Probably the biggest mainstream “argument” against the Austrian School economists concerns the methodology that they use. Neoclassical economists disregard Austrian School as unscientific because it doesn’t adhere to the principles of positivism and mathematical models. The critics claim that these tools are essential to arrive at valid conclusions.
They emphasize this even more when they point out, albeit completely out of place, that economics is a science of prediction. The impact that this line of thinking has had is big, because the average person thinks that economics is all about numbers, statistics and calculations in pursuit of profit.
Nothing, however, can be farther from the truth. Mathematics plays a role in economics as big as it does in psychology, history or any other social science. The only level of mathematics that can be used in economics is simple arithmetic, useful only to measure objective things. But in order to dwell in deeper and analyze the fallacy of the use of positivism in economics, it’s important to define what economics as a science attempts to accomplish in the first place. Probably the most accurate definition is that of Lionel Robbins, laid out in 1932 in his long Essay on the Nature and Significance of Economic Science. Robbins famously claimed, “Economics is a science which studies human behavior as a relationship between ends and scarce means which have alternative uses.” So there it is. The task of economics, to break it down, is to study how humans act to achieve their goals (determined by their physical and psychical needs) through means that are scarce and which can be used in one way or another. This is called the human action. Human action is always purposeful, Ludwig von Mises pointed out, because humans look to remove uneasiness by employing some scarce resources into work. In doing this, they act rationally regardless whether the choices that they make turn out to be wrong later. They are the animals with reason, and by rising above their intuition, they use reason to maximize their utility by whatever “they can get.”
On the other hand, the neoclassical econometricians view the purpose of economics differently. They think the science is obliged to offer us conclusive advice as to what is the most optimal step in maximizing utility. They think this can and should be done by using positivist mathematical models to “measure” human behavior. According to them, this behavior can be quantified and tends to express objective patterns which can be translated into numbers and calculated. They think the economist is the computer that uses information as input and yields precise suggestions on the output. Anything outside this field of thinking is bashed as unscientific, or as Paul Krugman said, “… it is outside my radar.”
But what are mainstream economists missing that should be there to tell them that this task is absolutely impossible and therefore futile? There are several key concepts in economics that the mainstream interpret differently or don’t recognize at all, and it’s the failure to understand them that leads toward trouble.
First and foremost, it is the true understanding of value that is so crucial in economics and which the mainstream economists simply don’t get. Following the classical Ricardian line of thinking, they still can’t get rid of the notion of objective value. While not upholding the embarrassed labor theory of value necessarily (read Eugen von Böhm-Bawerk for a complete destruction of the Marxist theories on value), they do however recognize that there’s still some measurable objectivity in the human mind. By leading themselves toward this dead end, they are missing on the correct explanation of value – the subjective theory of value. Humans treat things as valuable only if they fulfill two characteristics: 1) they are useful to satisfy humans’ demands, and 2) they are scarce. Anything that is there but cannot be used to alleviate uneasiness and provide humans satisfaction will not have any value whatsoever. In addition, things that are valuable but are not in limited supply will also not have any value whatsoever. They’ll only be another physical object lying there outside the study of economics. But the subjective theory doesn’t stop here. It also tells us that when humans decide what is and what isn’t valuable, they do so very uniquely. Every person is different, and everyone judges differently at least in some way. In the same sense, the value that humans attach to things is also different, unique – simply subjective. This is why we have diversity, and above all, can trade with each other. If things had objective value, then trade would cease to exist because people wouldn’t have an incentive to exchange things that are of equal value. “Value does not exist outside the conscience of men,” hammered Carl Menger the point home.
Now what does this tell us about mathematical models? How can they possibly capture this paper and construct models to represent it? It seems very vague and arbitrary. There is a causality involved here; humans subjectively determining their needs and wants and then purposefully looking to use scarce resource to attain those goals. They “cause” something in hope of achieving the desired effect. How do we measure human wants? Do we do it by using ‘utils,’ the imaginary unit of measure for utility? Even the curves of supply and demand are nothing but abstract representations of this reality. It is pure illusion to claim that one particular model can measure the desires of humans. Human action can only be exposed in the marketplace, and only simple arithmetic may be useful to show a historical result of transactions. The future, however, cannot be predicted because humans think subjectively, and subjectivity is unpredictable.
Another fact which the neoclassical economists don’t grasp, and which relates closely to subjectivism, is human motivation versus that of other “objects” found in nature. As Gene Callahan correctly pointed out, “The study of the correlations provided by mathematical descriptions of events is central to physics and chemistry because in those fields we can determine constants of correlation that allow us to make predictions. We feel confident that electrons will not suddenly decide that they aren’t quite so attracted to protons, and that oxygen will not come to the conclusion that it would really prefer to bond with three hydrogen molecules rather than two.” The suitability of mathematics in fields like physics and chemistry is only possible due to the physical fact that some constants never change. That’s not the case in the real world of humans. While a mathematical model may be successful in determining an average range of buying habits for one person, it will fail to account for or predict changes in the behavior that may occur in the future. Treating a human as being attracted to Coca Cola and an electron as being attracted to proton is not the same, for human motivation changes and that of an electron doesn’t. Motivation, therefore, is a gigantic difference between the world of physics and that of economics, and mathematical models don’t account for this.
So, while Austrian School economists don’t regard positivism as a bad tool per se, they point out that it is horribly inadequate to be used in social sciences. In economics, a value-free science, testability is not possible. People can’t be put in a lab and tested with different “variables” or “inputs.” Psychological tests are done all the time, but they give only approximate information as to how humans would act in a particular situation. However, they’ll never provide the “result” that neoclassical positivist models promise but don’t deliver. It’s almost embarrassing when neoclassical economists run into mathematical problems, the science they desperately want to use everywhere, when they propose other bad ideas. For example, they do so when they speak of “perfect competition.” One of the characteristics that they point out in such a situation in the marketplace is the inability of the firm to have any impact in the price whatsoever as a single entity. This simply doesn’t make any sense, at least mathematically and logically, for if no firm can’t have any impact in price alone, neither can the entire group of them. Or as Walter Block put it, “A million times zero is still zero.” It’s ironic to see proponents of econometrics make such basic mathematical mistakes.
There’s a clear distinction between social and natural sciences, and this is most exposed in methods that are used to study them. It is important to discredit the use of positivism and mathematical tools in economics for two major reasons. First, because it is the despicable practice of some so-called economists who use the fame that physics and mathematics have in science to raise credibility for their work. They construct complex, hard-to-explain models and like to appear as if they have invented the universe. In fact, they have done nothing but play with meaningless numbers and hypotheses that hold true for themselves, but don’t reflect the human action in any way. It’s like the joke about the economist who lost his watch on one side of the road but was looking for it on the other side. When people asked him why he was looking for the watch there when he lost it on the other side, the economist’s response was, “There is more light around here.” The moral behind the story is that some economists try to construct models and then deflect the reality to reconcile with them, when obviously they should be doing the opposite. Second, it’s important to discredit econometricians because they, implicitly or explicitly, serve as court scientists for some of the most scandalous political and economic ideas – Socialism and Fascism. They contribute to the collectivist philosophy of central planning and the “godliness of the commissars” who with their supernatural capabilities and “angelical moral” will guide humanity toward prosperity. They contribute to the fallacy of planning, guidance, and execution of economic order by one central unit in complete disregard with the desires of the consumers, because that central unit – usually the State – knows best. It’s just another way, albeit less hostile to liberty and the free market, to claim that there is still an important role for “leaders” in economy because there are models which they can follow and maximize our welfare collectively. I need not dwell in any further to point out the tragic fallacy of these ideas, for the entire history of humanity hitherto is written by the struggle against the State.