This is part one of my summary of the classic and massive book, Man, Economy and State, by Austrian Economist, Murray Rothbard.
Praxeology is the study of Human Action. Human Action is defined as purposeful behavior; actions that human beings consciously take, by making use of certain means, to achieve ends in order to end up in a better state then we previously were. All purposeful action can be looked at in this way; from acting on a decision to go from standing to sitting, to acting on a decision to purchase a nicer car. When a person decides he would rather sit than stand and he acts on this desire, he is utilizing the following means in order to end up in a more comfortable state: the chair, labor and time. The act of walking toward the chair is the labor involved, and of course, all action takes place through time.
Praxeology differs from Psychology and Ethics in that unlike Psychology, Praxeology does not concern itself with the reasons why human beings take specific actions, and unlike Ethics, Praxeology does not concern itself with the actions that human beings should take. Praxeology is simply the study of the concept that all men act, and make use of means, to achieve certain ends.
The means that we use to achieve our ends are called goods. All goods are scarce, so we always make decisions about what to use certain goods for based on the urgency of our needs. For example, if I have no food, no money, and no shoes, and I find ten dollars on the ground, I will use those ten dollars to buy myself a sandwich rather than use it for purchasing shoes because to me, surviving is more important than comfort.
Goods that directly satisfy wants are called consumers’ goods. Goods that don’t directly satisfy wants but help in the production of consumers’ goods are called producers’ goods or factors of production. For example, if what I want is a sandwich, the sandwich is a consumers’ good. The ingredients that were used to make the sandwich are the producers’ goods. Those producers’ goods that need to be produced themselves are called capital goods. So, in this case, the flour used to make the bread is a capital good, but the water used to make the bread is a factor of production, but not a capital good, because water does not need to be produced. Water is a natural resource so it is considered land. Land is a term used to refer to goods that are available in the environment that don’t need to be produced. The bread itself is also a capital good, because it is used to create the sandwich, which is the consumers’ good.
A very important thing to note is that labor is a good. In fact, all capital goods can be traced back to the two original goods: labor and land. In other words, if we reverse-engineer the sandwich, we come to realize that in the beginning, some natural resources (“land”), like water, were combined with other natural resources to make the bread, which was then used to create the sandwich. But the combining of the natural resources does not occur on its own. Labor is needed to make it happen. Time is another good, which is necessary in the creation of many goods. And just like all other goods, time is scarce.
Scale of Values
Since all goods are scarce, we always make a decision about which ends to use our goods for, based on our scale of wants. In the example I used previously, obtaining food for survival was more important than having comfortable feet, so the purchase of the shoes had to take a back seat. To emphasize the fact that we a have scale of wants for all types of ends, consider the following scale:
- Watch the baseball game
- Go to the movies
- Go out to dinner
The list above represents three things a hypothetical individual would like to do. However, since time is scarce, he cannot do all three things at once, so he must choose one of these, the most important one, to do first. If the individual chooses to watch the baseball game, he has shown that watching the baseball game is a more urgent end than the other two, and so this will be the end that he will allocate his scarce good (time), for. If after watching the game, there is still time for other things, he will choose the next most urgent need to be satisfied. This is a good example because it drives home the fact that goods are not only material things, but anything that we must use as means to satisfy our needs.
The Law of Marginal Utility
Since we always use our available scarce goods for the most urgent needs that have not yet been satisfied, it follows that the more of a specific good that we have, the less urgent the need that an additional unit of that good will satisfy.
In other words, since the value of a good equals the value of the need that the good will satisfy, the value that we place on an additional unit of a good will decrease as we acquire more units of that specific good. This is The Law of Marginal Utility. The utility of the marginal unit (additional unit) will decrease as more units are added. The inverse is also true. If the marginal unit is not being added, but instead is being lost, the value of that marginal unit being lost will increase every time an additional unit is lost. This is because every time you lose the good (the marginal unit), it means you are giving up the satisfaction of a need which is more important than the need that was previously given up. The more units you lose, the more urgent will be the need that you are leaving unsatisfied.
The Law of Marginal Utility is very important because it explains, for example, why inflation, defined as the increase in the supply of money, causes the value of the currency to decrease. This is the law that explains why printing more dollars will inevitably cause the prices of goods to increase, because the value of the existing dollars will decrease.
Imagine yourself on the street with no money. Let’s say you find a five-dollar bill on the sidewalk. That five-dollar bill will be worth a lot to you because you can use it to go to your nearest fast food restaurant and get some food, of which you have none. In this case, food is your most urgent need. Now, let’s say you keep finding five-dollar bills on the sidewalk at a rate of one bill per minute. Let’s say you get to the point where you now have ten thousand dollars and you find yet another five-dollar bill. You will not be as excited about finding this five-dollar bill as you were to find the first one, since you already have ten thousand dollars. This new five-dollar bill is the marginal unit and its value has decreased because of the supply of dollars you already have. The same is true for all goods. As the supply of a good increases, the value of the good decreases.
Man would always like to increase his consumption of consumers’ goods. Since time and resources are limited, the only way for man to increase his production of consumers’ goods is to invest in capital goods: goods that don’t satisfy his needs right away, but that will help him, in the future, to increase the number of consumers’ goods being produced per unit of time, or that will help him create a brand new good, that he would otherwise not be able to obtain without the capital good.
Murray Rothbard uses the example of Robinson Crusoe stranded on an desert island to illustrate how saving is necessary to be able to produce capital goods. Crusoe, let’s say, is able to pick one hundred berries per day, by hand. He consumes all hundred berries every day. Crusoe then realizes that if he had a long stick, he would be able to obtain five hundred berries per day. The problem is that Crusoe needs time to produce the stick (create it or find one that is perfect for his needs). In order to produce the stick, he needs labor and time and currently he is using these two goods to produce the berries that he consumes every day. Crusoe also needs berries in order to be able to produce the stick. He needs berries because by allocating his time and labor for the production of the stick he is giving up the berries that he would otherwise be able to produce were he not busy producing the stick.
The only way for Crusoe to produce the capital good (the stick) is to save. We save by consuming less than the goods we have available to consume. In Crusoe’s case, he might decide to consume less berries every day for the next twenty days. If he decreases his consumption of berries by twenty per day, after twenty days, he will have saved four hundred berries. With four hundred berries, Crusoe can spend the next four days focusing on the production of the stick, while consuming one hundred berries per day. Without the saving of the berries, Crusoe would be unable to sustain his stick production project because he would have no food to consume while producing the stick.
The Universal Law of Time Preference says that any satisfaction is preferred earlier rather than later. So why would Crusoe give up berries that he can consume today, for satisfaction that will take place in the future? Because the satisfaction of five hundred berries per day in the future is more valuable to him than the twenty berries he is giving up every day during his saving period. However, if it took not five days, but three hundred days to produce the stick, Crusoe may decide it is not worth giving up twenty berries per day for the next three hundred days in order to be able to produce the stick. Man will always compare the utility of the present good he is giving up with the utility of the future good he has to wait to obtain. If he values the future good more than what he is giving up, he will decide to save and invest.
Summary of chapter 2: Direct Exchange >>
- Prices and Consumption: Summary of “Man, Economy and State,” Chp. 4
- Direct Exchange: Summary of “Man, Economy and State,” Chp. 2
- Indirect Exchange: Summary of “Man, Economy and State,” Chp. 3