Economic Historians Are Wrong About the Austrian School, Says Israel Kirzner

Every student of economic history knows the Austrian tradition
had all but died out by the middle of the 20th century, supplanted
by Keynesianism and a faith in central planning. Right? Wrong.

New York University’s Israel Kirzner took on the conventional
wisdom yesterday at George Mason University’s Arlington, Virginia,
campus, at an event commemorating the 40th anniversary of
Friedrich Hayek’s acceptance of the Nobel Prize.

As most
historians would have it, the free market Austrian school of
economics had faded to obscurity by the 1930s and ’40s. In reality,
Kirzner said, that was an incredibly fruitful period for the
school, with Hayek and fellow Austrian Ludwig von Mises actively
making a series of novel doctrinal contributions. For Kirzner,
their understanding of market competition as a process, not an
equilibrium state, was one particularly groundbreaking development
that came about during those years.

The belief that had (mistakenly) evolved among mainstream
economists at the time was that the goal of market competition was
to bring about a general equilibrium in which all the facets of an
economy are balanced with each other and all the resources are
efficiently allocated. These economists thought it realistic to
expect central planners to be able to replicate, and perhaps even
improve upon, that equilibrium state. The Austrians were meanwhile
busy reminding people that market competition is a process that
creates value precisely when an economy is in
disequilibrium.

In equilibrium, profits converge to zero—there can be no new
profit opportunities by definition. But outside of a perfect
equilibrium, people who are clever enough can find gaps in the
market and fill them. Entrepreneurs are therefore able to drive
societal improvements through dynamic competition—to literally
innovate their way to greater wealth.

Markets are a process, not an equilibrium state, Hayek said.
More specifically, they are a process for discovering new
knowledge. The absolute best a central planner can hope to do
is to aggregate the information that already exists at a given
moment. But the market process not only gathers and makes sense of
vast, disparate information—it ushers into being knowledge that was
not there before at all. Vernon Smith, another of the day’s
speakers and a fellow Nobel laureate in economics, quoted Hayek as
saying, “I propose to consider competition as a procedure for the
discovery of facts as [otherwise] would not be known to
anyone.”

This was actually a fresh and exciting revelation, Kirzner
concluded, and it came at the very moment most onlookers were
declaring the Austrian tradition dead. Mainstream economists at the
time truly believed it was possible for central planners to acquire
the requisite information and construct from it a utopia.
Fortunately, Hayek and his Austrian school contemporaries were
there to show the economics profession that the journey—an ongoing
process of experimentation and discovery driven by the pursuit of
profits—is far more important than the destination.

Of course, not everyone has taken Hayek’s central insight to
heart. Earlier this week, Scott Shackford published a dispatch
from CityLab, the annual conference for urban planner
types that he described as the “temple of urban progressive
leadership.” Featuring panels with names like “Narrowing the Gap:
How Cities Can Fight Income Inequality,” the confab is apparently a
magnet for people who retain an unmatched faith in the ability of
central planners to eradicate all society’s ills. Unlike the George
Mason event’s attendees, it would seem CityLab’s participants
aren’t quite up on their Hayek.