Opportunity Costs, Capital, and Calculation
Steven HorwitzI'm in Atlanta at the moment at FEE's "Introduction to Austrian Economics" seminar. Last night, Paul Cwik gave a talk on "Menger and the Early Austrians" that included a discussion of Wieser's role in originating the idea of opportunity cost. What struck me was that Paul used examples all from the producer's perspective. That is, he framed opportunity cost in terms of the expected value of the output sacrificed by putting one unit of an input to its perceived highest valued use. I don't have my Wieser with me for some strange reason, so I don't know if Wieser made the case from the producer side, but assuming so, it led me to an interesting "musing." (I'm sure Richard Ebeling will give us the facts on this one!)Most economics textbooks teach opportunity cost in terms of foregone utility from consumption choices (e.g. "beer vs. pretzels"), although Economic Way of Thinking is an exception. And I think this is consistent with the post-Marshallian vision of most economists wherein subjectivism is about consumption and value but production decisions are based on more objective notions of cost as embodied in the cost curves. Other than EWOT, how many intro books derive the supply curve using an approach that emphasizes the rising marginal opportunity cost of alternative uses of the inputs?What struck me was how this more Austrian approach that recognizes the subjectivity of opportunity costs on both sides of the market links so nicely to the centrality of capital and economic calculation in the Austrian theory of the market process. The fact that capital goods HAVE opportunity costs is the equivalent of saying that they have multiple but not infinite uses. In a world of perfectly specific capital goods, they have no opportunity cost because each input has only one use. In a world of perfectly homogeneous capital goods, they have no opportunity cost because each input can be used equally well for each output. Seeing opportunity cost on the supply side implies a conception of capital that matches with how the Austrians see it.And this, of course, is why economic calculation matters: we need a way of determining whether capital goods are being put to their most highly desired use precisely because they DO have opportunity costs. Should we use the steel for more bridges or more skyscrapers? Should we use the potatoes for more french fries or more clam chowder? Those questions only make sense in a world where capital goods have a limited number of uses, and thus have opportunity costs. It is the price system, which enables calculation and budgeting, that at least gives us a shot at making some sort of comparison and determining the best decision. Prices are, as Frederic Sautet said today, a "compass" that gives us a sense of what direction we should head. The multiple specificity of capital, economic calculation, and producer side opportunity costs are all an interconnected part of the Austrian vision. One could add into this mix Wieser's work on imputation as well. It also would seem to connect with Hayek's greater sympathy for Wieser's work, especially the stuff on imputation, than that of his contemporaries and modern Austrians. Hayek's concerns too were with the intersections among capital and calculation and the issues raised by imputation, as he notes in his end shot at Schumpeter in "The Use of Knowledge in Society."Indeed, more generally, this mix of concepts points to why Austrians reject, or at least strongly stress the limits of, general equilibrium analysis: all of these problems are absent in such a world.As I said, this is nothing more than a "musing" rather than a tighter argument so I'd be interested in comments, especially on the question of Wieser's explanation of opportunity costs. It does seem to me that thinking of opportunity cost being first and foremost about the application of inputs to outputs puts the central problem of the market order (the allocation of capital via economic calculation) into its rightful central place in economic theory.