The Basics of Austrian School of Economics: Human Action, Value and Time

In this article I will describe the basic of Austrian School of Economics. Before writing about market order, capitalism and money, there are three very important topics to be aware of: Human Action, Value and Time. The article is taking parts of the first three chapters of the book Principle of Economics written by Saifedean Ammous. For a more comprehensive understanding of these topics I recommend to read that book.

Book “Principle of Economics” from Saifedean Ammous

Human Action

“Economics is not about things and tangible objects, it is about men, their meaning and their actions. Goods, commodities and wealth and all the other notions of conduct are not element of nature; they are elements of nature; they are element of human meaning and conduct. He who wants to deal with them must not look at the external world; he must search for them in the meaning of acting men”
Ludwig Von Mises

The first concept is that to understand economics, we should not analyze the objects and their properties, but we should analyze human action. Objects are dead matter, and it is according to human action that they have value, meaning and purpose. If you want to understand the conditions of the material world, it is most useful to study the actions of the humans who mold it.

At first, Austrian School questions the economic analysis used by mainstream economics, stating that instead of with equation and quantitative analysis, economics would be much better understood using logical deduction and thought experiments. The principal reason behind it is explained by Mises in his book Human Action: “The fundamental deficiency implied in every quantitative approach to economic problems consists in the neglet of the fact that there are no constant relations between what are called economics dimensions”. There is no standard unit which economic measurements, or value that can be made and compared, becasue value is subjective. Therefore any experiment would never be precise and replicable as it happens in physics, and economical equations would never be exact. For example, for any good, we cannot calculate how much the demand would decrease in case the price increases by 1%.

As Saifedean stated, in natural sciences, the complexity of the atoms that make up a gas can be reduced to basic aggregate measures of pressure, temperature and volume without any loss in analytical accuracy. The atoms have no will on their own, they have no mind, they cannot reason and they cannot act in response to surrounding conditions, as human beings can. When examining economic questions, however, we are confronted with the reality that human beings and their actions are the causative factors shaping economic reality, motivated by their subjective considerations and personal preferences. The Austrian objection is not to economic statistics per se, but to attempt to build scientific-seeming theories out of statistical aggregates. The biggest attempt to imitate the scientific world happens in macroeconomics. Hayek called it “scientism”: the slavish imitation of the method and language of science where it is inapplicable. The hope is that, with an accurate scientific system of equations for understanding the working process of an economy, it woould become possible to manage economic activity to achieve desiderable goals. In the same way that chemists´ equation have helped engineers to perfect and optimize the working for engines and pumps, scientism searches for economic equations that can help economists imrove the state of an economy. The Keynes system has formulated equations based on Keynes´ theoretical hypothesizing. The state of the economy is primarily a reflection of the amount of spending. If spending is too high compared to output, then inflation and growth are the outcome, but if spending is too low compared to the output, then unemployement and recession are the outcome. Should unemployement be too high, modern macroeconomic equations suggest this can be fixed by increasing aggregate spending through increased government spending or expansionary monetary policies. High inflation, on the other hand, can be fixed by reducing aggregate spending through taxes or contractionary credit policies. But accounting identities do not denote real world causality. There are no mechanisms in macroeconomics to experimentally establish causality as it is possible in the natual science. Keynes´ equations attempting to predict the impact of one aggregate metric on one another bear no relation to real-world cause and effect, because there is no way of measuring, testing and verifying any of it, because one cannot experiment on entire economies comprising of millions of people who have individual life plans. As Example, Keynes system implies a trade-off between unemplyoment rate and inflation rate, but the real. World experience does not show this as it can be seen form 60 years of US government statistics. However this theory persist to this day. Hilariously, Keynesians simply revised the theory introducing the term “supply shock”, to justify how unemployment and inflation can happen simultaneosly.
After a century of aping physic and abandoning classical methodological foundation, economics has failed to produce one quantitative law or formula that can be independently tested and replicated.

Value

“Value is nothing inherent in goods, no property of them, nor an independent thing existing by itself. It is a judgment economizing men make about the importance of the goods at their disposal for the maintenance of their lives and wellbeing. Hence value does not exist outside the consciusness of men”
Carl Menger.

The starting point of the Austrian School of Ecoomics was the book “Principle of Economics” published by Carl Menger in 1871. His explanation of the value being subjective and his research on marginal analysis triggered a shift in how we have conceive economics.

Menger gives a definition for the following terms:

1. Good: something useful that we can direct towards the satisfaction of human needs. It requires that a human need exists, that the properties of the good can cause the satisfaction of that need, that humans have knowledge of this causal connection and that commanding the good would be sufficient ti direct it to the satisfaction of the human need;
2. Utility: the capacity of a good to satisfy human needs. It is a pre-requisite for an object being a good.
3. Economics: the study of human choices under scarcity. It focuses on analyzing how humans attempt to find solutions to the problem of disparity between what they have and what they want and the consequences of their choices. As scatcity is a permanent condition of existence, humans are constantly making choices between different courses of action, different goods, and different needs to satisfy.
4. Value: our subjective assessment of the satisfaction we derive from goods and what allow us to make economic decisions;

The foundation of economic analysis, and one of the groundbreaking insights from Menger´s work is that value is subjective. It exists only in the mind of the person making the valuation. It is not the inherent nature of goods that makes them valuable to us, but only our assesment of their suitability for meeting our needs. “Value does not exist outside the consciousness of men”.
Example: oil. Until the nineteenth century, the presence of oil would decreased the value of land. Once humans realized that refined oil could be burned to power machines that satisfy the needs of transportation, electricity and heat generation, it went from being a costly nuisance to an enormously valuable asset. It has been always the same oil, nothing changed in its inherent properties.

Valuation: Ordinal vs Cardinal
Subjective value cannot be measured and expressed objectively. Since valuation is subjective to the human making it, and since ist valuation is constantly shifting based on the changes in our needs and in our understanding of goods´ abilities to satisfy our needs, valuation differ from one person to another, and it is individual. Valuations are constantly shifting depending on individual conditions.
There is no objective standard by which satisfactions of humans can be compared, as the individuals themselves are the arbiters of value. There is no way of objectively measuring the satisfaction one person gets from a good in terms of the satisfactions any other person gets from the same good. Without a standard objective unit, measurement is not possible, and valuation cannot be expressed in objective numerical cardinal terms, making it impossible to measure economic value with mathematical precision. The only way we can express valuation is in ordinal terms, in which goods are compared to one another and ordered in terms of the valuing individual preference, but not valued in explicitly quantitative terms.
Human valuations for material goods, friendships, family and happinesss can only be compared, but they cannot be added, subtracted or multiplied.
It is therefore possible to compare goods in terms of value, as an individual can easily determine if they value good A more than good B, and good B more than good C, but this valuation is purely subjective, expressed in terms of the utility experience by the person making the valuation.

Value and Price
Value should not be confused with price. The price of an economic good is not its objective valuation, nor the subjective valuation of either of the transacting parties, the price at which the sale is conducted illustrates only that the seller values the good less than the price, while the buyers value it more. “Free exchange” indicates that each party received something they value more than they gave up. The only was it is possible is if we understand that they both have different subjective valuations of the exchanged good.

Determinants of Value
The fundamental difference between Austrian School of Economists and the other schools is that Austrian School views value as subjective, while the other schools conceive value as something objective, or objectively measurable. Some modern economics text books define value as a function of utility, which they measure in terms of an imaginary and undefined unit named util. There is no standard for what constitutes a util, and no way of measuring anything in terms of utils. Marxists, on the other hand, think that value is determined by the labor that goes into the production of a good, an absurd contention according to which things become more valuable if work is expended on producing them, regardless of anyone wanting to own them. If you were to spend equal time baking a normal cake or a cake of mud, the Marxists would argues that both cakes would be valued the same.
In reality, goods are only valued because of their ability to satisfy our needs. A buyer is not interested in how much time and effort went into making a product when he purchases it, but only in the services and utility the product provides him. The output woould not become more valuable. to others just because of the effort spent producing it; its uselessness renders it worthless to anybody who cares to value it. How consumers determine the subjective value of objects is up to them. The same individual will value the same good at different valuations at different times and place, depending on many factors; most notably their existing stockpile of good.

Marginalism
Menger´s other momentous contribution to economics is the concept of marginalism. After establishing that the value of goods is not inherent to them, but is rather subjective and depdent on their ability to satisfy our needs, Menger applied this to the study of the value of different units of the same good and, int he process, laid the foundation for modern economic analysis.
Since the value of goods is derived from their ability to provide us satisfaction, and since different satisfactions have unequal value to us, the value of different units of the same good will be also unequal, as it depends on the satisfactions they meet. The same good will have a different value to the same person depending on what need of his meets at a given point of time. Individuals use the first unit of a good to meet the most important and pressing needs related to it. They will use the second unit to meet the second most pressing need. As the quantity of the good they own increases, the needs that are met are less valuable and less pressing. In other words, identical goods will have different values for individuals, because the utility dereived from them is not identical. The first unit is the most valuable, and as the number of units consumed increases, each marginal unit is less valuable than the previous one.
Menger illustrated that the valuation we place on goods is not dependent on their total or overall utility and that their utility is not inherent to these goods in the abstract, regardless of their quantities. Rather, the importance hat we attach to goods is inextricably dependent on the quantity of these goods, and their quantity in relation to the existing supply of the good we have at our disposal. Humans make decisions based not on the total abstract utility of an object but on the utility offered by distinct quantities of the good and their ability to satisfy our distinct needs.
The law of diminishing marginal utility states an individual´s valuation and utility derived from a good will decline as the quantity of the good they hold increases. Since individuals use the first units of a good that they acquire for the fulfillment of the most pressing needs it can address, it must therefore follow that the first unit of any good increase and each marginal unit goes toward meeting a less pressing need, each marginal unit will have a lower value to the individual.

Valuation by the Least Valuable use
As individuals deploy their inventory of a good to meet their most pressing needs, their valuation of the marginal unit will reflect their valuation of the least important satisfaction this good assures. Thus when making purchasing decisions, an individual´s valuation of a good will reflect his valuation of the least important satisfaction it provides.
Example: a man deciding to pay for a meal will not pay based on how much he values food in the abstract or how much he values all the food he has eaten throughout his entire life. He will pay up to the value he attaches to the next meal itself. He is not valuing it as if it was difference between life and death, because it is not. The decision about the next mean is valued according to the need the next meal satisfies for the man, which, being one meal, will be significantly lower than the value of food keeping him alive in general or the value of all the previous meals that ensured his survival until today. Also the value of water is not related to survival but the value of the less pressing needs.

Water-Diamond Paradox
The law of diminishing marginal utility solves the water-diamond paradox, an explanation of which had evaded economists for centuries. How could economists explain that water, which was essential for human life, was usually very cheap, whereas diamonds, which are luxury goods that servce no essential life purpose for humans, are very expensive?
Market value does not pertain to some inherent property of the good or to the value that all of its stockpiles afford us; it is based on the least important of the satisfactions the good meets. Since drinking water is usually available in large quantities wherever humans are settled, it, therefore, follows that the most pressuring needs are already met, and that the choices are being made over units meeting far less pressing needs. Diamonds, on the other hand, being very rare and available in very small quantities, are purchased by people deploying them for some of their highest-valued uses. In case a man is stranded in the desert without access to water, the choice would go to water because it would mean life instead of death for him. The paradox illustrates the importance of individual circumstances to the assesment of subjective value.

Time

“Man is subject to the passing of time. He comes into existence, grows, becomes old, and passes away. His time is scarce. He must economize it as he economizes other scarce factors. The economization time has a peculiar character because of the uniqueness and irreversibility of the temporal order.”

Ludwing von Mises

Human action happens across time. All economic decisions take place across time, and production requires time. Being mortal, man´s time on earth is scarce, and that scarcity makes it an economic good and gives it value. Austrian economists wrote eloquently about the importance of understanding the temporal dimension of human action and the unique nature of time as an economic good. Human time is the ultimate resource and that economic scarcity is a consequence of human time. The economizing of time is the ultimate economizing act, from which all economic decisions flow. Given more time, humans can make more economic goods. There are no binding physical constraints on the production of economic goods, and with the dedication of more human time and effort, the output of any good can be increased indefinitely. Only the scarcity of time is what forces us to make choices between economic goods, creating their scarcity.

In the book “the Ultimate resource”, Julian Simon argues that human time, or human labor, is the ultimate resource because it can be used to make all economic goods and resources. The dedication of time to any production process would lead to an increase in the supply of its output, which leads Simon to argue that using the term “resource” to describe material goods is a misnomer, as material resources are the products of deploying the one ultimate resource, human time, to transform materials that are practically indefinitely abundant into useful economic goods. The term resource suggest a fixed pool that humans draw down as they consume, but in reality, resources need to be produced before they are consumed, and their production is limited not by their physical abundance on our enormous planet, but by the amount of time humans dedicate to producing them, and their opportunity cost in terms to other goods. Raw materials, metals and fuels are not given to us as manna from heaven; they are the complex output of sophisticated production processes to extract and deploy them to meet human needs. Scarcity is a function of the finite nature of human time. While material good are technically scarce on earth, their absolute quantities within the planet are far beyond our abilities to exploit. The amount of raw materials is, therefore, not what makes them scarce. What makes them scarce for us is the time that is required to produce them, since that is limited and is constrained in a very vivid sense to us.

The scarcity of time is why humans have to think not just about direct monetary costs associated with any activity, but about its opportunity cost: the cost of an activity in terms of the forgone value of a different activity in which a person could have engaged. We cannot engage in all activities, we must choose and the time needed to carry out activities is always a constraint, and humans must factor in the alternatives they forego every time they partake in an activity.

Abundance of Resources
The most common measure to discuss the abundance of resources is known or proven reserves, which refers to quantities of a resource that are definitely known to exist in particular locations and that can be extracted with current technology and prices. Proven reserves are but the tip of the giant submerged iceberg of the Earth´s total resources, which we cannot ever hope to estimate with any accuracy. Earth is enormous, and its exact composition is very difficult to ascertain from the surface. The total are used for mining was estimated to be 0.011% of the planet surface area. If Earth was the size of a soccer field the surface area of all world mines would be circa the size of a desk. If earth was a ball with a diameter of 1m, the deepest hole ever dug its crust would be 0.27 mm. The vast majority of Earth´s surface has not been dug in search of resources, and in the few places where we have dug, we have barely scratched the Earth´s surface. If the Earth volume was that of an Olympic swimming pool, all the world´s mines would be roughly the size of half a glass. Therefore, worrying about the total amount of resources is so misguided. In fact, the limit and constraint on how much we can produce from each metal in any given year will continue to be the amount of time and resources we direct to its production and the amount of other goods and services we are willing to forego its production. All individual economic decisions pertaining to resources are made not based on the total stock of that resource but are made at the margin, based on the next marginal unit of land to be exploited, the marginal cost of extracting the next unit, and the marginal revenues expecting from selling it.

The Scarcity of Human Time
What we really value are not resources, but economic good made from resources. That is what requires time, and that is what is scarce. That is the scarcity from which all other scarcities originate. The raw material is everywhere around us, but the time to produce economic goods from it is scarce. Humans are not passive recipients of manna that can run out. Humans are the producers of all these resources, and when demand for these metals increases, the most important determinant of their scarcity is the action of the humans who produce them, and the incentives they face. As they face greater demand for a resource, they have the incentive to produce more of it and invest more in its production. As productivity increases, we are able to obtain larger quantities of the supply of the good per amount of time invested in producing it, meaning that the real price of the good, as measured in terms of human labor, will continue to decline. While commodity prices can and usually rises in terms of national currencies, that is a result of the debasement of national currencies. When measured against wage rates, or the price of human time, all commodities are in long-term price decline, even as consumption steadily increases.

Economists Gale Pooley and Marian Tupy measured the price of 50 basic commodities in terms of wages. The basket of those 50 commodities has fallen 75.2% over the period between 1980 and 2020, even if human population increased by 75.8% over these 40 years, decades that witnessed the largest human population growth, and the highest consumption and standards of living in history.

The only scarcity is the time humans these commodities, and that is why global wages continue to rise worldwide, making products and materials continuously cheaper in terms of human labor. The one resource whose price has risen almost continuously throughout history is human time, as mentioned by wages. As we continue to find more ingenious ways of increasing the output of physical resources, their real price, in term of human time, continues to decline, while the value of human time continues to rise. Only with this framework one can understand why humanity has never run out of any resource, even after millennia of exploiting the Earth. If resources are to be understood as finite, then the existing stockpiles would decline with with time as we consume more. But even as we are always consuming more, prices continue to drop, and the technological improvements for finding and excavating resources allow us to find more untapped stockpiles.

Even gold, one of rarest, or the rarest metal in the Earth´s crust, has been mined for thousands of years and continues to be mined in increasing quantities as technology advances over time. Scarcity is only relative to material resources, with the differences in the cost of extractions determining the scarcity. Simon had a bet with a geologist, Ehrlich, on five metals chosen by Ehrlich, on the fact that in a ten-year period, from 1980 to 1900, each of them would actually be cheaper, in real terms. In 1990, each of those metal was cheaper and after 30 years the got even cheaper in real terms, while their annual production continues to increase every year.

Time Preference
Human time being finite and uncertain means that no person knows with certainty how long they will live, or when they might die. This creates in man a Time Preference, a universal preference for earlier over later satisfaction. Individuals always prefer consuming or having a good today over any future period, because survival is never certain. Time preference is always a positive value, meaning that utility today is always preferred to the same utility tomorrow. Humans also prefer to have resources sooner rather than later, since, in the case of double goods, they would likely to enjoy their services for longer the earlier they receive them. While time preference is always positive, its value varies depending on the degree to which humans discount future utility compared to present utility. A relatively low time preference indicates a low degree of discounting of future utility, indicating a relatively greater a concern with the future. A higher degree of discounting of future utility, a relatively lower concern with the future, and a strong present orientation.

Economizing Time
We can also understand the entirety of human economizing as cantering around economizing time. The future being uncertain and time preference being universally positive mean that humans constantly seek to maximize the value of their present time. Leisure describe the time people spend doing things they enjoy for their own sake, things that bring them immediate pleasure, as opposed to things they do in exchange for a future reward or satisfaction. Spending time only in leisure would lead to an early death, and humans seek also to maximize the quantity of of time we have on Earth. Therefore, human reason allows us to conceive of a better future, to work for it, and to sacrifice present enjoyment for its sake. The more an individual values the future and works and provides for it, the more likely they are to survive into the future.

Ultimately, the economic question is how we trade off present utility against longer survival and future utility. The most important trade an individual conducts is his trade with his future self. The simplest trade is the one involving forgoing immediate pleasure in favour of labor to provide for the future. As a person is enjoying his present, he will experience a need for sustenance and shelter, at the very basic level. But food needs to be hunted, grown, or acquired, and shelter needs to be built or acquired. That requires the sacrifice of present enjoyment in favor of labor.

It is the process of lowering time preference, future orientation, and provision for the future that sets in motion the process of civilization, or, as Hans-Hermann Hope put it, “once it is low enough to allow for any savings and capital and durable consumer-goods formation at all, a tendency toward a fall in the rate of time preference is set in motion, accompanied by a “process of civilization”. As humans reap the benefits of future provision and lower time preference, they become more likely to engage in it. Work, the accumulation of capital, lead to increases in productivity, increasing the value of an individual´s time. The more people are able to provide for their future, the less uncertain it becomes, which in turn encourages further concern for the future, saving, accumulation, and a likely increase in the quantity and the value of an individual´s time on Earth.