Why Capitalism, Lecture 3

David Gordon
Mises Academy
May 7, 2013
 Mises on Population and Wages
• A lot of people missed Question 10 on Quiz 1.
This asked what Mises would say about
“Increases in population play no role in
determining how well off workers are.” Many
people thought Mises would agree with this,
but he would disagree.
• He does reject the iron law of wages---the
view the increases in population will prevent
wages from rising above subsistence.
 Population Continued
• It doesn’t follow from this that Mises believes
that population increases have no impact on
wages.
• Other things being equal, an increase in the
supply of any good lowers its price. Thus, an
increase in population will lower the price of
labor, i.e., wages.
 Profit and Loss
• “Profit and Loss” is one of Mises’s most
important essays.
• To understand it, we have to understand the
difference between profit and interest. In
business, profit often means the excess of
returns over costs. This is accounting profit.
• This is not what profit means in economic
theory.
 Interest
• To produce something, you always need land
and labor and you almost always need capital
goods, i.e., tools and machinery---goods used
in the production of other goods.
• Labor earns wages
• Land earns rent
• Capital, i.e., money invested in capital goods,
earns interest. In Austrian theory, the rate of
interest is determined by time preference.
 Profit
• Profit, in economic theory, refers to what is
left over after interest, rent, and wages have
been paid.
• How can profit exist? It appears that it
couldn’t, because the payments to the three
factors cover all of production.
• Profit exists only in disequilibrium. That is,
profit exists only when the economy is
changing.
 Consumers
• Consumers decide on what is produced.
Business owners earn money by trying to
satisfy them.
• Once prices of consumer goods are set, this
determines prices of goods used to produce
them.
• Production of higher orders depends on the
prices of lower orders of production goods.
 Prices
• A business will try to anticipate demand so
that the price it charges will maximize its
returns.
• If someone correctly anticipates that demand
for a product will increase, he can make
additional money beyond the return to his
capital.
• How does this occur?
 Mechanism of Profit
• The person who correctly anticipates an
increase in demand will be able to buy
production goods at prices that don’t reflect
this increase. If the sellers of the production
goods had also anticipated that demand for
the consumer good would rise, they would
have raised prices themselves.
• Persons who take advantage of this sort of
opportunity are called entrepreneurs.
 The Entrepreneur
• Profit is temporary. If someone makes extra
money by correctly anticipating an increase in
demand, competitors will enter the field and
drive down the rate of profit until firms in the
industry earn only the rate of interest.
• Changes in consumer preferences are always
occurring, so there are always chances for
profit.
 The Entrepreneur Continued
• In order to take advantage of a gap between
correctly anticipated demand and production
goods, it isn’t enough to see the chance for
gain.
• You have to get money to take advantage of
the opportunity.
• Mises says that you can identify the
entrepreneur as the person who will take the
loss if the plan doesn’t work.
 More Entrepreneur
• Entrepreneurs who make mistaken forecasts
will suffer losses.
• If the economy is growing, total profits will be
more than total losses.
• If he economy is neither growing or declining,
profits will equal losses.
• If the economy is declining, losses will be
more than profits.
 Benefits of Profits
• Profits are the way the changing preferences of
consumers are put into effect.
• Attempts to tax away profits impede this process.
• Marxists claim that profit comes from exploiting
workers, but this is not correct. Profits come from
seeing the gap between future demand and
costs. They don’t come from labor.
• Profits aren’t arbitrarily added on to cost. They
are present only if the gap has been anticipated.
 Errors About Profits
• Some people want to give the profits to
workers, taking them away from the
entrepreneur.
• This will slow down responses to changing
consumer demand. Workers won’t want to
shift the capital of the firm to other
businesses because this will lower their
individual shares of profit from the firm they
work for.
 More Errors
• Some people argue that profits come about
because prices are too high. This hurts
consumers.
• If production of a good is increased to lower
its price, resources must come from
something else. You can only increase
production of one good by decreasing
production of something else.
 More Errors Continued
• If you think that not enough of a particular
good is being produced, you shouldn’t criticize
those who are already producing it.
• They are doing what you want.
• You should criticize others for not entering the
field.
 Equality
• Mises gives an interesting argument against
proposals for equal distribution.
• If you believe in equality and think that the
income of capitalists should be taxed away,
why should equality be confined to one
country?
• Worldwide redistribution would be indicated,
but very few in the prosperous countries
would favor this.
 Stebbing’s Defense of “Excess”
• The British philosopher. L. Susan Stebbing
defended talk about excess profits.
• In reply to the objection that there is no non-
arbitrary way of judging what ‘excess’ consists
of, she answered that many concepts in
common use don’t have exact criteria.
• She mentioned the paradox of the heap and
the bald man paradox
 Stebbing Continued
• This is what Mises means by the acervus and
calvus arguments.
• Mises replies to Stebbing that the problem
with the concept of excess profits isn’t that we
can’t give exact criteria for it.
• The whole concept is arbitrary.