation of the prospective success of

I c O l
soc1a11sm as an economic system."7

According to
Elliott, Hayek implied this when he identified
allocational efficiency as a "formal problem of methods"
applicable to all economic systems and when he asserted
that the basic question of the critique of socialism is
the possibility of successful p1anning.72 Bergson
believed that in reaching any conclusion about
comparative efficiency "it is necessary to agree on the
test of efficiency, on the ends according to which the

optimum allocation of resources is to be defined."73

125

5.2 Secondary Contributions:
Drewnowski, Ward, Lavoie

 

 

The socialist calculation debate recently received
renewed interest when several economists offered new
interpretations (n: advanced new solutions to the
calculation problem. Some of these contributions merely
reiterated the arguments advanced in the 19303, whereas
others suggested a genuine reinterpretation of the

debate and its elements.

5.2.1 Drewnowski's Dual Preference System

 

According to Drewnowski, Lange offered a "decen-
tralized decisions" approach that was an alternative to
the "centralized decisions" approach CHE Pareto and
Barone.74 Although Drewnowski claimed that "Mises, as
everybody agrees now [1961], was wrong in his main
contention that economic calculation under socialism is
theoretically impossible," be criticized the competitive
solutions, particularly Lange's, because their "premises
were never based on existing conditions."75

Drewnowski asserted that his alternative to
Lange's approach starts from analyzing the existing
socialist systems. Ini any national economy, in
Drewnowski's view, there are two sets of preference
functions: the single "state preference function," based
on consumers' desires as determined by the state, and
the multiple system of "individual preference

functions. Whereas the capitalist system,

126
ostensibly, was able to base its economic theory on only
individual preferences, the economic theory of socialism
cannot be understood and analyzed without the
interaction of both.

According to Drewnowski, the state preference
function may be considered as a special case of the
general welfare function, although the latter was never
treated in the literature of welfare economics along the
lines he suggested.77 By incorporating the state
preference function in the general welfare function, he
departed from most market socialists, not to mention
Austrian economists, who stressed consumer sovereignty
and denied any role that the state could play in this
regard.

In Drewnowski's state preference function, first,
the scale of values is that of the state stemming from
the state's authority rather than being an ethical
choice. Second, it deals with nmmsurable quantities
existing in the national economy. Third, this function
is observable and can be "revealed" by the state's

78 According to Drewnowski, the "effective

actions.
preference functions," defined as those based on "actual
decisions and actions," are the only preference ones
that could be revealed and, consequently, should be

utilized in economic analysis.79

Consequently, the
state preference function is effective, in Drewnowski's

view. He asserted that consumer's preference functions,

127
although "revealed" through market behavior, are "ex
post" phenomena, whereas the state preference function
is constructed from "declared targets of policy," which

are "ex ante. "80

Drewnowski was trying to demonstrate
that planning, as manifested by the state's preference
function, is a more viable alternative to the "ex post"
demand of goods and services which is "supposed" to be
derived from consumers' preferences in capitalist
economies.

Drewnowski pointed out that the socialist plan
determines the "ex-ante" equilibrium of the system;
consequently, the "point of equilibrium must be on the
production possibility curve," assuming that the plan is
feasible and all resources are fully employed.81
However, since the plan is "coordinated" and adopted, it
not only is technically feasible but also fully employs
all resources, and in addition its targets correspond to
the preferences of the state. Consequently, the
"coordinates representing the targets" determine a point
on the production possibility frontier that is none

other than the point of equilibrium,82

determined by
the production possibility and the preferences of the
state, and as a result the rate of substitution between
any two "state goods" could be revealed. Drewnowski
described those "relative shadow prices" as the "state
preference prices," and they constitute a "price system"

83

that is in accord with plan targets. These are

128
"relative prices" that could be converted to "absolute"
ones by expressing them in any arbitrary unit the
planning authority might choose. Once this is
accomplished, the sum total of values of all goods and
services becomes a value of national product, which
could be called the "state preference national product"
to distinguish it from the commonly used
terminology.84 Drewnowski asserted that the state
preference function and, generally, any single
preference function could be quantified, whereas
numerous individual preference functions, which do not

85
share a common measure, could not.

He suggested
that the socialist state declare "not the production
targets but the shape of the function [preference

function] itself."86

The planning authorities could
determine the production targets by "confronting the
preference function with production possibilities," an
improvement on the "present" planning system because it
requires an "internally consistent model" of the
national economy.87

Drewnowski next considered the interaction of the
state and individual preferences and classified it along

88 "state influence," in which the state

three "zones":
preferences are supreme; "individual influence," in
which preferences of consumers are dominant; and "dual
influence,” in which both preferences meet.89

According to Drewnowski, capitalism is considered to

129
belong to the zone of individual influence, but under
the existing capitalist economy there also exists "some
state zone and a quite significant dual-influence

zone."90

Furthermore, due to the rigidity of economic
institutions stemming from existing relations between
private property and production in a capitalist economy,
the boundary lines between these zones are quite stable.
Drewnowski asserted that capitalist economies have
changed in the sense that the state and dual influence
zones have expanded at the expense of the individual
zone, although this process has been "slow and painful,“
but the economic theory of capitalism still takes the
institutional framework as given "without examining the
consequences of its changes."91

According to Drewnowski, "socialism may be defined
as a system in which the national economy is divided

"92 A

between the state- and the dual-influence zones.
socialist system could fall anywhere between the
"limiting case in which the whole national economy is in
the state zone and that in which the state zone is not
much more extensive than in capitalism."93 In
Drewnowski‘s view this leads to different versions of
socialist systems in which changes from one variant to
the other could be carried out easily and promptly since
socialist systems, unlike capitalism, do not have rigidi-

ties in their economic institutions.94

130

Drewnowski started with the limiting case of a
national economy in the state influence zone.
Consumers' preferences are unimportant, and the only
"restraints are natural resources and technology," in
this case roughly corresponding to the Soviet "war
communism" era.95 This represents the "familiar
theoretical dictatorship model" in which production and
distribution are determined by the state and there is a
"full-rationing system," which Drewnowski described as
the "case of no market economy."96
Drewnowski next classified three variants of
socialist economies, each differing in its emphasis on
the market. The "first degree market economy" is
characterized by markets for consumer goods and
state-determined quantities of products bought and sold,
but prices determined by consumer demand based on
consumers' tastes.97 Compared to the limiting case of
complete state influence, in the first degree market
economy consumer goods are distributed under the dual
influence zone. According to Drewnowski, in this model
"consumers' preferences (strictly, consumers' demands)
influence prices and the distribution of goods only,"
whereas production, distribution, and resource
allocation of all goods are determined by the state.98

This case corresponds to a very typical socialist

economy.

131

The "second degree market economy" transfers more
economic variables from the state to the dual influence
zone. According to Drewnowski, these economic variables
include the "quantities produced of particular consumer
goods, the quantities of resources (excluding new
investments) used in their production, and the
distribution of resources among particular plants."99
However, the aggregate quantities of consumer goods and
resources and capital equipment producing them are still
determined by the state. In this model, the whole
consumer goods sector will be subject to profit
maximization, which along with consumers' demands will
determine the particular quantities of goods, resources,
and capital equipment in this sector. Drewnowski
claimed that the principle of profit maximization will
ensure the "rational distribution of resources and the
production of rational quantities of particular

goods."100

This model corresponds to
"decentralization reforms" and "model reconsiderations"
which were taking place in the early 19608 in the
socialist economies.101

The "third degree market economy" exists when
decisions of new investments to be assigned to
production of specific consumer goods is transferred
from the state to the dual influence zone.102

Drewnowski believed that different variants of socialist

economies could be achieved by the transfer of certain

132

labor markets or specific subsectors from the state to
the dual influence zone.103

According to Drewnowski, when the socialist
economy is characterized by the dual influence of the
state and the consumer, it will have two independent
sets of prices resulting from the preferences of
each.104 Both price systems are "rational," with one
used among state enterprises and for national accounting
and the other applied in consumer goods' markets.105
The "coexistence" of both systems of prices, in
Drewnowski's view, "must be a characteristic of a

106 Drewnowski

rationally managed socialist economy."
attempted to lay a basic platform for a "realistic
theory of a socialist economy" in effect deduced from
the accumulating socialist economic experience. He was

not trying to advance a new economic theory of

socialism, as were the competitive or market socialists.

5.2.2 Ward's Evaluation of the Debate

 

Benjamin Ward believed that the debate "formally
ended" with the summary of the issues advanced by Abram
Bergson in his 1948 article, "Socialist Economics."107
According to Ward, the controversial question of whether
a socialist economy could "find some method of
organizing the allocation of resources which will permit

the ,economy to function with a tolerable degree of

efficiency“ is at the heart of the socialist calculation

133

108

debate. Ward asserted that, at present, "many,

perhaps most, economists" would answer this question in

the affirmative.109

Ward explained the renewed
interest to be partially due to "recent developments in
economic analysis" and the rise of a variety of
socialist systems "whose efficiency and desirability may

"110 Furthermore, he criticized the

be contrasted .
participants of the debate for referring exclusively to
capitalist rather than to socialist experience to

111 What is of interest in

support their positions.
this study, however, is Ward‘s critical evaluation of
the debate and his conception of its mid-19603 stage.
Ward criticized Barone for assuming, without
justification, given technologies and individual
preferences and for treating them as "mutually

112

independent." Furthermore, he accused Barone of

limiting the socialist-capitalist contrast to the sphere
of capital goods by "assuming market allocation of labor

and consumer goods . "113

According to Ward, Barone did
not explain the "exact adjustment procedure" that the
Ministry of Production should follow in order to attain
its stated end of maximum collective welfare.114
Nevertheless, Ward asserted that Barone's solution was
the first explicit demonstration that "prices are not
conceptually bound to the institutions of the

market."115

134

Ward claimed that Lange's solution "appears to
have added only details" to the arguments of Barone and
Taylor and that Lange was dealing with the same environ-
ment and the "same interpretation of the socialist
criterion" as Barone.116 Ward believed that Lange's
solution dichotomized the market for consumer goods in
the sense that these goods are produced "according to
one price system but allocated to consumers by

another."117

Consequently, their production need not
follow consumers' preferences but can follow those of
the state. Ward criticized Lange for only indicating
his fear of the bureaucratization of economic life under
a socialist system rather than elaborating on the
"organizational problems of socialism."118

Ward's evaluation of Hayek's contribution was
confined to the latter's 1935 essay, "The Present State
of the Debate," and concentrated on two important

119 The first is the role of

arguments raised.
information in resource allocation, in which regard
Hayek doubted that the diversified and complex
information needed by the central planning authority
could in reality be collected. The second argument that
Hayek added, according to Ward, concerns the role of
managerial risk-taking and the unwillingness of
socialist managers to assume risk since they could not

reap monetary profit. Ward asserted that the second

argument gains importance because it is "one of the few

135
propositions in the socialist controversy [debate] which
relate changes in organization to changes in
behavior."120
Ward maintained that the debate apparently
demonstrates there are "no clear-cut answers about the
feasibility of the socialist form of economic

"121

organization. According to him, there were a

number of gaps in the arguments of the debate
participants. Ward described these "gaps and failures"
from the viewpoint of "contemporary economics" as of
1967, the time he advanced his evaluation.

Ward asserted that the participants ignored the
problem of convergence, particularly at the general

122

equilibrium level. In every market adjustment

process, "either price or quantity or both are varied in
response to changes in the environment."123 Ward was
alluding to the failure of the participants to dwell on
the adjustment process, to define which variab1e(s) is
adjusted, and to prove that once an equilibrium point is
achieved there is no tendency to move away from this
point unless conditions change. According to Ward, the
problem is much more complicated when dealing with the
"stability and convergence properties of general

124 He asserted that such models

equilibrium models."
converge if all goods are gross substitutes, whereas
some goods are, in reality, gross complements, which

could render any general equilibrium model

136
nonconvergent.125 Furthermore, Ward claimed that in a
"choice-decentralized economy" like that of the
competitive socialist version, exchange would take place
at nonequilibrium prices during the course of adjustment
within a general equilibrium framework.126 In a
"choice-centralized," or collectivist socialist economy,

and within a general equilibrium framework, Walrasian

t3tonnement might well be applied, which means that

 

exchange would not take place until the calculated
"optimal plan for quantities and prices" is arrived at a
priori.127

Ward asserted that wherever there are external
effects, such as "interdependencies in tastes or
technologies among decision units," the socialist as
well as the capitalist imputation schemes break

128

down. Ward believed that, as yet, no general

solution for dealing with external effects has been
demonstrated; such a solution would require a large
number of equations. According to him, the problem is
greatly complicated under a socialist economy because it
requires decisions made for whole groups, which is
different from a capitalist economy.129

Ward also criticized the participants for omitting
"the effect of organizational change on the rate and

"130

nature of innovation. The whole debate, in Ward's

view, followed a static framework that, inevitably,

131

treated innovation as exogenous. Ward stressed the

137
need to study the interactions between organization and
economic behavior and, consequently, compared and
contrasted the organizational forms of three diversified
socialist economies. He criticized the participants for
considering the economic organization only "as a means
to an end of demonstrating connections with economic

outcomes."132

5.2.3 Lavoie's Contribution

 

Central to Don Lavoie's interpretation of the
debate is the notion of "economic rivalry," which he

"133

defined as the "clash of human purposes. Lavoie

believed that there was a "confusion" among participants

134 The

between two opposing views of "competition."
first was the "rivalrous competitive process" of the
Austrian school, and the second was the neoclassical
view of a "nonrivalrous, static, competitive

"135 The classical economists stressed

equilibrium.
the harmonious role of the market in reconciling the
clashing self-interests of its constituents, which would
be to the benefit of all. In contrast to this view,
Lavoie asserted that the Austrian notion of rivalry
admitted the unharmonious nature of competition in which
some market participants are squeezed out by their
rivals and some plans are necessarily aborted by the

136

rival plans of others. Lavoie further claimed that

although rivalry in the market, from both the classical

138
and the Austrian perspectives, results in a beneficial
outcome in "the form of a spontaneous order of plan
coordination," the Austrians did not claim that "this
process achieves anything like the perfect coordination"
of modern equilibrium models.137

From a Marxist perspective, rivalry is "an
inherent aspect of the market economy and the price
system," and it would disappear in a socialist economy
in which central planning would be a "nonrivalrous
remedy" that "precoordinates productive plans" of the

society.138

According to Lavoie, "Mises's challenge
can be seen as an argument for the necessity of a
particular kind of rivalry to achieve complex social
production" and as an assertion that this Austrian form
of rivalry is "an ineradicable element of social

cooperation of advanced production."139

According to
Lavoie, the "nature of decision making in economic
production" is so intricate that "not a single mind
could fathom its complexity given the fact that numerous
plans are necessarily interdependent and have to be made

simultaneously.140

The entrepreneurial market process
"requires certain forms of rivalrous activity" which
"generates the continuously changing structure of
knowledge" necessary for efficient resource allocation;

this knowledge is "created in a decentralized form" and

is diffused through the price system to coordinate

141

various decisions in the market. Lavoie claimed

139

that Mises implied "there is no way . . . in which this
knowledge can be generated without rivalry--that is, if
all production plans are constrained in advance by being
precoordinated under a single plan."142

After explaining the Austrian notion of economic
rivalry, Lavoie claimed that the "neoclassical paradigm,
represented by the market socialists," while admitting
the role of prices as a guide in resource allocation,
failed to consider that market prices are consequences

143 This stems out of market

of this rivalry.
socialist models having a static competitive economic
equilibrium nature that ignores economic rivalry and
uses a centralized hypothetical auctioneer to adjust
prices. Lavoie claimed that the market socialists, by
employing this increasingly indefensible neoclassical
price adjustment model in explaining actual market
behavior, gave more plausibility to modern Austrian
economists' criticism of the theories of central

planning.144

Lavoie seemed to imply that the market
socialists constructed their models by borrowing
irreconcilable elements from both the Marxist and the
neoclassical paradigms.

Regarding the wide support that was given to
Lange's solution by those in the economics profession
who considered it a refutation of Mises's thesis, Lavoie

tried to demonstrate that these were mistaken

conclusions. Those prominent economists, like

140
Schumpeter and Bergson, received neoclassical training
and consequently advanced interpretations of the debate
that were in line with the neoclassical tradition of
Walras and Marshall, which is completely different from
the intellectual background of Mises, Hayek, and

Robbins.145

Furthermore, Lavoie seemed to accuse the
"early" Austrians of being purposefully lenient in their
criticism because they were eager to "embrace
neoclassical economists as marginalist allies against
the threat of resurgent classical value theory in the

form of Marxism."146

Such reasoning implied that the
neoclassical economists and the competitive socialists
were in complete harmony, as if they subscribed to the
same paradigm.

Lavoie thus offered an "alternative account" of
the socialist calculation debate. First, contrary to
most Austrian economists, he pointed out that although
Marxists avoided postulating the workings of the future
socialist economy, nevertheless a "very definite idea of
their concept of central planning" is apparent from
their critique of the chaos of the market economy and
capitalist mode of production.147 Next, Lavoie
claimed that Mises denied not the "pure logic of
socialism" but that central planning could efficiently
and rationally apply such logic under public ownership

148

of the means of production. Lavoie found that

Barone's solution failed to answer Mises's challenge in

141
the sense that Barone "simply established the formal
similarity between socialism and capitalism under static

149 Lavoie redefined the Austrian's

conditions."
retreat from a "theoretical" to a "practical"
impossibility of socialist calculation as simply a
"clarification" made by Mises and aimed at "redirecting"
the challenge toward the socialist competitive

150 These latter, in Lavoie's view, were

solutions.
based on emulating the "perfect competition" model which
could operate only under static conditions and which
does not explain the mechanism of dynamic price
adjustment. Consequently, Lavoie concluded that Lange's
model was far from representing an answer to either
Mises's challenge or to the Hayek-Robbins argument.151

Lavoie reformulated the main contention of Mises
to be based on a theoretical framework contrary to the
market socialists' interpretation. Lavoie believed that
Mises's essay was “theoretical" in the broad sense of
being a "general analysis of the implications of
centralized ownership of the means of production for a
modern economy," not in the "narrower" neoclassical
sense of dealing with the "pure logic of choice."152
Lavoie also claimed, conforming to his central theme of
rivalry, that Mises used "competition" to reflect the
"dynamic struggle among active entrepreneurs" in their

capacity as "price makers," as opposed to the

neoclassical understanding of "competition" which

142

153 Redirecting

assumes firms to be "price takers."
the argument of Mises, Lavoie asserted that Mises did
not address the neoclassical problem of resource
allocation but rather was concentrating on the basic
problem of socialist central planning, that is, the
centralization of all relevant knowledge in a "single

154 This claim was

mind,“ which could never work.
derived not from Mises but from Hayek, who described the
"centralization of knowledge" as the "central question
of all social sciences."155

Finally, Lavoie turned his attention to the
"imputation problem"; he claimed that the competitive
socialist solution did not resolve this issue and
doubted that an evident solution could be forthcoming.
Lavoie did not specify whether he was "doubting" the
theoretical and/or practical possibility of finding a
solution to the imputation problem. According to Lavoie,
Austrian and neoclassical economists disagree on the
process by which "producer evaluations are ultimately
derived from consumer evaluations," with neoclassical
market socialists assuming that technology is given and,
hence, capital goods could be evaluated once the
different demand and supply schedules become known.156
Lavoie asserted that Austrian economists view the whole
process as a highly intricate problem "continuously
facing entrepreneurs," one which is solved by rivalrous

157

competition. Pricing of capital goods in a market

143
economy is thus approximated indirectly and
unconsicously by these entrepreneurs. Concluding the
implications of such a View on the possibility of
rational socialist calculation, Lavoie claimed that only
through competitive entrepreneurial rivalry could
unconscious factor evaluation be carried out, and once
the entrepreneur is removed from the market, he could

not assign values for his factors.

5.3 Worker-Managed Market Socialism

 

"Market socialism" refers not only to what
developed out of the theory of competitive socialist
solutions but also to another economic theory of
socialism, the "worker-managed socialism" existing in
Yugoslavia. This system was gradually developed in
Yugoslavia as an alternative to the socialist experience

of the Soviet Union, in part as a result of the conflict

158

between Tito and Stalin. The Yugoslavs began the

development of workers' control in a communal economy,

and the system was established by the economic reforms

159

of 1965. Benjamin Ward was the first to

160

investigate these developments in Yugoslavia and

the first to introduce a simple model of the

161

worker-managed enterprise. The worker-managed

economy has dual "philosophical origins represented in

"162

the writings of Proudhon and Gramsci. From

Proudhon, the Yugoslavs adopted the central concept of

144
production for exchange through the market, given the
condition that every member of the society has an equal
share of social wealth and equal conditions for produc-

163

ing it through equal access to capital. Gramsci

considered the division of labor necessary and believed
in the centrality of production to human life.164 He
stressed the participation of workers in all economic
decisions by sending elected delegates to industrial,
regional, and, finally, national councils, where the
national economic plan is prepared.

By definition, a "working collective" in the
worker-managed economy is a "profit-sharing firm in
which the elected representatives of all employees come

165 This council

together to form a workers' council."
decides the basic goals of the enterprise, the basic
production methods, and the prices and quantities of the

166 Furthermore, it

different goods it produces.
approves the investment plans of the collective, fixes
wages, makes the final decisions as to hiring and firing
of workers, and "has a voice in the disposition of the

167 The total profits

net earnings" of the collective.
of the "workers' collective" or the enterprise are
divided into a taxed "wage fund" and nontaxed "internal

funds."168

The former is used to pay employees,
whereas the latter includes "the investment fund,"
covering investment from retained earnings; the

"collective consumption fund," covering workers'

145
housing, among other things; and the "reserve fund."
Furthermore, Yugoslavia has several minimum wages for
various labor skills and positions which the collectives

169 Without

must honor even when profits are low.
additional rules governing the internal policies of the
collective, several potential problems stemming from
workers acting as self-interest-driven individuals might
arise. In such a system, workers may undesirably
disinvest by channelling profits to the wage fund from

the investment fund. 170

They might resist employing
additional workers for fear of having to divide the wage
fund among more workers, thereby reducing their own
personal shares.171

Regarding the industrial structure of the Yugoslav
economy, decentralization of decisions enables the
working collective to create autonomous units or join
other collectives to form larger organizations.172
Consequently, the optimum structure of industry is
determined by the market, and it varies from one sector
to another. In addition, the industrial structure
depends on the entry and exit of firms into an industry.
The government and judicial authorities play an impor-
tant role in determining the degree of entry and exit
and rely on antitrust law, although they prefer the use

of "social influence" to formal controls.173

The
collective is controlled by the workers, but the plant

and equipment used by it, or more precisely the means of

146
production, are socially owned and constitute "social

capital."174

The "right of decision" regarding the
property of the means of production is shared between
the working collective and various governmental
units.175 It is worth mentioning that a local
governmental unit, the "commune," shares with the
workers' councils the power to appoint the management of
the working collectives.176

The price system was developed in concert with the
evolving system of worker-managed market socialism,
alternatively referred to as "self-managed" socialism.
After a brief period of fixed prices administered by the
central planning authorities, the gradual application of
a "worker self-management" economic system necessitated
the liberalization of prices in the early 19503.177
The trend toward decentralization of decision making and
reliance on the market was finally culminated in the

1965 Reform.178

It aimed at freeing most prices, as a
long-run goal, and included a "radical readjustment of
the internal price structure to conform more closely

with world market prices."179

Consequently, the
principal criterion in determining the prices of
industrial goods was world market prices; 12 percent was
determined by the average domestic cost of production,
whereas 21 percent was left to be determined by the

180

market. These policies severely restricted the

role of the state, particularly its ability to conduct

147
fiscal policy and successfully carry out development
plans. Furthermore, it caused serious economic and
social problems, the most important of which were market
instability, strong inflationary pressures, unemployment
and the resulting labor migration to Western Europe,
import dependency, resource misallocation, and income

181

maldistribution. As previously mentioned, the

reforms also created the danger of monopoly and
monopolistic competition on the part of the enterprises
in certain sectors of the economy. The problem facing
economic policy makers was a subset of the broader
problem of trying to reconcile capitalist ideology and
its market manifestation with the Marxist-Leninist
ideology and its accompanying public ownership of the
means of production and central planning. The continued
liberalization of the Yugoslav economy and its
increasing dependence on world markets, on the one hand,
and the satisfaction of public ownership of the means of
production, equitable income distribution, and economic
growth and stability, on the other, were not
complementary policies, to say the least.

With the growing problems facing the Yugoslav
economy, a system of "social planning," emanating from
various government organizations, was adopted to counter
the worker "self-management" system coming about from
the autonomous and competing working collectives and

182

enterprises. It seems that after a period of

148
relative liberalization of the economy to conform to
world trade prices and market forces, the Yugoslavs
reverted to a system of indirect control of prices
characterized by various legislative and institutional
price controls. In 1972 the Social Price Control Act
ensured "a greater influence of economic laws on all

183 A11

processes of social and economic development."
these new acts signaled the disenchantment on the part
of the Yugoslav political leadership with the concept of
the liberalization of the economy. In fact, by the end
of the 19703, prices determined by market forces applied
only "to products that do not have great impact on
industrial production or the cost of living."184

With these transformations in the Yugoslav
economic system, it became necessary to subject the
factors of production to different rules of economic
accounting. The services of the socially owned capital
goods were freely provided for enterprises prior to
1954. However, a tax which amounted to a "price" for
this factor of production was later imposed.18S In
addition, bank loans borrowed by enterprises carried an
interest rate that varied depending on the economic

186

sector and goals governing price policy. The

income generated from the operations of the working
collective was subjected to a profit tax.187

Different forms of rent, as a "price of monopoly," were

taxed, particularly forms of land, mining, and urban

149

rent.188 It should be noted that a substantial part
of the nonlabor income (interest and rent) is heavily
taxed and used for capital accumulation purposes.189

All returns to factors of production (minimum
wages, profit, rent, and interest) enter into the
accounting systems of the enterprise, local governments,
the communes, and the federal government. The
diversified taxing system and the different
institutional regulations (minimum wages, different
interest rates, and so on) are reflected not only in
product prices but also in factor prices. For instance,
after the introduction of profit and capital tax,
capital cost "drastically“ increased.190

This "economic calculation" was taking place under
the public ownership of the means of production and
without the free operation of the market economy. Mises
spoke of the impossibility of rational economic calcula-
tion under a socialist system with public ownership of
the means of production. There is, therefore, economic
calculation in the socialist economy of Yugoslavia, but

is it "rational"? This question will be dealt with in

subsequent chapters.

5.4 Prices and Planning in the Soviet Economy

 

It is very difficult to understand Soviet price
formation without dealing with the aims of the central

planning system. Its objectives fall into two basic

150
categories: rapid economic growth, particularly
industrialization; and centralization, or more
specifically, "centralized planning and centralized

"191

control of economic activities. These basic

objectives shape the economic system and give rise to
the following description.192 It is a socialist,
command, pressure, priority, extensive development, and
closed economy. In a socialist or social ownership
economy there is public ownership of the means of
production, although this is also an independent goal in
itself. The "centralized bureaucratic management of the
economy, with detailed physical planning and supply," is
termed the "command economy." The "pressure economy" is
defined as the "emphasis on a high rate of forced
savings at the macro-level; and on taut planning of
outputs, inputs, and inventories at the micro-level."
The "priority economy" reflects the preferences of
central planners for particular priorities: "primacy of
industry over agriculture, producers' goods over
consumers' goods, and of material goods over services -
except for high priority of education, especially
technical education of the labor force," as asserted by

Brown and Neuberger . 193

"Extensive development" is
defined as "output oriented planning, with stress on
ever-increasing quantities of output, achieved with

massive infusions of labor and capital inputs." The

"primacy of domestic economic considerations of foreign

151
trade, foreign trade plans being merely addenda to
domestic plans," yields the "closed economy," which is
in itself an independent goal.
Such a huge and complex economic system requires a
"vast and interconnected body of planning instructions
concerned with output and input, organically related
plans for production and supply [input]," in order to
implement the diversified targets and objectives of the

planning authority. 194

In such a system, the role of
prices becomes completely different than in a
non-centrally planned economy. In contrast to
capitalist and market socialist economies, Soviet prices
are not an "autonomous force determining" various
economic activities but rather serve the function of
achieving centrally planned economic targets.195
Consequently, it becomes a logical necessity for Soviet
planners to replace the "price calculus," which is the
"basis of normal economic calculation" in market
economies, with the "direct coordination of physical
magnitudes," referred to as "direct calculus."196

It has been argued that Soviet prices are used
only for "balancing" purposes in the aggregate; for
example, the "sources and uses side of a balance of a
single industry," or "the total of all wages balanced

against the total price of all consumer goods."197

In
fact, the Soviet price system not only is used for

accounting or calculatory purposes but also is geared

152
toward achieving "three very broad" functions: "control
and evaluation, allocation, and income

distribution."198

To serve these different functions,
it becomes necessary to have different categories of
prices. Thus, to find a "given set of principles" that
"would apply uniformly to all these different categories
of prices" becomes unlikely.199

Two important categories of Soviet prices need
attention: industrial wholesale prices and state retail
prices. All transactions between enterprises are
carried (nu: at the industrial wholesale price, which is
based on the average industrywide production cost plus a

small profit markup.200

The average industrywide
production cost includes "raw materials, labor overhead
costs, depreciation, and interest paid on working

capital."201

Under the price reform of 1966-1967, the
cost of investment capital extended to the enterprise,
and differential cost (mainLy in extractive industries)
became a component of industrial wholesale price.202
Although it is clear that such prices do not constitute
the basis of resource allocation, they serve to achieve
the direct allocation of resources according to
planners‘ objectives. It should be mentioned that wages
and wage differentials play an important role in
allocating labor since they are used to foster the

growth of certain sectors.203

153

Industrial wholesale prices are actual prices
charged to other enterprises and industries and include
all cost categories deemed relevant by Soviet planning
authorities. They could influence the net income of the
enterprise and hence its production policy. They are
different both from the "accounting" prices used in
constructing indexes for centralized decision purposes,
like investment, and from "record-keeping" prices used

204 Such prices are based on

for statistical purposes.
the average industrywide production cost, not on
marginal-cost pricing or average cost of the marginal

205 Furthermore, Soviet enterprises must use

firm.
"Khozraschet" (economic accounting), whiCh requires the
"carrying out of state-determined tasks with the maximum

206
economy of resources. "

Consequently, industrial
wholesale prices have an economic basis and are not
merely used for accounting purposes. The important
question here is: Does this price constitute the basis
of a "rational economic calculation"? This question
will be addressed later.

The other category, state retail prices, which are
basically designed to clear the market, are based on
industrial wholesale prices, "plus the retail margin
(and costs, where additions to the product are generated
at the retail level), plus the turnover tax."207

Included in this price is a small profit margin which is

"added at different stages of wholesaling and

154

208

distribution." These prices, which are charged on

final goods sold directly to individual consumers, "give

209 It should be

real value to money wage-payments."
remembered, in addition, that such prices are derived
from the individual wholesale prices, which are based on
average industrywide production cost. Consequently,
unlike industrial wholesale prices, retail prices depend
not only on the supply side but also on the demand side
of the market for final goods.

The much discussed Soviet economic reform of 1965,
contrary to the belief or "hope" of Western economists
at the time, did not produce any major changes in the

210 The reform was basically

Soviet price structure.
designed to increase the productive efficiency of the
enterprise by a series of measures that reflected the
planners' desires to "redistribute minor allocation
decisions to lower levels in the planning hierarchy" and
to give more incentives to workers and

211 Such measures included more

enterprises.
decentralized investments by enterprises, an increase in
the size of an enterprise's internal incentive funds,
and a change in success indicators "from gross output
and cost reduction to incremental sales over previous

"212 The reform,

year and profitability level.
however, did not alter the control of the central
planning authority over "all the basic levers of central

planning,” including "money, finance, prices, overall

155
levels of saving and investment, and allocation of large

"213 At the enterprise level, the

capital investments.
central planners retained their control on the
specification of targets for output and assortment of
products.

Even this modest attempt at decentralization was
not very successful in the Soviet economy. The changes
stipulated by the reform "were either totally or

"214 The increase in

partially reversed after 1970.
the size of decentralized investments shifted labor and
materials away from centralized investments,
particularly in public goods, which prompted central
planners to reinstitute new measures aimed at limiting

215 For the same reasons, and also due

this freedom.
to the failure to maximize output via material
incentives, the size of enterprises' internal incentive
funds was reduced.216 Regarding the enterprise's
success indicators, central planners found that
"incremental sales" were "ineffective in a sellers'
market" and that profitability was "unreliable if the
price system is determined by workers‘ needs rather than

"217 Consequently,

the pattern of opportunity costs.
the success of enterprises became, once again, measured
by the fulfillment of gross-output targets and
productivity. In short, while the reform was aiming at

more decentralization, it resulted in more

centralization in the Soviet economy. The most

156

important cause for this failure was attributed to the
functioning of time Soviet economy, which requires tight
control and centralization that could not bear a
decentralized dimension incorporating capitalist market
principles. In particular, allowing much freedom to the
enterprise :hi determining investment decisions cmeated
sectoral imbalances in time Soviet. economy. Market
socialist models permit the same investment decisions to
be made at the enterprise level. It could be inferred
that such freedom is incompatible with planning, as the
Soviet experience demonstrated. It could be argued that
market socialist models suffer from this weakness.

The economic reforms of 1965 resulted in varied
discussions among Soviet economists about the determina-
tion of profit component in price and, consequently, the
determinants of pflanned price formation. The divergent
views reflected where the protagonists stood in the
spectrum between the functioning of the Soviet economy
and the capitalist market mechanism. Four basic price
formation concepts with which to solve such a problem
emerged. Profits should be calculated in proportion to:
wages; an enterprise's production cost; "value of fixed
and workable capital used in the production of a given
product"; and shadow prices.218

The first View represents an obvious inclination
toward considering labor as the only determinant of

value. The second and third views not only are based on

157
the value of a product in its pure form (labor) but also
consider other components of the cost of production as
well. If profits were to be based on the value of fixed
and workable capital, this would lead to less waste in

219 These three

the utilization of productive goods.
views do not represent any major divergence from the
present functioning of the Soviet economy and its
centrally planned system. They would all still involve
prices being dependent on the achievement of objectives
of the central planning apparatus.

The fourth view, however, involves a completely
different outlook on price formation: the theory of
optimal planning. Different concepts about the scope of
application of this theory and its techniques appeared
in the Soviet literature soon after the reform of 1965.
The most radical idea holds that it should be applied to
the Soviet national economy, or what is referred to as

220 This concept suffers from

"perfect computation."
the obvious problem of calculating relative prices for a
huge number of goods with different specifications. In
the Soviet economy, the central planning authority "has
organized itself and the enterprise into a hierarchy of
planning bodies, which specialize in planning at
different levels of detail."221

Another concept calls for finding efficiency

prices (shadow prices) by applying mathematical

techniques of the optimal planning theory to the

158
. . . . 222
enterprise, given some ba51c constraints. It
involves maximizing an objective function given "scarce"
factors of production to calculate shadow prices which

223 The

are the prices of these factors of production.
problem with this concept stems from the incompatibility
of the fundamentals of the Soviet system of material
allocation with determining factor prices according to
scarcity. Prices have to be consistent with input
requirements and output targets if central planning is
to be achieved at the enterprise level.

Still another concept has involved the
applicability of mathematical programming only to
long-term planning, which involves the calculation of
factor prices based on scarcity and subject to the given

224 Aside from the

resources adopted in the plan.
problem of future uncertainty, such long-term prices
might, and possibly will, be in conflict with current
short-run prices, the former being a function of the
latter, and both have a different basis of calculation.
Furthermore, neglected are the highly possible changes
in different price and information variants which could
take place as time goes by. This points again to the
previous emphasis that a centrally planned system
requires prices to be basically in conformity with plan

objectives. Any misconception about the possibility of

determining prices based on "scarcity" or "marginal

159
utility" while maintaining a system of material
allocation is doomed to failure.

The fourth view on price formation elicited much
controversy among Soviet economists. It was advocated
by the Soviet school of mathematical economics225
but criticized by Soviet political economists. At the
heart of the disagreement over price formation were
their different conceptions of optimality. The
traditional Soviet planning system works according to
the principle of output optimization, which involves
choosing the optimal plan from all the possible
feasible plans. Such output optimization requires
choosing the level of output with the least possible

outlay of inputs.226

This output optimization is
conducted in physical magnitudes without reference to
relative input prices. It involves maximizing the
quantity of output produced from given quantities of
inputs. This notion assumes that prices play a minor if
any role in resource allocation. The Soviet material
balances system does not ensure optimality in the
Austrian sense inasmuch as the optimal plan is
chosen from a set of feasible plans based on measurement
in physical magnitudes. From the Austrian and
neoclassical perspectives, there is a drawback in
excluding prices from this optimization. It could be

argued that within the centralized socialist economy,

maximizing the value of output rather than maximizing

160
its quantity offers a "better" or more logically tight
notion of optimization.
The traditional Soviet political economists
criticized the mathematical economists for choosing
models which replaced "value [in the Marxist sense] with

"227 In addition,

the propositions of marginalization.
the mathematical economists were criticized for being
preoccupied with the rational organization of the
productive forces (the efficient allocation of resources
in the neoclassical-Austrian sense) at the expense of
neglecting the "need to develop the productive

"228 This criticism in essence implies that

relations.
the school of mathematical economics is more concerned
with solving the problem of "choice" than the problem of

"229 The mathematical economists' view on

"growth.
optimality assumes that prices reflect scarcity
conditions; such prices are thus considered by Soviet
political economists to have a subjective basis.23o

Is the Austrian concept of optimality applicable
to a planned socialist economy, or does such an economy
have a different notion? The Austrian notion can only
be achieved under prices determined by subjective
valuations. This view presupposes an economic system
that is conducive to the formation and registration of
subjective valuations by individual actors, that is, a

free market system. In socialist economies, the

economic mechanism is the system of planning.

161
Consequently, one can argue that the Austrian notion of
optimality cannot be used to evaluate a
non-individualistic (social) economic system that
engages in collective planned production.

It seems that the optimality argument, however,
is not the same for both capitalism and socialism. The
socialist economic mechanism (planning) involves a
different view of optimality, one based on collective
(social) rather than subjective (individual) valuations.
Within the context of the planning system, the notion of
optimality is reflected in the achievement of the
macrosocial (national) goals. However, the matter is
not quite so simple. Even assuming that planners'
preferences are to count, presumably the planners would
want optimal production, in the neoclassical-Austrian
sense, in order to achieve a higher rate of growth.
Optimality thus requires the use of prices.

Optimality requires that prices be formed in such
a manner that they will satisfy the objectives of
central planning. However, since there are many
objectives of central planning, price formation cannot
be reduced to a single forming factor, and here lies the
difficulty in evaluating Soviet prices. The important
question is whether, and in what sense, Soviet prices
are "rational." In the Austrian sense, they are not
rational since they are not the free market

manifestation of subjective valuations, but in the

162

centralized socialist sense, if they function to satisfy
the objectives of central planning, they are rational.
However, it is difficult to evaluate the degree to which
Soviet prices have satisfied the objectives of the
central planning apparatus, an issue which does not
arise in market economies inasmuch as market prices are
accepted as such.

One possible theoretical centralized planning
answer to the Mises-Hayek argument, although not
acceptable to some Soviet economists, is given by the
Soviet school of mathematical economics. This calls for
the determination of programming prices that will allow
the overall "allocation of resources according to

"231 The

macrosocial cost-benefit considerations.
optimization problem that will lead to programming
prices "reduces in the ultimate analysis to the
minimization of one function of the objective (resource
outlay) and the maximization of another (output)."232
The programming prices arrived at "would parallel those
generated in a competitive market model (they would be

"233 Such prices of factors of

scarcity prices).
production as advocated by the Soviet school of
mathematical economics were to be used only for planning
purposes (calculatory input prices) and "should not be
allowed to interfere with the socially desirable

"234

distribution of national income. The actual

application of this notion of optimality to the whole

163
economy (perfect computation) is practically
inconceivable with present computer technology, since it
involves the solution of a huge number of simultaneous
equations.

One of the Mises-Hayek arguments is that the
socialist economies replace consumers' preferences by
those of the planning apparatus. This implies that
consumers' preferences in capitalist market economies
are formed without reference to the existing economic
and political system and its underlying power
structure. As far as the Soviet economy is concerned,
"the actual Soviet social welfare function, as do all
such others, involves the weighting of preferences, and
power play takes place with regard to the

"235 The same is true of the capitalist

weighting.
market economies in the sense that consumers'
preferences are the outcome of the system of property
rights and the distribution of power inherent in it.
The capitalist market social welfare function in itself,
then, involves the unequal weighting of preferences
resulting from unequal distribution of income and
wealth. Scarcity in a capitalist market economy is
derived, being the outcome of the power structure, that

is, the system of property rights.236

Consequently,
scarcity prices are a function of the power structure in
capitalist market economies; in fact, being the outcome

of the power structure, they give rise to preferences

164

that will conform to such a system and be controlled by
the distribution (Hf power within it. If preferences,
scarcity, and scarcity prices are influenced, to say the
least, by the power structure in the capitalist market
system, then is there any logic in judging a different
economic system with a different power structure by
these notions? This also leads to the conclusion that
subjective valuations are system-specific and cannot be
applied to a different economic system.

hi the 19203, Mises argued that without economic
calculation, there can be no economy. He also concluded
that the pursuit of economic calculation in a socialist
state is impossible. This claim about the impossibility
of socialist economic calculation is still adhered to by
Austrian economists. However, socialism is still here)
and there is still an economy called "the socialist
economy," contrary to Mises's clahn. One of the claims
of Mises about socialism is thus proved wrong.

In the early 19403, Hayek redirected the Austrian
attack by no longer questioning the existence of the
socialist economy per se, but by questioning its
performance. In particular, he doubted the ability of
the socialist planning system to utilize the diffused
knowledge to secure the best use of resources. Hayek
further claimed that this knowledge is dispersed among
individuals and cannot be aggregated. It is the

subjective valuation of individuals, as it exists in the

165

capitalist market system, where each is trying to secure
the best use of resources at his disposal in his pursuit
of self-interest. It should be pointed out, however,
that there is no guarantee an individual within the
capitalist market system can utilize his knowledge to
secure the best use of resources at his disposal.
Furthermore, ix) such 2a systan, each individual's
subjective valuation and self-interest might conflict
with those of another. The planned socialist system
came to replace the economic system that gives rise to
such knowledge, so in one view it is fruitless to talk
about the ability of the socialist system to utilize or
aggregate such knowledge. Doubtless, this kind of
knowledge could exist in or is applicable to a different
system of economic organization. The question that
should have been raised is: Does the Soviet planning
system secure the efficient use of resources?

The Soviet planning system was able to utilize the
resources at its disposal to satisfy the objectives of
the national plan. In addition, it seems that it was
able to use and coordinate the knowledge necessary to
achieve such macrosocial objectives. The problem is to
determine whether the Soviet planning system has secured
the best use of resources in the sense of permitting the
highest feasible growth rate. In the absence of prices
serving as guides to resource allocation, it seems that

the Soviet planning system is not doing so. There is no

166
independent criterion, other than scarcity prices,
whether formed by consumers' or planners' preferences,
by which the Soviet planning system can be evaluated
regarding the best utilization of resources. The
problem here is that both Soviet resource allocation and
Soviet prices work almost independent of each other to
achieve the macrosocial objectives of the central

planning apparatus.

167

Notes to Chapter V

 

1. Alexander Eckstein, ed., Comparison of Eco-
nomic Systems: Theoretical and Comparative Approaches
(Berkeley, California: University of California Press,
1971), p. 2.

2. See Edward J. Mishan, Economic Efficiency and
Social Welfare (London: George Allen & Unwin, 1981), pp.
3-33, and Amartya K. Sen, Collectivist Choice and Social
Welfare (San Francisco: Holden-Day, Inc., 1970), pp.
57-78. ‘

3. See William J. Baumol, Welfare Economics and
the Theory of the State (Cambridge, Massachusetts:
Harvard University Press, 1967), pp. 11-17, and S.K.
Nath, A Reappraisal of Welfare Economics (London:
Routledge and Kegan Paul, Ltd., 1969), p. 232.

4. Abram Bergson, "Socialist Economics" in Howard
Ellis (ed.), A Survey of Contemporary Economics (Home-
wood, Illinois: Richard D. Irwin, Inc., 1948), p. 446.

5. Joseph A. Schumpeter, Capitalism, Socialism
and Democracy, 3rd. ed. (New York: Harper & Row, [1942]
1950), p. 172.

6. Abram Bergson, 1948, p. 446.

7. Joseph A. Schumpeter, 1942, p. 173.

8. Ibid., p. 167.

9. Ibid., p. 185.

10. Ibid.

11. Abram Bergson, 1948, p. 447.

12. Ibid.

13. John E. Elliott, Comparative Economic Systems
(Englewood Cliffs, New Jersey: Prentice Hall, Inc.,
1973), PP. 293-94.

14. Ibid., p. 294.

15. Abram Bergson, 1948, p. 448.

16. John Elliott, 1973, p. 295.

17. Ibid.

18. Wayne A. Leeman, Centralized and Decentralized
Economic Systems (Chicago: Rand McNally College Publish-
ing Company, 1977), p. 137.

19. Richard L. Carson, Comparative Economic Sys-
tems (New York: Macmillan Publishing Co., Inc., 1973),
p. 569.

20. Wayne Leeman, 1977, p. 137.

21. Ibid.

22. Richard Carson, 1973, p. 569.

23. Ibid., p. 570.

 

 

 

 

 

 

 

 

 

 

 

24.

168

Deborah Duff Milenkovitch, "Is Market Social-

ism Efficient?" in Andrew Zimbalist (ed.), Comparative
Economic Systems (Boston: Kluwer-Nijhoff Publishing,

 

 

1984), p.
25.
26.

68.
Wayne Leeman, 1977, p. 138.
Vaclav Holesovsky, Economic Systems: Analysis

 

and Comparison (U.S.: McGraw-Hill, Inc., 1977), p. 127.

 

27.
28.
29.
30.
31.
32.
33.
34.
35.
36.
37.
38.
39.
40.
41.
42.
43.
44.
45.
46.
47.
48.
49.
50.
51.
52.
53.
54.
55.
56.
57.
58.
59.
60.
61.
62.
63.
64.
65.
66.
67.
68.
69.
70.
71.

Ibid.

Ibid.

Wayne Leeman, 1977, p. 136.
Richard Carson, 1973, p. 559.
Ibid.

Wayne Leeman, 1977, p. 131.
Ibid.

Ibid.

Ibid.

Ibid., p. 132.

Abram Bergson, 1948, p. 434.
Deborah Duff Milenkovitch, 1984, p. 95.
Ibid.

Vaclav Holesovsky, 1977, p. 128.
Richard L. Carson, 1973, p. 572.
Ibid., p. 573.

Ibid., p. 572.

Ibid., p. 574.

Ibid.

Ibid.

Ibid., p. 580.

Ibid., p. 572.

John E. Elliott, 1973, p. 299.
Ibid., p. 300.

Richard Carson, 1973, p. 571.
Abram Bergson, 1948, pp. 434-435.
Ibid., p. 435.

Ibid.

Wayne A. Leeman, 1977, p. 133.
Ibid., p. 135.

Richard Carson, 1973, p. 560.
Ibid.

Ibid.

Joseph A. Schumpeter, 1942, p. 182.
Ibid., p. 181.

Ibid.

Ibid.

Ibid., p. 186.

Ibid.

Deborah Duff Milenkovitch, 1984, p. 96.
Ibid.

Abram Bergson, 1948, p. 430.
Ibid.

Ibid.

John E. Elliott, 1973, p. 235.

169

72. Ibid.

73. Abram Bergson, 1948, p. 447.

74. Jan Drewnowski, "The Economic Theory of
Socialism: a Suggestion for Reconsideration," The
Journal of Political Economy, Vol. 69, No. 4, August
1961, pp. 341-42.

75. Ibid.

76. Ibid., PP. 343-344.

77. Ibid., p. 346.

78. Ibid., p. 347.

79. Ibid., p. 344.

80. Ibid., p. 348.

81. Ibid.

82. Ibid.

83. Ibid., p. 349.

84. Ibid.

85. Ibid.

86. Ibid.

87. Ibid., pp. 349-50.

88. Ibid., p. 350.

89. Ibid.

90. Ibid.

91. Ibid., pp. 350-51.

92. Ibid., p. 351.

93. Ibid.

94. Ibid.

95. Ibid.

96. Ibid., pp. 351-52.

97. Ibid., p. 352.

98. Ibid.

99. Ibid.

100. Ibid.

101. Ibid.

102. Ibid., pp. 352-53.

103. Ibid., p. 353.

104. Ibid.

105. Ibid.

106. Ibid.

107. Benjamin Ward, The Socialist Economy (New
York: Random House, 1967), p. 30.

108. Ibid., p. 14.

109. Ibid.

110. Ibid.. pp. 14-15.

111. Ibid., pp. 15-16. This is generally true,
with the exception of Mises, who criticized the
moneyless economy, and Hayek who occasionally referred
to the Soviet experience.

112. Ibid., p. 18.

113. Ibid.

114. Ibid., p. 19.

115. Ibid.

116. Ibid., p. 22.

 

 

117.
118.
119.
120.
121.
122.
123.
124.
125.
126.
127.
128.
129.
130.
131.
132.
133.

170

23.
24.
24-250

Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.,
Ibid.
Ibid.
Ibid.
Ibid.,
Ibid.,
Ibid.,
Ibid.
Ibid.,
Ibid.
Ibid., p. 38.

Don Lavoie, Rivalry and Central Planning

p.
p.
PP-
p. 25.
p.~ 30.
p. 32.

pp. 32-33.
p. 32.
p. 34.

p. 37.

 

(Cambridge, England: Cambridge University Press, 1985),
p. 22.

134.
135.
136.
137.
138.
139.
140.
141.
142.
143.
144.

Ibid.
Ibid.
Ibid., p.
Ibid.
Ibid.
Ibid., pp.
Ibid., p.
Ibid.
Ibid.
Ibid.
Ibid.

23.

23-24 0
24.

145. Ibid., p. 3. Contrary to what Lavoie claimed,
Schumpeter was an Austrian by training. It could hardly
be said that Schumpeter followed Marshall's tradition,
although he was influenced by walras.

146. Ibid.

147. Ibid., p. 20.
148. Ibid.

149. Ibid., p. 21.
150. Ibid.

151. Ibid.

152. Ibid., p. 49.
153. Ibid.

154. Ibid., p. 62.
155. Ibid.

156. Ibid., p. 64.
157. Ibid.

158. Wayne A. Leeman, 1977, p. 159.

159. Deborah Duff Milenkovitch, 1984, p. 70.

160. Benjamin Ward, "Workers' Management in Yugo-
slavia," Journal of Political Economy, Volume 65,
October 1957, pp. 373-86.

161. Benjamin Ward, "The Firm in Illyria: Market
Syndicalism." American Economic Review, Volume 48, No.
4, September 1958, pp. 566-89.

 

 

171

162. Deborah Duff Milenkovitch, 1984, p. 69.

163. Ibid.

164. Ibid.

165. Richard L. Carson, 1973, p. 619.

166. Ibid.

167. Wayne A. Leeman, 1977, p. 160.

168. Richard L. Carson, 1973, p. 623.

169. Ibid., p. 622.

170. Wayne A. Leeman, 1977, p. 161.

171. Ibid.

172. Ibid., p. 164.

173. Ibid., p. 165.

174. Ibid.

175. Ibid., pp. 165-66.

176. Ibid., p. 166. .

177. Harold Lydall, Yugoslav Socialism (New York:
Oxford University Press, 1984), p. 256.

178. Martin Schrenk, Cyrus Ardalan, and Nawal El
Tataway, Yugoslavia (Baltimore: The Johns Hopkins
University Press, 1979), Report of a mission sent to
Yugoslavia by the World Bank, p. 4.

179. Vinod Dubey, Yugoslavia: Development with
Decentralization (Baltimore: The Johns Hopkins
University Press, 1975), Report of a World Bank Mission
to Yugoslavia, p. 18.

180. Harold Lydall, 1984, p. 257.

181. Martin Schrenk, 1979, p. 4.

182. Ibid., p. 5.

183. Stevan Govedarica, "Price System and Policy,"
Yugoslav Survey, Volume 13, No. 3., August 1972, p. 23.

184. Martin Schrenk, 1979, p. 121.

185. Branko Horvat, The Yugoslav Economic System
(New York: M.E. Sharpe, Inc., 1976), p. 181.

186. Ibid., p. 220.

187. Ibid., p. 187.

188. Ibid.

189. Ibid., pp. 187-88.

190. Ibid., p. 183.

191. Alan A. Brown and Egon Neuberger, "Basic
Features of a Centrally Planned Economy" in Morris
Bornstein (ed.), Comparative Economic Systems (Homewood,
Illinois: Richard D. Irwin, Inc., 4th ed., 1979), pp.
186-187.

192. Ibid., p. 187.

193. Ibid., p. 190.

194. Alec Nove, The Soviet Economic System (London:
George Allen & Unwin, 1977), p. 33.

195. Morris Bornstein, "Soviet Price Theory and
Policy" in Morris Bornstein and Daniel R. Fusfeld
(eds.), The Soviet Economy: A Book of Readings
(Homewood, Illinois: Richard D. Irwin, Inc., 3rd ed.,
1970), pp. 106-107.

 

 

 

 

 

 

 

 

 

172

196. H.K. Manmohan Singh, Demand Theory and
Economic Calculation in a Mixed Economy (London: George
Allen & Unwin, 1963), pp. 102-103.

197. Howard J. Sherman, The Soviet Economy (Boston:
Little, Brown and Company, 1969), p. 143.

198. Morris Bornstein, 1970, p. 187.

199. Maurice Dobb, Papers on Capitalism, Develop-
ment and Planning (New York: International Publishers,
1967), p. 231.

200. Paul R. Gregory and Robert C. Stuart, Soviet
Economic Structure and Performance (New York: Harper and
Row, 2nd. edition, 1981), p. 156.

201. Jahangir Amuzegar, Comparative Economics
(Cambridge, Mass.: Winthrop Publishers, 1981), p. 280.

202. Gregory Grossman, "Price Control, Incentives,
and Innovation in the Soviet Economy" in Alan Abouchar
(ed.), The Socialist Price Mechanism (Durham, North
Carolina: Duke University Press, 1977), p. 145.

203. Morris Bornstein, 1970, p. 108.

204. Maurice Dobb, 1967, p. 231.

205. Gregory Grossman, 1977, pp. 134-35.

206. Alec Nove, 1977, p. 28.

207. Paul R. Gregory and Robert C. Stuart, 1981,
p. 158.

208. Jahangir Amuzegar, 1981, p. 281.

209. Maurice Dobb, 1967, p. 231.

210. Gregory Grossman, 1977, p. 143.

211. Rolf Eidem and Staffan Viotti, Economic
Systems (New York: John Wiley and Sons, 1978), p. 50.

212. Bruce McFarlane, Radical Economics (Cambridge,
U.K.: Cambridge University Press, 1979), p. 201.

213. John E. Elliott, 1973, p. 506.

214. Bruce McFarlane, 1979, p. 207.

215. Ibid., p. 203.

216. Ibid., p. 206.

217. Ibid., p. 205.

218. V.S. Dadaian, "Developing a System of
Incentive Prices," Problems of Economics, Vol. 10, No.
3, July 1967, p. 3.

219. For a more thorough description, see A.
Postyshev, "The Labor Theory of Value and Optimal
Planning," Problems of Economics, Vol. 10, No. 8,
December 1967, pp. 3-4.

220. Michael Ellman, "Optimal Planning," Soviet
Studies, Vol. 20, No. 1, July 1968, p. 116.

221. Rolf Eidem and Staffan Viotti, 1978, p. 40.

222. A. Postyshev, 1967, p. 5.

223. Paul R. Gregory and Robert C. Stuart, 1981,
p. 167.

224. Alec Nove, 1977, p. 176.

 

 

 

 

 

 

 

 

 

173

225. For a more complete coverage of the Soviet
school of mathematical economics, see: Pekka Sutela,
Socialism, Planning and Optimality (Helsinki, Finland:
Finnish Society of Science and Letters, 1984).

226. J. Wilczynski, The Economics of Socialism
(London: George Allen and Unwin, Ltd., 1970), p. 17.

227. Michael Ellman, Soviet Planning Today
(Cambridge, U.K.: Cambridge University Press, 1971),
p. 4.

228. Ibid., p. 7.

229. Ibid., p. 188.

230. Alfred Zauberman, The Mathematical Revolution
in Soviet Economics (London: Oxford University Press,
1975), p. 20.

231. Ibid., p. 18.

232. Ibid., p. 40.

233. Paul R. Gregory and Robert C. Stuart, 1981,
p. 167.

234. J. Wilczynski, 1970, p. 137.

235. Warren J. Samuels, "Aspects of Soviet Economic
Planning: Power and the Optimal Use of Planning Tech-
niques," Review of Social Economy, Vol. 37, No. 2,
October 1979, p. 237.

236. Douglas Greenwald (ed.), Encyclopedia of
Economics (New York: McGraw-Hill, Inc., 1982), p. 172.

 

 

 

 

 

 

 

 

CHAPTER VI

THEORETICAL ASPECTS OF THE SOCIALIST
CALCULATION CONTROVERSY

a

In the preceding chapters, analysis covered most
facets (HE the socialist calculation debate and the
secondary literature pertaining to it. The arguments or
issues involved will now be divided into theoretical and
nontheoretical aspects, although it is not an easy task
to separate the two. This chapter will deal with the
theoretical category, time next chapter with the
remaining (aspects. ha particular, this chapter will
cover the meaning of rational economic calculation as
advanced fur Mises, price formation, cost-pricing, and
consumers' versus planners' preferences. It will also
treat issues pertaining to the management of the
socialist enterprise and the macroeconomic aspects of

the debate.

6.1 Rational Economic Calculation

 

Mises did not clearly define what he meant by
rational economic calculation in his 1920 thesis about
the impossibility of such a calculation in the socialist

174

175

economy. He later elaborated upon the meaning, as
discussed in Chapter 4.1. It is apparent that-rational
economic calculation in Mises's sense cannot be
performed except in an economic system based on private
ownership of the means of production, free enterprise,
and free markets. Only in that system does Mises's
rational definition of the term find meaning.

The concept of "rational economic calculation" has
two dimensions: rationality and economic calculation.
Mises‘s notion of rationality applies to an action of an
individual in his pursuit of material and immaterial
wants and needs. According to Mises, as long as an
individual is acting in his own self-interest, even
though his actions might not lead to his desired ends,
then his action or behavior is rational. In this
regard, Mises claimed that any human action is
necessarily always rational since it comes about from an
individual's free will. Consequently, Mises's view of
rationality is based on an individual's subjective
evaluation of the course of action that is taken by him
in his pursuit of self-interest. This notion, as
advanced by Mises, can only find meaning in a free-
enterprise economic system with private ownership of the
means of production and consumer sovereignty.

Mises's conceptualization is the product of the

capitalist system of economic organization. The

176

individual's scope for rational action is increasingly
constrained by the number and scope of laws and
regulations limiting such freedom and the increasing
role of the government in the modern capitalist market
economy. It could be argued that Mises's notion might
not be applicable in practice to an actual capitalist
market system. It can exist in a laissez-faire economic
system with the role of government confined to the
protection of property rights and to the smooth
functioning of markets. Furthermore, there is no
guarantee that the aggregation of rational actions of
individuals will lead to a favorable result for society
as a whole. Put in another fashion, the rational action
of an individual might not be in society's interest.
Furthermore, rational actions of individuals are
influenced by the self-interest of those in power, whose
own actions are necessarily always rational. It could
also be that every time an individual pursues a course
of action that does not achieve his desired ends, that
is, when he takes the wrong course, society loses the
resources wasted by such an individual in his pursuit of
his self-interest.

Clearly, Mises's notion of rationality is an
individualistic and subjective one that can only be
manifested in the context of a laissez-faire system. It
cannot be applicable to a collective body, such as the

central planning agency of a socialist economy. R.L.

177

Hall asserted that the use of the word "rational" should
be confined to actions with respect to a stated end in
which there is no contradiction between the two (Chapter
3.1). Similarly, P.J.D. Wiles defined "rationality" as
an arrangement of the means that would achieve the ends
(Chapter 4.1). This meaning differs from that of Mises
and could be applicable to an individual as well as to a
collective body.

The concept CHE rationality applicable to a
socialist economy is the right course of action taken by
the central planning agency in arranging the means at
its disposal to achieve the maximum satisfaction of
society'vat large. Dickinson recognized this by
asserting that both planning and scientific management
contain one common element, the rational coordination of
means and ends (Chapter 3.3). It should be pointed out
that the means available to the central planning agency
are plentiful: political, economic, social, and
institutional.

Does the socialist economy follow this sense of
rationality? There is no clear answer to this question
because it involves the evaluation of the whole
socialist economy. Some degree of rationality probably
exists in a present-day socialist economy in the sense
that it is using the means at its disposal to achieve an
acceptable level of satisfaction to the society, as

identified by the planners.

178

The other concept advanced by Mises is that of
economic calculation. His notion, again, is
individualistic, stemming from the subjective evaluation
of the individual in his pursuit of self-interest under
an economic system characterized by free markets and
private ownership of the means of production. It was
defined by Mises to be either an "estimate of the
expected outcome of future action or the establishment
of the outcome of past action" (Chapter 4.1). Mises
also claimed that the fundamental notion of economic
calculation is the different forms of pecuniary loss and
gain that cannot be separated from the operations of
free markets. He asserted that the fundamental bases
are "capital and income, profit and loss, spending and
saving, cost and yield" (Chapter 4.1). Whereas Mises
stated that these fundamentals cannot be separated from
the operations of the market, he did not specify which
is cause and which effect. It is only because there is a
system of economic organization based on private
ownership of the means of production and a free market
that such fundamental notions of economic calculation
are observed. Given another system of economic
organization, different subjective evaluations of
material gain and loss appear. Within a socialist
system these become a function of the political, social,
institutional, and economic framework to which such a

system gives rise. Individuals still conduct economic

179
calculation regarding their material gain and loss, but
another and nonindividualistic form of economic
calculation appears, depending on the collective body
owning and utilizing the means of production.

Combining both notions, Mises's rational economic
calculation describes how an individual makes his
subjective evaluations based on his self-interest by
aiming at reaping the material benefits of his actions.
This theoretical construct fits a hypothetical
individual within a laissez-faire system. Within an
existing capitalist market system, many actions in
resource utilization do not follow Mises's rational
economic calculation, particularly government roles in
the economy. It is very tempting, in actuality, to
discard the basis of the whole argument of impossibility
of rational economic calculation in a socialist state
simply because such a concept is a highly theoretical,
simplistic, idealistic, and tautological.

However, Mises's thesis or attack on socialism
(Chapter 2.1) is directed toward the lack of valuation
of production goods in the socialist economy.
Specifically, Mises asserted that since there is public
ownership of the means of production in the socialist
economy, production goods will not be exchanged in a
free market. Consequently, there is no valuation or
pricing mechanism for such goods, and decision makers

are left with no rational basis for allocating

180

resources. In addition, he claimed that without this
pricing mechanism, there is no economic calculation.
Without the latter there is no economy in the sense that
there is no rational production, that is, production is
not determined by economic considerations. This is the
main argument that will be addressed in this and the
next chapter.

It should be mentioned that Hayek reformulated
Mises's rational economic calculation by claiming that
it is based on individually acquired and used knowledge
to allocate resources efficiently and on the
communication function of prices which signals such
knowledge (Chapter 4.4). This version will be discussed

in Chapter 7.1 and 7.2.

6.2 Price Formation

 

Proponents on both sides of the debate adopted the
neoclassical price theory framework. That approach
analyzes market prices that would prevail in long-run
competitive equilibrium. Individuals are supposed to
maximize their utility in consumption and their profits
in production. When exchange takes place, individuals
are assumed to react by adjusting "the quantities
offered or demanded to the point where their marginal
preferences and costs coincide with given market

1

prices." Market prices are also assumed to reflect

such preferences and costs, not only for specific

181
markets but also for the economy at large. Furthermore,
the neoclassical paradigm asserts that, in the long run,
"prices i1: competitive markets would tend toward the
lowest possible costs of production at which the amounts

2 The

desired by consumers would be provided."
neoclassical school, ix: its effort ix) explain market
prices in the long-run competitive equilibrium, offered
an explanation of the determination of factor incomes:

In a (perfectly competitive private

enterprise economy where the agents have

full knowledge and perfect foresight it is a

condition of equilibrium that the returns to

labor and capital will equal their marginal

products.

The neoclassical paradigm that started as a price
theory developed into a theory of resource allocation
using scarce means to achieve individually desired ends.
Such neoclassical premises were adopted by the debate's
participants despite their obvious shortcomings. This
essentially microeconomic theory of market prices fails
to address the questions of economic growth and
development, unemployment of labor, and the disuse of
capital. Some assumptions, such as perfect foresight
and full knowledge of economic agents, are unrealistic.
Also ignored is the effect of the role of expectations
in price determination.

The neoclassical theory of market prices shifted

the emphasis of economics away from social, political,

and institutional dimensions, thus narrowing its scope,

182
and made the individual the economy's focal point. The
market prices developed by this school were nothing more
than the subjective evaluations of individual actors.

The functioning of the actual capitalist economy
is completely different from the rosy picture portrayed
by neoclassical price theory. The long run is undefined
in length and involves a static picture not only for a
specific market but also for the whole economy.. The
long run might never come, yet market prices could still
show a tendency to be chronically above the lowest
possible costs of production. The perfectly competitive
private enterprise economy in which there will be
efficient allocation of resources is a theoretical
ideal; it is difficult to believe that it will ever
materialize.

It is this ideal--perfectly competitive conditions
and competitive market prices--that was used by the
market socialists ix: the debate in) ground the
theoretical as well as practical possibility of rational
economic calculation in the socialist economy. This
ideal does not apply in a functioning capitalist
economy, yet its practical possibility in a socialist
economy was discussed by market socialists. It is
unrealistic to question the applicability of competitive
socialist theoretical models while not questioning the
competitive market model's applicability to a capitalist

economy.

183

If it is a fact that price formation in a
functioning capitalist market economy is imperfect,
complex, and far from the neoclassical paradigm, then
other considerations which comply neither with the
assumptions nor the conclusions of the neoclassical
model, explain such prices. The same problem faces a
functioning socialist economy in which price formation
is a function of many economic, political, social, and
institutional considerations. This reflects the
difficulty ix: developing theories that explain price
formation. It should Ina mentioned, however, that
inasmuch as the economic mechanism in the socialist
economies is run: the market but planning, little
attention was given to developing a price theory for the
socialist economy. This might be one reason the
socialist protagonists of time debate chose the
neoclassical price theory to answer Mises's contention.

Few of the participants addressed the nature of
the prices that would exist in the socialist economy.
According to Dickinson, price is a numerical
relationship between quantities of different kinds of
goods and is a function of the degree of scarcity
(Chapter 3.3). He asserted that the function of price
is independent of any particular organization of the
market. This point was made by Dickinson to support his
trial-and-error solution, ix) which puices adjust to

clear the market. This view is supported by Ward, who

184
asserted that Barone was the first to demonstrate that
prices are not conceptually bound to the institutions of
the market (Chapter 5.2.2).

In reality, there are different kinds of prices in
the socialist economy, and most are not the result of
private ownership or free markets. There are
calculatory prices for production goods used between
different organs (Hi the socialist planning system.
There are! accounting prices for some economic
categories, such as interest and rent. There are prices
that clear markets for final consumption goods and for
wages anui salaries, the latter working under the
assumption of full employment of labor. The prices for
consumption goods reflect their scarcity and thus are
the socialist prices closest to market prices in the
capitalist economies.

Lange claimed that prices necessary to solve the
problem of resource allocation are not prices in the
ordinary sense, that is, the exchange ratio of two
commodities (H) a market, In“: are prices in the
generalized sense, that is, terms on which alternatives
are offered (Chapter 3.1). According to Lange,
knowledge of these is ultimately given by the production
functions, which might imply that production functions
are the only determinants of opportunity cost. In fact,
this ignores scarcity of factors of production and their

effect on production methods as far as the whole economy

185

is concerned. Such prices are accounting prices used
for nonlabor productive resources, are determined by the
planning authorities, and are corrected by trial and
error until no shortage or surplus for each is
observed. In short, they are accounting prices that
equate demand and supply for nonlabor productive
resources. Theoretically, the determination of prices
reflecting opportunity cost is possible, but in practice
neither the capitalist producers nor the socialist
planners could find them. Their determination requires
unattainable full knowledge and perfect foresight. This
does not imply that the central planning authorities
cannot practically find a price that equates supply and
demand for nonlabor productive resources by 'trial and
error. However, it is doubtful that such a price will
reflect opportunity cost since full knowledge and
perfect foresight are absent in most cases.

In his critique of the debate, Lavoie made a
distinction between the neoclassical and the Austrian
conception of competition and prices. Lavoie claimed
that Mises understood competition as a rivalrous and
nonharmonious process in which some participants are
squeezed out by others (Chapter 5.2.3). The
neoclassical school, in Lavoie‘s view, stressed the
nonrivalrous nature of competition and the harmonious
role the market plays in solving opposing

self-interests. According to Lavoie, market prices are

186

the consequence of rivalrous competition, by which Mises
meant the dynamic struggle among active entrepreneurs in
their capacity as price makers (Chapter 5.2.3). This
view, which reflects the belief of one contemporary
Austrian, is not necessarily shared by other Austrians.
If this view is the rule rather than the exception among
Austrian economists, then it leads to serious
implications. The Austrian school, then, supports the
doctrine of "survival of the fittest" among individuals
in the capitalist market economy. It means that the
behavior of monopolistic entrepreneurs is not only
accepted but also hailed and that the present capitalist
market economies are characterized by price makers,
contrary to consumer sovereignty. It also means that
efficient allocation of resources will not be achieved,
in the neoclassical sense, since this excludes
structurally perfectly competitive conditions.

The important question about the nature of prices
that would exist in the socialist economy cannot be
answered in isolation from the existing system of
planning, the degree of centralization, and the function
these prices are supposed to serve. A price that would
match the supply and demand of different commodities
will exist in a free market (consumers' goods) or among
state enterprises. According to Drewnowski, in a
socialist economy characterized by the dual influence of

the state and the consumers, two independent sets of

187
prices will result from the preferences of each, and
both sets will be rational (Chapter 5.2.1). It seems
that what i4; in dispute is the basis of the supply
prices. 1k) theory, the cmmpetitive socialist models
have demonstrated that their prices will reflect the
same conditions as a perfectly competitive market
economy. In practice, however, evaluation of prices
cannot be judged in isolation of the function they serve
within the central plan. Such a conclusion is drawn
from studying price formation in a functioning socialist

economy such as the Soviet Union (Chapter 4.4).

6.3 Cost Categories and Cost-Pricing

 

The labor theory of value constituted an
ideological obstacle on both theoretical and practical
levels to the consideration of the relative scarcity of
and any returns to, or pricing of, nonlabor factors of
production. The first to point out the necessity of the
inclusion of all economic categories was Barone. Taylor
did not discuss them, but Roper asserted the necessity
of taking account of rent and interest in the national
accounting of the socialist state. Lange called for the
calculation of the interest rate while ignoring the need
for rent calculation. In his solution, Dickinson
advocated inclusion of the interest rate and an
allowance for uncertainty but not rent, although he

added the latter to cost categories in a later

188

publication. It seems that most socialist protagonists
in the debate advocated the necessity of calculating
economic or cost categories. This was done at a time
when the Soviet planning authorities did not calculate
rent or interest as cost categories. Most functioning
socialist economies have reconsidered this "ideological
obstacle" and now include an interest charge for
supplying capital and also rent, the latter applicable
only to mining industries.

The method of calculating the interest rate is
based on finding a rate that will match the fixed supply
of capital with the estimated demand for it.
Dickinson's alternative involved fixing a specific rate
of interest that will determine the portion of capital
to be saved out of total social income (Chapter 3.3).

Dickinson was the only one to advocate adding an
uncertainty rate to the estimated depreciation rate.
Uncertainty, Dickinson claimed, is due to changes in the
methods of production which result in technological
obsolescence (Chapter 3.3). While he was trying to be
accurate in defining the elements of cost calculation,
uncertainty is difficult to estimate, and its many kinds
are difficult to predict, which Dickinson thought could
be eliminated under the planned socialist economy. He
also advocated the calculation of rent by comparing the

marginal rather than the average returns, which is

189
connected to his preference for considering marginal
rather than average cost pricing.

Although profit was not explicitly recognized on
the socialist side of the debate, it is a residual of
price over cost that is liable to appear in socialist
accounting. In practice, as the Soviet and Yugoslav
experiences have shown, profit (surplus value) not only
appeared as an economic category but also was
considered, at different times, one of the success
criteria of the socialist enterprise (Chapters 5.3 and
5.4). All these cost categories are accounting prices
that are not paid to any individual resource owner and
do not constitute a part of any individual's income.
Dickinson asserted that it will belong to the society
and will fall under the domain of the Social Fund used
to finance new investments (Chapter 3.3). Schumpeter
voiced his belief that including such categories borrows
not from capitalism but from the logic of choice
(Chapter 5.1.5). They become ideologically neutral
since the returns to these factors are disassociated
from individual ownership.

The problem of cost calculation was not confined
to the question of which components to include but was
also concerned with which calculation to use as the
basis of pricing. Most of the early solutions to the
problem of rational socialist calculation, namely, those

of Barone, Taylor, Roper, and Dickinson, call for

190

equating price to cost of production while adjusting
output so as to produce at minimum cost (Chapter 3.6).
Lange suggested managers be told to follow two rules:
producing at minimum average cost and equating price to
marginal cost (Chapter 3.1). Lerner advocated imposing
the rule of marginal cost pricing on the enterprise
managers in the socialist economy, asserting that this
single rule is superior to any other because it does not
require the existence of the objective conditions of
competitive equilibrium (Chapter 3.2). Dickinson, who
favored average cost pricing, later reversed his
position and called for marginal cost pricing (Chapter
3.3).

Presumably, all of these solutions aimed at price
uniformity for the same product. However, any kind of
pricing suggested so far will lead to prices being
different for different enterprises producing the same
product. This is the case because each enterprise has
cost schedules that differ from those of other
enterprises. Consequently, tn“) things will result.
First, enterprises producing the same product will
compete with one another for customers, affecting both
output and prices. Second, the trial-and-error method
might take much longer to reach equilibrium position
since price and changes in quantity of output influence
the mechanics of such a method. It is possible,

however, for the trial-and-error process to converge to

191
an equilibrium as a result of price competition among
socialist enterprises.

The way out of this situation is to consider a
uniform price for the same product across the industry.
In the Soviet economy, this is the average industrywide
production cost (Chapter 5.4), based on the average cost
of the industry, not of a single firm within it. It
could be argued, however, that product price should be
based instead on the marginal industrywide production
cost. The problem then is to determine which cost
pricing--average or marginal industrywide product
cost--is more suitable for a socialist enterprise.

Productive efficiency is achieved in long-run
competitive conditions by average cost pricing where

4 The

production takes place at minimum average cost.
consumer would find this situation very desirable
because he is paying the price associated with the least
costly method of production. It should be noted,
however, that minimum average cost pricing is associated
with long-run competitive conditions which might not
materialize in reality. Allocative efficiency is
achieved by marginal cost pricing, which will result in
a composition of total output that would best satisfy

5 It should be mentioned that

consumers' preferences.
Lange's rules, applied to enterprise managers, satisfy

both productive and allocative efficiency conditions,

192
while those of Lerner and Dickinson result only in
allocative efficiency.

There is no guarantee that either of these pricing
methods is superior in all cases. Marginal cost pricing
leads to profit maximization for the enterprise and
satisfies consumers' preferences but does not guarantee
the lowest possible price associated with minimum
average cost. Average cost pricing associated with
long-run competitive conditions guarantees lowest
possible prices equivalent to minimum average cost but
neither profit maximization nor the best composition of
total output. In addition, marginal cost pricing might
not be feasible in decreasing cost industries since it
would result in huge accounting losses which would call
for subsidies to keep these enterprises functioning.
Similarly, in the case of increasing cost industries,
marginal cost pricing will lead to huge accounting
profits. Consequently, marginal cost pricing might not
be the answer in these cases.

Whether pricing is based on average or marginal
costs, it deals only with "private" costs, that is,
those :registered fur individual enterprises. When
externalities exist, private costs will diverge from
social costs, leading in) economic inefficiency. Any
cost pricing method applicable to a socialist economy

must take account of externalities.

193
In conclusion, no single pricing rule can or
should be applied universally to all socialist
enterprises. Neither average nor marginal cost pricing
should be used exclusively since efficient pricing must
depend on all the variables affecting the enterprise and

the industry.

6.4 Microeconomic Aspects of the Debate

 

It has been argued that the role of the
entrepreneur cannot be successfully emulated by the
socialist enterprise manager (Chapter 3.3). This
implies that since the latter has no pecuniary interest,
he will neither assume risk nor launch innovations.
There is obvious truth to this conclusion. Socialist
economic organization replaces the entrepreneur (the
capitalist) as the owner of certain means of production
which he uses to reap surplus value. The fact that
socialist enterprise managers might not assume this role
does not preclude their suggesting certain improvements
in methods of production to the central planning
authority. It is a matter of the managerial incentive
system. While competitive socialist solutions suffer
some weakness regarding resource allocation for
investment purposes at the enterprise level, in the
functioning socialist economies the investment decisions
are made at the macroeconomic level and predetermined by

the central planning authority. Presumably, they can

194
and will include certain allocations for research and
development purposes.

Hayek argued that the competitive socialist
solutions offered no defined guidelines as to the
responsibilities of production managers (Chapter 3.4).
While basically true, and significant for considerations
of growth, this can be seen as not constituting a
serious drawback in the competitive socialist solutions
inasmuch as they were not expected to cover every
specific detail related to their actual application.
Others, however, questioned whether the enterprise
managers will follow the pricing rules, or any others
given to them by the central planning authority (Chapter
5.1.4). Most of the competitive socialist solutions did
not discuss the possibility that the enterprise managers
might not follow the rules. It is not clear, however,
whether the socialist protagonists in the debate assumed
that the enterprise managers would follow the rules or
thought it was unimportant to discuss how the rules
would be applied and enforced. At any rate, the issue
should not have been neglected, since arguments by
managers over rules is a form of determination akin to
market play.

In any system of economic organization and in any
organized component thereof, for some people there is an
incentive not to follow orders if they are dissatisfied

with their status, if they gain by not following the

195

rules, if they are not afraid of the consequences, or
any combination thereof. To prevent such a possibility,
a system of reward and punishment and a system of
supervision and control are needed. These two systems
will apply to both the management of the enterprise and
to the workers. With regard to reward and punishment,
it is necessary to consider both moral and monetary
incentives; which ones, for whom, and for what purpose
remain to be determined. Punishment, demotion, salary
decreases, and transfer to less pleasant jobs can become
necessary. As a complement, a system of supervision and
control is needed, including financial and material
accounting to check the quantities of resources supplied
to and produced by the enterprise. Some have even
suggested the need for product specification to prevent
managers from covering up their deficiencies by
producing products of inferior quality (Chapter 5.1.4),
the same as in a capitalist market system.

Another element pertaining to enterprise
management that did not receive attention in the debate
is the criterion measuring the success of socialist
enterprise managers. The recent Soviet experience in
this matter is instructive. Profitability has been
suggested as a criterion, but some have argued that, as
far as the marginal cost pricing rule is concerned, the
managers of increasing cost industries would appear to

be the most successful (Chapter 5.1.4). Once again,

196
there should not be a single but a number of success
criteria, among them profitability, product quality,
product safety, value of assets, and production and

delivery deadlines.

6.5 Consumers' versus Planners' Preferences

 

One argument raised by the Austrians is that under
socialism consumer sovereignty is ignored since
planners' preferences replace consumers' preferences.
The Austrian school of economics, Mises and his
disciples in particular, not only advocated freedom of
choice of consumers but also wanted complete consumer
sovereignty. In "descriptive" form, "all economic
processes are ultimately focused toward satisfying the
wants of the final consumer"; in the normative form,
consumer sovereignty evaluates the performance of any
economy by the degree to which it satisfies these
wants.6 It is understood by the Austrians to be
associated with free markets and private ownership of
the means of production in the context of a
laissez-faire economy. However, it suffers from obvious
problems inasmuch as it is

attainable only by complete avoidance of

governmental interference with the markets

and of restrictions on the freedom of

sellers and buyers to follow their own

judgments regarding quantities, qualities

and prices of products and services.

This form of consumer sovereignty cannot be achieved in

any real economy since the government is called upon to

197
determine rights and to intervene in many and varied
ways in the conflictual relationship between producers
and consumers. In addition, it fails to explain how
consumer wants are formed for new products. It also
"does not provide a suitable standard for weeding out

"8 such as those that are

undesired products,
undesirable due to reasons of health and morals. Not
only the socialist economy but also the capitalist
market economy fails to abide by this notion of consumer
sovereignty. It can exist only in a laissez-faire ideal
economy.

The Austrian school's understanding of consumers'
preferences is based on the same premises as its concept
of consumer sovereignty. In actuality, preferences of
consumers in the functioning capitalist economy are
affected by many variables that seem at conflict with
the Austrian formulation. The consumer is highly
influenced by advertisement, and in this and other ways
his preferences are not formed independently (Chapter
2.7). Rather than firms producing the goods consumers
want, they can produce the goods first and lure the
consumer into demanding them. This is apparent when new
products are introduced and can only be sold by
appealing to the consumer or influencing his judgment
that he really needs such a product.

Another element affecting consumers' preferences

is the distribution of income, such that some consumers

198

have more "votes" than others in the kind of goods they
acquire. Since any good is demanded if it is both
desired and affordable, some production caters to those
who can afford the commodity in question, particularly
luxuries. Once these goods are in the market, and due
to tastes being acquired rather than innate (Chapter
2.7), the less fortunate might be tempted (due to
certain cultural pressures and influences) to sacrifice
other necessary goods in order to buy such luxuries. In
effect, then, consumers are once again lured into buying
goods that they in some sense do not really want“ or
cannot afford.

The initiative of what to produce lies with the
producer rather than the consumer. In the case of
oligopolies and monopolies, other things being equal,
consumers might never have a choice but to buy the goods
supplied by producers. These firms are not there to
produce the goods that consumers want but to make
profits. In certain circumstances, consumer
satisfaction and profit maximization are in conflict as
far as the producer is concerned, and this is more
pronounced for a monopolist. If the returns from
improving the quality of a product are less than the
costs, the monopolist will not do so, although he knows
that consumers want such improvements. The consumer has
no choice since there is no other firm from which to buy

the product. This inclination on the part of the

199
monopolist is more apparent when major innovations are
required or when obsolete technology needs replacement.

Certain products demanded by some consumers will
not appear in the market because they are either harmful
or socially unacceptable, although if consumers'
preferences are to be honored, these goods should be
offered. However, due to reasons of health, safety, and
morals, the government will interfere to prevent their
sale. In effect, consumers' preferences are not an
independent force automatically catered to by
producers. The government acts in these cases to
protect the consumer and to supply the commodities that
it "perceives" as safe; government preferences supersede
those of consumers.

Consumers' preferences as reflected in the market
cannot be catered to by private producers with regard to
public goods. Their consumption is necessarily of a
collective nature, and government acts on behalf of
consumers to produce them. In other words, the
provision of public goods is decided by the government's
perception of consumers' preferences. In other cases,
free and forced rider consequences abound.

The foregoing discussion makes it evident that the
general welfare function for a functioning capitalist
economy includes both consumers' and government
preferences (Chapter 5.2.1). In theory, the former are

taken as the driving force determining what goods are

200

produced, but in actual practice this is not the exact
picture, since consumers' preferences are affected by
producers and the government, as mentioned above. Thus,
to criticize the socialist economy based on a
theoretical premise that consumers' preferences are the
only guiding force in production decisions in capitalist
market economies is not consistent with reality.

In a socialist economy, it remains true that
planners' preferences determine, to a large extent, the
kind of goods to be produced. But this does not exclude
the influence of consumers' preferences, particularly
with regard to final consumption goods. The planning
authorities can determine which goods are desired by
monitoring how fast the a product is purchased and
whether there is a shortage or a surplus, as well as by
anticipatory marketing research. The central planning
authority could then act, based on this information, to
satisfy the preferences of consumers.

The socialist system is subject to both planners'
and consumers' preferences, and its economy is divided
between the state and the dual influence zones (Chapter
5.2.1). The former is characterized by the dominance of
state preferences and the latter assumes that the
preferences of the state and the consumers meet.
Drewnowski asserted that any economic theory of
socialism must take account of this fact, which has been

observed in the functioning socialist economies. The

201
state preference function reflects the declared targets
of policy and is thus observable; moreover, being
revealed, it also has the advantage of being an ex ante
function (Chapter 5.2.1).

Consequently, instead of merely dealing with a
theoretical ideal, that is, production decisions
determined by consumers' preferences, the fact is that
both state and consumers' preferences influence
production decisions in both capitalist and socialist
economies. Aside from the different sizes of the state
and thie‘dual influence zone, the capitalist economies
have in addition an individual influence zone where
consumers' preferences are supreme. The socialist
economies do not have such a zone.

One issue which needs to be clarified at this
point is concerned with consumer sovereignty vis-a-vis
consumers' freedom of choice. A common assumption of
competitive socialist models is the freedom of choice in
consumption, but this does not amount to acceptance by
market socialists of complete consumer sovereignty.
What is implied is that the assortment of consumer goods
to be produced is determined by the central planners,
but consumers are free to choose any combination of such
goods in the market.

In conclusion, to judge the socialist economies by

the degree to which they abide by the notion of consumer

sovereignty or the degree by which consumers'

202
preferences guide production requires the imposition of
subjective discrimination, or a value judgment. Such
abstract notions are ideal and cannot be realized except

in a nonexistent laissez-faire economy.

6.6 Macroeconomic Aspects of the Debate

 

Little attention was given by the debate's partici-
pants to macroeconomic issues concerning the socialist
economy or the economic theory of socialism. One could
attribute this ix) the fact that the socialist calcula-
tion debate was raised by the Austrian school of
economics, the premises of which are basically of a
microeconomic nature. However, the responsibility for
this omission is shared by both sides of the debate: an
economic theory of socialism--as described, for example,
by Lange's solution--has to take into account the
microeconomic as well as the macroeconomic dimensions.

The competitive socialist solutions suffer from a
major drawback: their failure to incorporate provisions
for long-tenn economic pflanning. ha particular, they
did not offer any mechanism to oversee, regulate, and
optimize overall development policy and growth. Lange
admitted this weakness in his reevaluation of the debate
(Chapter 4.2). Presumably, this would require a
decision regarding the proportions of the national
income that should be set for consumption and

investment. None of these solutions offer any answer as

203
to who would make that decision in the socialist
economy. Assuming that they support such a policy,
there was no provision for any specific organ to
effectuate it. The only exception is the solution",
advanced by Dobb, in which he assumed a specific I
long-term economic growth determined a priori by the
central planning agency (Chapter 4.3). It is hard to
imagine, however, that a: socialist would advocate that
investment decisions should be determined by the market.

The competitive socialist solutions failed to give
the necessary information tn) construct a social
preference function (Chapter 5.1.5), which leaves these
models with rm) clear expression of the national
priorities of the: central planning authority.
Furthermore, the composition of aggregate demand for
goods and services also is not defined. Specifically,
the pattern of distribution of national income among
different sectors was completely ignored in the
competitive socialist solutions.

Another element lacking in these models is their
failure to consider full employment of resources as one
of the macroeconomic targets of the central planning
authority. The rule to produce at minimum average cost
of production, although leading to productive effici-
ency, will underutilize the productive capacity. The
result is the disuse of capital at the macroeconomic

level. In addition, as far as labor is concerned, there

204
is no guarantee in these models that all of those
seeking work will be employed. In practice, however,
these factors do enter socialist central planning.

These observations lead to the conclusion that the
debate was substantially, if not solely, of a
microeconomic nature. The Austrian school's
predisposition toward the individual as the focal point
of the economy is one cause for its failure to consider
macrosocial issues. Another cause could be the
neoclassical framework of the competitive socialist
models, which concentrates (n1 issues affecting

individual actors in the economy.

205

Notes to Chapter VI

1. Phyllis Deane, The Evolution of Economic Ideas
(Cambridge, U.K.: Cambridge University Press, 1978), p.
118.

2. Daniel R. Fusfeld, The Age of the Economist
(Glenview, Ill.: Scott, Foresman and Company, 1982, 4th
ed.), p. 73.

3. Phyllis Deane, 1978, p. 123.

4. Campbell R. McConnell, Economics, 9th ed. (New
York: McGraw-Hill Book Company, 1984), p. 482.

5. Ibid.

6. Jerome Rothenberg, "Consumer Sovereignty," in
International Encyplopedia of the Social Sciences, ed.
David L. Sills (New York: The Macmillan Company and the
Free Press, 1968), Vol. 3, p. 327.

7. Douglas Greenwald (ed.), Encyclopedia of
Economics (New York: McGraw Hill, Inc., 1982), p. 40.

8. Mark Blaug, Economic Theory in Retrospect
(Cambridge, U.K.: Cambridge University Press, 4th ed.,
1985), p. 599.

 

 

 

 

CHAPTER VII

OTHER ASPECTS OF THE SOCIALIST
CALCULATION CONTROVERSY
This chapter will deal with certain additional
issues raised in the course of the socialist calculation
debate. The previous chapter covered some (n? the
theoretical issues. This chapter vdll. treat the
historical development of the debate, the problem of the
diffusion and utilization of knowledge, the
reconsideration (ms the socialist solutions, and the

debate's methodology and rhetoric.

7.1 Historical Development of the Debate

 

In 1908, long before the beginning of what came to
be known 2“; the socialist calculation controversy,
Enrico Barone advanced a general equilibrium solution to
the problem of economic calculation in the socialist
economy. It assumed neither money run: prices but
offered a solution of calculatory relative prices and
demonstrated that it produces a system of equations that
is the same as that of the competitive equilibrium.
Barone himself asserted that his model proves the

206

207
theoretical but not the practical possibility of
economic calculation in the socialist economy. Little
attention was given by the Austrian side of the debate
to Barone's solution. Even Mises, assuming his
knowledge of Barone's work, did not refer to it.

In 1920, amid the rising problems facing the first
socialist state during the war communism era, Mises
claimed that rational economic calculation under a
socialist system of public ownership of the means of
production is impossible. He went so far as to claim
that in the absence of his rational economic calculation
there can be no economy whatsoever (Chapter 2.1). This
claim was not seriously considered by the debate's
participants. However, it left the impression that the
wording and terminology of Mises's thesis were highly
dogmatic, which elicited strong responses from the
socialist side.

Two more solutions to the problem of socialist
calculation soon appeared, surprisingly, in the United
States prior to the eventual debate. Both Taylor (1928)
and Roper (1931) advanced for the first time the process
of trial and error that will achieve the same conditions
as those of the competitive equilibrium of the
capitalist economy. Neither, however, referred to Mises
or seemed aware of his thesis. Taylor implicitly

assumed that his solution is practically feasible and

208

will ensure the right runs of economic resources. Roper
asserted that, while his solution is theoretically
possible, i1: is highly unlikely tx> be practically
feasible. His reasoning was based on his belief that a
national pricing structure is of such great complexity
that its achievement is rendered beyond human ability.
In addition, the stable equilibrium which his solution
will achieve can only take place in a nonexistent static
economy.

The actual socialist calculation debate started in
England in the early 19303 with the publication of
Dickinson's solution; more accurately, he suggested
two. The first is based on the process of trial and
error ix] price «determination imi the socialist
community. Dickinson claimed that his first solution
demonstrates the theoretical as well as the practical
possibility of rational economic calculation under
socialism. His second approach was to advance a system
of simultaneous equations, the solution of which yields
equilibrium prices and quantities for the whole
economy. In his second schema, Dickinson aimed only at
demonstrating the theoretical possibility of socialist
calculation.

Arguing on ideological grounds opposite from the
Austrian economists, Dobb criticized the competitive
socialist solutions because they pmoclaimed the

possibility of combining a socialist system with a price

209

system. Dobb not only maintained that the two systems
are incompatible but also asserted that the debate's
participants shared a common invalid assumption; to wit:
the categories of economic theory are equally valid for
both systems. In effect, Dobb was criticizing the
entire framework of the neoclassical price theory which
was used to answer Mises's thesis. The market
socialists chose to ignore Dobb's arguments since he was
questioning the whole basis of their competitive
solutions. Although the arguments he advanced should
have merited more consideration, Dobb's failure to
refute Mises's thesis in the 19305 might be another
reason for the lack of attention.

Robbins criticized these solutions on the basis
that they cannot possibly satisfy the different,
complex, and changing tastes of consumers. He also
doubted that central planners could have knowledge both
of the demand functions of all products and of how best
to combine resources to produce these products. Hayek
elaborated on Robbins's criticism and asserted that the
competitive socialist solutions will not be able to plan
and determine prices for a modern complex economy.
However, Hayek admitted the theoretical possibility of
the trial-and-error solutions of Taylor, Roper, and
Dickinson (Chapter 2.9).

This admission by Hayek was a milestone in the

debate but was played down by some later Austrian

210

economists (Chapter 5.2.3). The controversy could have
stopped here inasmuch as the theoretical possibility of
any solution was sufficient in itself, because no
economic theory applicable to a whole economy was proven
completely correct in practice. However, the debate
continued. Lange accused the Austrian side of
retreating to a second line of defense by agreeing to
the theoretical but denying the practical possibility of
rational economic calculation under socialism.

Lange advanced a much more elaborate and detailed
approach using the same process of trial and error. He
demonstrated the similarities between his solution and
the condition leading to a perfectly competitive market
equilibrium. He concluded that he had demonstrated not
only the theoretical but also the practical possibility
of rational economic calculation in a socialist
economy. The socialist protagonists considered Lange's-
work the final answer to Mises and considered the matter
closed. Most economists seem to have believed that
Lange had provided a refutation of Mises.1

The Austrians, however, claimed that the debate
was far from over. Hayek criticized both Lange's work
and Dickinson's reformulation on the same basis that he
criticized the other solutions. This new criticism of
Hayek did not elicit response from the socialist side,

which considered the debate ended. Actually, A. Bergson

believed that the only issue still outstanding at the

211

end of the 19405 was the relative efficiency of
socialism and capitalism (Chapter 5.1.1). This arose
when Hayek advanced in 1945 :3 new thesis which claimed
that the socialist economy cannot utilize the dispersed
knowledge about the best way to secure the most
efficient use of resources. Once again, Hayek's new
reformulation of Mises's thesis received no response
from the socialists. That reformulation will be the
subject of the next section.

The first stage of the controversy thus ended with
the Austrians admitting the theoretical possibility of
socialist calculation. The second stage ended when the
socialist side, seemingly supported by most of the
economics profession, claimed the refutation of Pfises's
thesis by proving the practical possibility of such
calculation.2 It is worth mentioning that the
Austrians never conceded such proof. In fact, Hayek
even denied that he ever admitted the theoretical
possibility of rational economic calculation under
socialism (Chapter 4.4). The third stage of the
controversy started when Hayek reformulated Mises's
thesis into terms of the relative efficiency of
capitalism anui socialism, one issue that remains
unresolved. It is connected with the problem of
knowledge utilization and coordination, which also is

still unresolved.

212

7.2 The Problem of Knowledge Utilization

 

Hayek claimed that the yardstick measuring the
economic efficiency of any system of economic
organization is its ability to utilize the knowledge
necessary to secure the best use of resources (Chapter
4.4). He asserted that in the capitalist market
economy, such knowledge is individually acquired and
available to all in dispersed and incomplete form. Each
person uses the unique knowledge he has to secure the
best allocation of his own resources by constructing and
constantly using marginal rates of substitution. Prices
act to communicate the knowledge to individuals and to
coordinate their actions in the market. Consequently,
Hayek claimed, rational economic calculation is based on
two factors: individually acquired and used knowledge
and the communication and coordination function of
prices. According to Hayek, such calculation can only
take place in the competitive capitalist market system.

This knowledge stems from a system of private
ownership of the means of production in which an
individual, assuming other things being equal, has the
capacity to allocate the resources at his disposal in
the manner he deems best. There is no guarantee,
however, that each individual will secure the efficient
use of his resources, as the Austrian economists claim.
If a sizable portion of individuals dispose of their

resources in a manner less than efficient in the

213

Austrian sense, then economic efficiency is not assured
in the competitive capitalist market system. In
addition, not all resources are owned and allocated by
individuals in a functioning capitalist economy. The
government commands a certain portion of the national
income and allocates resources to produce public goods.
Consequently, Hayek's notion of economic efficiency
based on individually acquired and used knowledge guided
and coordinated by the price system does not necessarily
hold in a functioning capitalist market economy.

Hayek argued that this knowledge cannot enter into
statistics and consequently cannot be conveyed to or
aggregated by the central planning authority in a
socialist economy (Chapter 4.4). This knowledge is the
product of a system of economic organization and hence
it will exist only in that system. Consequently, there
is neither the need nor the desire to aggregate such
knowledge. Hayek assumed that only individually acquired
and used knowledge leads to efficient allocation of
resources. This assumption was not proven correct in
practice because some individuals might not allocate
resources efficiently, in the Austrian sense, due to
different social, economic, and psychological factors.
The effort, the time involved, and the economic cost in
seeking such knowledge might prevent some individuals
from actively acquiring it. Hayek's assumption also

excludes, without obvious rationalization, any

214
collective body from the ability to use the resources at
its disposal in an efficient manner.

Hayek assumed that this knowledge is a function of
private ownership of the means of production and as such
assumes a system of property rights that protect this
ownership and make the owner the sole person with the
right to use such ownership. Consequently, ownership of
the means of production and the incentive of profit
maximization are prerequisites for acquiring and using
this knowledge. However, this might lead to the best
use of resources, in the Austrian sense, for some
individuals but not for society as a whole. In the
socialist economy, the central planning authority acts
on behalf of the government, and presumably the people,
to use the resources entrusted with them in the best
possible manner. The central planning authority, with
this right, will develop and use specific knowledge as
to how to allocate these resources efficiently.
However, their aim will not be profit maximization but
the achievement of the maximum collective welfare for
the socialist community as defined by the leaders. This
requires the central planning authority to construct and
follow a social preference function reflecting the
national priorities as perceived by the state. This
will also require a price system complementing the
social preference function and reflecting social costs

and benefits. Hayek argued that knowledge is diffused

215

and that central planners will not be able to obtain and
use it. However, in a market economy some knowledge is
weighted more heavily than other, as with preferences
and knowledge itself. Consequently, knowledge obtained
by central planners weighs more heavily in resource
allocation and determination of the social preference
function.

The test of comparative efficiency, as understood
by Hayek's notion of knowledge, is incomplete and
inconclusive. It is necessary to agree on criteria to
judge the comparative efficiency between capitalism and
socialism, and so far there is no comprehensive
criterion. It should be mentioned, once again, that the
socialist side of the debate did not respond to Hayek's

reformulation of Mises's thesis.

7.3 Socialist Solutions Reconsidered

 

Different socialist solutions were advanced to
solve the problem posed by Mises. Those advanced prior
to and during the debate can be classified into two
categories. One is the system of general equilibrium or
the mathematical system of simultaneous equations,
examples being Barone and Dickinson (second solution).
The~ second category is tflua competitive socialist
solutions based on the process of trial and error,
exemplified fur Taylor, Roper, Dickinson (first

solution), and Lange. As previously mentioned, those in

216

the first category, while theoretically possible, cannot
be practically realized, one reason being the
unavailability of a single computer with the capacity to
conduct the huge number of necessary operations. In
addition, each single change in one variable or market
requires the recalculation of all variables within the
system; that is, these solutions require complete static
conditions. Consequently, they do not offer an answer
to Mises's contention.

The most serious criticism against the second“:
category of solutions was that their complete I

i

realization depended upon static conditions which can 1

never exist. However, the socialists countered that-
”these solutions, particularly that of Lange, demonstrate
the theoretical as well as the practical possibility of
rational economic calculation. In actuality, Lange's
model was never tested, and it is hard to predict
whether it will be realized. The answer cannot be given
either in the negative or the affirmative. As a
process, trial and error is both theoretically and
practically sound. Applied to the whole economy, a
portion of markets will clear, but there is no guarantee
that at any given moment all markets will clear and a
state of equilibrium will be realized for the whole
economy. It is feasible, therefore, to conclude that
the competitive socialist models, particularly Lange's

more elaborate one, will work in practice provided the

217
existence of an institutional framework conducive to
their doing so. Their degree of workability cannot be
judged a priori because not only economic but also
social, institutional, psychological, and political
factors have to be taken into consideration (Chapter
5.1.1).

One point is in order here. The Yugoslav economy,
although not representing any of the competitive social-
ist models, allows the combination of planning and the
competitive market economy, a mix which was criticized
by some economists (Chapter 4.3). This economy has
exhibited the same problems usually faced by the
functioning capitalist market economies: inflation,
unemployment, sectoral imbalances, and income
maldistribution. Thus, the combination of planning and
competitive markets might not be a wise choice.

Two other models were proposed in later years to
answer Mises's claim. The first was suggested by
Drewnowski (Chapter 5.2.1), what he described as the
"dual preference system." His work is highly
theoretical and resembles the general equilibrium
solutions of Barone and Dickinson. Drewnowski did not
demonstrate how these "relative prices" are to be
determined in practice. His model represents a
theoretical exercise in the possibility of calculating
relative prices based on a centralized socialist model.

The second solution was advanced by Dobb and was

218

considered a: centralized socialist planning solution to
the problem (Chapter 4.3). Dobb assumed a given rate of
growth, determined a priori by the central planners, and
exogenous productivity conditions that remain constant
during the course of long-term planning. In addition,
he treats capital as a homogeneous factor of production
reducible to a common unit of measurement. His model
leads to prices being a function of overall growth
strategy determined by long-term economic planning.
Prices in the socialist economy are a function of both
overall growth strategy and the current allocation of
resources as determined by the central plan and other
political anui social considerations. In short, Dobb's
model does not constitute a practical answer to the
problem of socialist calculation.

One possible answer to Mises in the context of a
centralized socialist planning model might be the
programming prices derived from the theory of an
optimally functioning socialist economy (Chapter 5.4).
Such a model, advanced by the Soviet mathematical school
of economics, will result in prices reflecting scarcity
conditions--as defined by (fine planners--that will allow
the overall allocation of resources based on macrosocial
cost-benefit considerations.

In conclusion, there is no specific model that can
be considered "the" answer to Mises. Different forms of

socialist economies have their advantages and drawbacks.

219
Each represents a different system of economic
organization, but all fall under the general description
of a socialist economy. Lange's solution was considered
a decentralized planning answer to Mises. A centralized
planning model, like that of the optimally functioning
socialist economy, might constitute another answer to

the Mises-Hayek argument.

7.4 The Rhetoric and Methodology of the Debate

 

It was Mises's choice of words and dogmatic
description of socialism that elicited the strong
response from the socialists. Mises chose to dub
socialism as impossible and received much criticism for
this dogmatic attitude. Even Hayek referred to this
contention of Mises as an example of the incautious
formulations of the debate (Chapter 4.4).

At the heart of the controversy was a disagreement
about what constitutes the economic problem facing
society. Hayek claimed that it is distribution of a
limited amount of resources among a practically infinite
number of competing purposes (Chapter 2.9). This
definition ignores the problem of the unequal
distribution of income and its social and economic
manifestations. Hayek used this, however, as the basis
of evaluating the performance of any economic system.
Barone defined the economic problem facing a socialist

society as the method by which individually owned and

220

collectively owned services are combined to achieve the
maximum welfare for the people (Chapter 2.2). This
definition takes income distribution into account but
fails to consider the scarcity of resources. Dickinson
defined the problem faced by the rational economy as
consisting of the use of scarce resources so as to
produce the maximum satisfaction to society at minimum
cost (Chapter 3.3). This definition is the most logical
combination of the two advanced by Barone and Hayek
since it takes into account both income distribution and
resource scarcity.

The question of means and ends did not receive its
due importance in the debate. Hayek claimed that, so
far as scientific evaluation is concerned, it is means
and not ends that are judged (Chapter 2.9). The debate
itself was more concerned with the means; it gave hardly
any attention to the ends these means are supposed to
achieve. The comparison between any two economic
systems or any two models involves both means and ends.

The participants, rather than comparing ideal
models of capitalism and socialism or the functioning
economies of both, were comparing an ideal version of
one system with a practical economy of another. The
ideal models of socialism were often compared with a
functioning capitalist market economy rather than with
its theoretical model. In some cases, the neoclassical

price theory was compared to a functioning socialist

221

econmny. There was a complete lack of benefit from the
Soviet experience, the only functioning socialist
economy during the first two stages of the controversy.
The experience of Eastern Europe and China was also
ignored in the third stage of the debate. Most
references were made 1x) existing capitalist market
economies, and few if any were made regarding the
experience of the Soviet centrally planned economy.

The Austrian side, being preoccupied with the
individual as the focal point of the economy, applied
its concepts to a socialist economy. The notion of
individuality is a function of the existing capitalist
market system with its private ownership of the means of
production. Applying this to a different system of
economic organization with public ownership of the means
of production involves passing value judgments. There
will still. be individualistic orientation in the
socialist economies. However, it will exist
side-by-side with social motivation brought about by the
economic, social, political, and institutional changes

of the new system of economic organization.

222

Notes to Chapter VII

 

1. Paul M. Sweezy, Socialism (New York: McGraw
Hill, 1949), p. 227.
2. Ibid.

 

CHAPTER VI I I
CONCLUSION

Mises's thesis proclaiming the impossibility of
rational economic calculation under a socialist economy
with public ownership of the means of production was
proven incorrect based on two fundamental arguments.
First, Mises's notions of rationality and economic
calculation are confined to actions and subjective
evaluations made by individuals within a laissez-faire
system and consequently are inapplicable in a socialist
economic system. In fact, there is no independent test
to demonstrate the applicability of Mises's rational
economic calculation to capitalist market economies;
indeed, it is hard to imagine since, contrary to Mises's
definition, such an economy requires an economic role
for the government which affects individuals' subjective
valuations and decisions. Second, the competitive
socialist solutions, by Hayek's admission, offered the
theoretical possibility of rational economic calculation
in a socialist economy. This means that these solutions
offered a theoretical refutation of Mises's thesis.

223

224

The socialist calculation controversy did not stop
here but took a different form, that is, the question of
the practical possibility of the socialist system of
economic organization. This form of the argument has
two facets. First, the claim that competitive socialist
solutions are not practically feasible is based on
conjecture because it is dealing not with the present
but with a prospective economy. Consequently, it is
difficult to judge the practical possibility of these
solutions since not only economic but also social,
political, and institutional factors will influence
their actual performance. Second, the possibility of a
socialist system of economic organization has been
proven in practice by the continued obvious existence of
socialist central planning systems, particularly that of
the Soviet Union. Both the Austrian and~ the market
socialist sides of the debate failed to consider the
obvious practical feasibility of a centralized socialist
economy and its vital relevance to their arguments.
Even the "redirection" of Mises's thesis from the
theoretical to the practical impossibility, which is
considered a "retreat" by the market socialists, failed
to prove the alleged impossibility of rational economic
calculation under a socialist economic system.

Hayek's reformulation of Mises‘s claim into the
inability of the socialist planners to acquire,

aggregate, or coordinate the dispersed and individually

225

obtained knowledge about the most efficient use of
resources did not receive any response from the market
socialists. They considered the debate closed with
Lange's demonstration of the practical possibility of
rational economic calculation under socialism. The idea
of rational economic calculation is specific to a
capitalist market system. Hayek's knowledge, which is
communicated to individuals through prices, need only
exist in a capitalist market economy. It is the product
of the system of private ownership of the means of
production which allows an individual owning nonlabor
means of production to utilize this knowledge in
efficiently allocating his resources in the most
profitable manner. In a socialist economy, such
knowledge cannot exist because nonlabor means of
production are not individually owned and because the
price system that communicates such knowledge is
different from prices in capitalist market economies.
Consequently, Hayek's notion of knowledge utilization is
the product of and need exist only in a capitalist
market economy. Hayek's claim that the ability to
utilize this knowledge is the yardstick measuring the
efficiency of any system of economic organization is not
credible. To base the test of comparative efficiency on
his notion of knowledge is incomplete and inconclusive.

Hayek's knowledge argument is inapplicable to a

socialist central planning system, where knowledge and

226

its utilization become a function of the central plan
and the planning apparatus. Pricing of capital goods
depends on both average production costs and national
planning goals. There need not be a specific
association between pricing of capital goods and Hayek's
knowledge utilization in order to have rationality and
optimality in a socialist central planning economy.

Mises‘s claim regarding the impossibility of
calculating rational prices for capital goods in the
socialist economy can be answered depending on the
interpretation of pricing. Using a neoclassical price
theory framework, the competitive socialist solutions
demonstrated the possibility of calculating prices for
capital goods by the process of trial and error. These
solutions emulated the perfectly competitive conditions
that would exist in the neoclassical market economy
model and thus obtained prices that reflect scarcity
conditions. Consequently, they provided an answer to
Mises within the context of a decentralized socialist
economic system.

Another answer to Mises can be found in a
socialist central planning system, particularly that of
the Soviet economy. Soviet pricing of capital goods is
based on average industrywide production cost, which
serves to direct allocation of resources according to
planners' objectives. While these prices are not based

on scarcity conditions, they tend to be designed to

227
achieve the goals of the national economy as perceived
by the central planning apparatus. Insofar as prices
conform with the objectives of central planning, they
are rational in the collective (social) sense. However,
there is no independent test to verify the degree of
price conformity to central planning goals.

Another possible centralized planning answer to
Mises is programming prices derived from the Soviet
theory of an optimally functioning socialist economy.
This model, advanced by the Soviet school of
mathematical economics, will result in prices reflecting
scarcity conditions--as defined by the planners-—that
will allow the overall allocation of resources based on
macrosocial cost-benefit considerations. Again there is
no independent test of confirmation.

This demonstrates that there is more than one
possible answer to Mises depending on the function
prices are supposed to serve within a specific socialist
economic system. The answer tn) Mises need not be
confined to a solution based on a neoclassical price
theory framework, as were the competitive socialist
solutions. It couhfl be fOund ix: a socialist central
planning system with prices in general, and of capital
goods in particular, partially independent of scarcity
conditions. This stems from (fine fact that the
centralized socialist economies are subject to notions

of rationality and optimality that differ from those of

228

the neoclassical and Austrian schools, which are based
on the subjective valuations by individual actors within
capitalist market economies. In a socialist system of
economic organization, these notions are based on
collective (social) valuations made through the planning
process and are reflected in the achievement of
macrosocial planning goals. Pricing of capital goods
will then be in conformity with these collective notions
of rationality and optimality. However, there is no
independent test to verify conformity.

One essential point in the socialist calculation
controversy needs to be restressed. Mises was incorrect
in using his definition of rational economic calculation
for a socialist economy. His definition applies only to
an individual and cannot be used for a collective body,
such as a socialist planning authority. It assumes that
actions taken by individuals, regardless of their
suitability for desired ends, are rational. It also
assumes that no authority should interfere in the free
will of individuals. All these lead to the conclusion
that Mises's definition of rational economic calculation
is a product of a libertarian philosophy that could
hardly be manifested except in an ideal and utopian
laissez—faire system. Consequently, Mises was incorrect
in using his definition.

As pointed out above, Mises's notion of rational

economic calculation is itself a theoretical construct,

229

since it is more suitable for a perfect or idealized
laissez-faire system than a functioning capitalist
market economy. Consequently, it could be argued that
the proof of the theoretical possibility of rational
economic calculation under socialism is sufficient to
refute Mises's contentions. In fact, Hayek admitted
such theoretical possibility even prior to the
publication of Lange's solution.

The arguments that the debate entailed have shed
light on certain critical elements. One of these is the
ideological rationale of including economic categories
such as rent, interest, and profit in the pricing of
nonlabor factors of production. These economic
categories are liable to appear in a socialist system
since their exclusion will lead to waste and resource
misallocation. In addition, their inclusion in price
calculations becomes ideologically neutral since the
returns of these categories are disassociated from
individual ownership, that is, they will not be a direct
part of any individual's income.

Another critical element of the debate is the
problem of choosing a method of cost calculation to use
as the basis of pricing in the socialist economy. While
average cost pricing results in productive efficiency in
the long run and marginal cost pricing leads to
allocative efficiency, neither is superior in all cases,

particularly for increasing or decreasing cost

230

industries. In addition, auur cost-pricing rule is
likely to lead to a uniform price for the same product,
and this means that average or marginal industrywide
production cost should be used instead of average or
marginal cost pricing of the enterprise. Consequently,
there is no single cost-pricing rule that can or should
be applied universally to all socialist enterprises.

It should be pointed out that neoclassical
economists, sharing the same view with the Austrians and
market socialists, believe that opportunity cost is the
most suitable measure of economic cost. In a socialist
central planning economy, opportunity cost, as perceived
by central planners, is worked out according to the
objectives (M3 the central plan. Consequently, the
notion of cost within the socialist central planning
economy becomes inseparable from the macrosocial
objectives of the planning system.

The debate also dealt with issues pertaining to
the management of the socialist enterprise. In
particular, the Austrian side claimed that socialist
enterprise managers will not follow the rules set by the
planning authorities. Enterprise managers will be
inclined to follow the rules, however, provided they are
subject to a system of reward and punishment and a
system of supervision and control. These two systems
should be complemented by a criterion measuring the

success of socialist enterprise managers, and it should

231
take into account profitability, product quality and
safety, value of assets, quantities of input and output,
and production and delivery deadlines.

The Austrians argued that under socialism consumer
sovereignty is ignored since planners' preferences
replace consumers' preferences. The notion of consumer
sovereignty, as perceived by the Austrians, is
associated with free markets and private ownership of
the means of production and is attainable only by the
absence of government intervention in the relationship
between producers and consumers. Consequently, it is
not fully applicable to any functioning capitalist
market economy, and it will not necessarily be
considered in any socialist economic system. Consumers'
preferences in capitalist market economies suffer from a
number of problems. They are highly influenced by
advertisement, and the provision of public goods does
not necessarily satisfy the wishes of all consumers. In
addition, they are influenced by government's role,
which interferes to prevent the sale of certain products
due to reasons of health, safety, or morals. As a
result of the unequal distribution of income and wealth,
preferences of some consumers have more weight than
those of others. In a socialist economy, planners'
preferences determine, to a large extent, the kinds of
goods to be produced. This does not prevent a socialist

planning system from conducting anticipatory market

232
research and acting on it to satisfy consumers'
preferences. To judge the socialist economies by the
degree to which consumers' preferences guide production
involves subjective evaluation.

The debate was characterized by the lack of
attention given to macroeconomic issues concerning the
socialist economy or the economic theory of socialism.
The competitive socialist solutions failed tn) offer any
mechanism that would oversee, regulate, and optimize
overall development policy and growth. They also failed
to give the necessary information to construct a social
preference function for tflma socialist economy. These
solutions also neglected to consider full employment of
resources as one of the macroeconomic targets of the
central planning authority. Consequently, the debate
was substantially, if not solely, of a microeconomic
nature. This could be attributed to the Austrian
school's belief that the individual is the focal point
of the economy and the market socialists' choice of a
neoclassical framework concentrating on issues
concerning individual actors in the economy.

There has been one major attempt to reinterpret
the socialist calculation controversy. Don Lavoie's
evaluation and assessment of the Austrian position in
the debate is important but is not convincing. First
Lavoie claims that Mises did not deny the theoretical

but only the practical possibility of rational economic

233

calculation under socialism, that is, not the pure logic
of socialism but only the possibility of applying such
logic in an efficient and rational manner. Lavoie
describes Hayek's admission (H? the theoretical
possibility (Hf rational economic calculation under
socialism as a: "clarification" rather than a "retreat."
In fact, however, Mises's attack on socialism was so
strong that it must be construed as denying the
theoretical as well as the practical possibility,
contrary to Lavoie's contention. Mises‘s thesis was in
fact treated by most proponents of the debate to cover
both the theoretical and the practical arguments.

Second, Lavoie's central theme is his
interpretation of the Austrian notion of competition.
He (asserts that id: emphasizes the rivalrous and
unharmonious nature of competition, which generates the
continuously changing structure of knowledge necessary
for efficient resource allocation. Lavoie further
claims that capitalist market prices are the
consequences of such rivalry. Lavoie concludes that the
market socialists adopted both the neoclassical notion
of harmonious competition and time market prices it
generates and hence failed to answer Mises's thesis. It
should be pointed out that both Mises and Hayek did not
specifically stress the rivalrous notion in the context
of rational economic calculation. The market socialists

were not confined to addressing Mises's thesis in terms

234

of the Austrian paradigm, as might be implied from
Lavoie's stress on the Austrians' later emphasis on
rivalrous competition. In fact, the market socialists
had argued, ‘using time structuralist, perfectly
competitive neoclassical model, the theoretical as well
as the practical possibility of rational economic
calculation under socialism.

Third, Lavoie stresses the inability of the
socialist economy to use knowledge in an efficient
manner, but this does not disprove the viability of
socialimn. Wchin any system of economic organization,
knowledge acquisition and utilization become a function
of the process of decision making. In all economies,
the collection and utilization of knowledge become the
responsibility of those making the decisions and those
applying them. Knowledge should not be associated with
individual entrepreneurs cu: market prices imi a
capitalist market economy. There is such a process in
centrally planned socialism.

Lastly, Lavoie's claim that Mises's thesis refers
only to the practical impossibility of rational economic
calculation under socialism is accompanied by an
argument that there were no stages in the debate.
Lavoie is not persuasive in such a belief: Hayek himself
admitted the theoretical possibility of competitive
socialist solutions, which marks one stage. The debate

had three stages, the last of which is that of knowledge

235
utilization, a topic implying that the debate had
finally become centered around the relative efficiency
of capitalism and socialism.

Lavoie's emphasis on knowledge utilization, as has
been seen above, neglects if not obscures one of the
leading conclusions of this study, that the socialist
calculation controversy is fundamentally a matter of
which, or whose, knowledge is to be included in decision
making. It also opposes another conclusion of this
study, that the competitive socialist models
demonstrated the theoretical as well as the practical
possibility of rational economic calculation under
socialism, so long as "rationality" and knowledge
formulation and utilization are not understood in
specifically market—system or capitalist-system terms.
Lavoie's study fails to emphasize the relevance of the
socialist central planning models to the socialist
calculation controversy. Lavoie would, of course, also
disagree with the conclusion of this study that an
answer to Mises can be found within the context of a
centralized socialist economy.

Contrary to the claims of the Austrian economists,
it seems that the debate has ended with the refutation
of Mises's thesis. The socialist calculation
controversy, however, is far from over. It is reduced
at present to the major question of which of the two

systems of economic organization--capitalism or

236
socialism--is more efficient. As stressed earlier in
this study, the need to develop an ideologically neutral
test of comparative efficiency is very essential and
will further enrich our knowledge of the socialist
calculation controversy.

The socialist calculation controversy has resulted
in the development of a new school of socialist
economics-~market socialism. Regardless of how this new
school is critically evaluated, it has had an important
influence on the development of the socialist economies
of Eastern Europe. The controversy itself has enriched
the economic literature by raising many important ideas

and questions.

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