Role of the State According to the Austrian School of Economics

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Many benefits to be gained by researching economics, including a greater understanding of the impact of human behavior and public policy (Callahan 2004, p. 27). The Austrian school of thought is one of the economic perspectives that many philosophers support. It arose as a reaction to the German Historical School, which sought to extract economic information from historical research (Taylor 1980, p. 7). The Austrians, on the other hand, argued that such information could only be obtained by theoretical study. Carl Menger commenced this outlook by coming up with the subjective theory of value whereby economic goods were to be subjectively appreciated with respect to the user’s expected satisfaction from them. It discredited the classical view that promoted an objective valuation of a good (Taylor 1980, p. 8). This theory was later refined by some of his disciples. Friedrich von Wieser further postulated that the costs experienced in producing a product mirrored the competing offers of other manufacturers for the resources necessary for this process (Taylor T.C., 1980, p. 8). Bohm-Bawerk stated that people held more value for goods that were present rather than those in the future (Taylor 1980, p. 8). Other theorists have since emerged including Friedrich von Hayek and Ludwig von Mises with the explanation of cyclical swings experienced in business. They posited that the government was responsible for further restricting the Austrian structure (Taylor 1980, p. 8). The Austrian school of economics promotes a unique outlook on the role that governments should play in the economy.

Several foundations of this school of thought exist. A major one is methodological individualism. It is founded on the belief that all instances of economic interaction ought to be based on individual behaviour (Arrow 1994, p. 1; Hodgson 1986, p. 212). Conventionally, each person reaches decisions to utilize different commodities, work at a particular place, elect production methods, save, and invest. Such choices eventually interact to bring about an outcome that dictates the economy’s mechanisms, which is the allocation of resources. According to Menger, the notion of individual economic efforts was paramount instead of looking at a national economy (Arrow 1994, p. 2). Understanding the latter necessitates looking at all the singular economies existent in a nation. Singular economies are embroiled in trade with each other, but the needs satisfied are of the individuals and not of the country. An individual in any economy can thus be likened to an atom in chemistry. It is because whatever occurs can eventually be traced back to the individuals involved (Arrow 1994, p. 3). They do not act separately but respond to each other whereby actions are dictated by others and personal constraints. Additionally, the process of discovery is fostered through competition. Competition occurs when one is unaware of the underlying circumstances that dictate the competitors’ behaviour (Snow 2002, p. 9). Its existence is paramount since every aspect would be an absurd undertaking if the winner was known beforehand. Competition thus becomes a technique for discovering facts. Austrians find that entrepreneurial discovery is a gradual and systematic expulsion of sheer ignorance (Kirzner 1997, p. 62; Kirzner 2000, p. 85). With time, mutual awareness increases among participants thereby driving market quantities and qualities towards values that are relative to equilibrium. Also, the dispersion of information is an imperative element. The social retention of technical knowledge is critical in every economy. The community is responsible for transmitting several vital facts in addition to the accumulated experience. This information is usually dispersed in such a way that promotes the allocation of resources. Hence, having such knowledge being concentrated in one place such as in a centrally planned society would be difficult.

Furthermore, in a system that fosters the dispersion of relevant information among many people, prices are instrumental in coordinating the separate undertakings of different persons (Hayek 1945, p. 526). The price system acts as an excellent tactic for communicating information. The game theory can be instrumental in the further comprehension of this aspect. In a game, each entity opts for one approach among many available to them (Brandenburger and Nalebuff 1995, p. 10). The payoff for each player is a function of the methods utilized by all players. Price signals and profits are possible outcomes in a meaningful game formulation. Hence, they can be employed in making things right. Additionally, there is a neoclassical perspective of perfect competition, which promotes an equality of marginal cost and price thereby insuring Pareto optimality and market efficiency (Cordato 1980, p. 394). A Pareto optimum mirrors a setting where no possible change can be made that betters one while putting another in a worse situation. In so doing, efficiency is realized. However, Austrians hold a contrary perspective. Efficiency is thus evaluated by initially looking at individuals. Then, an understanding of their purposeful behaviour can be assessed to see if it attains the set objectives. Inefficiency thereby originates from the chosen means being inconsistent with the anticipated goals (Cordato 1980, p. 396). Moreover, people are still yet to be sufficiently knowledgeable on how to use the price system. This learning has been ongoing for a long time now. Man chanced upon this system in the formation of the division of labour in addition to the coordination of the use of resources (Hayek 1945, p. 528). If this system was not discovered, then another one would be existent today. Nevertheless, there is no system that is yet to prove to be a better alternative because, without the price system, the continuation of the extensive division of labour existent today would be impossible.

Role of Government

According to the Austrian school of thought, government interventions tend to bring about market failure rather than remedy them as is envisioned. Any economic regulation inhibits prosperity since it misallocates resources besides harbouring small business and entrepreneurship (Rockwell 2010, p. 8). One such instance is embodied in environmental control, which has become one of the worst actions in recent times. Even though the exact tabulation is difficult, the losses brought about by the Clean Air Act or policies on wetlands or endangered species have been extraordinary (Rockwell 2010, p. 8). Another one is the antitrust policy, which does not bring about competitiveness irrespective of it being its objective. The occurrence of predatory pricing is refuted by simple economics since selling below the cost of production means accepting losses even with the intention of raising them later (Rockwell 2010, p. 8). The occurrence of civil rights legislation also embodies the need for governments to stay out of the market. It has intruded the labour market in such a way that employers are restricted from hiring, firing, and promoting using their own criteria (Rockwell 2010, p. 8). In so doing, the firm and labour markets experience dislocations. The sense of fairness is usually eroded owing to coming with legal preferences for some groupings. Another detriment of economic regulation is the diminishing of the entrepreneurial discovery process, which is founded on an availability of a broad range of alternatives open to how capital should be utilized (Rockwell 2010, p. 8). However, government regulation tends to limit these options by creating barriers that hinder the growth of entrepreneurial talent. Governmental regulations not only constrain existing production but also inhibit the development of better mechanisms. In this way, the Austrians posit that the government should stay out of the market.

Secondly, the Austrians hold a unique perspective on property rights and the need for a government in enforcing them. Murray N. Rothbard, an Austrian economist, postulates that a forced exchange from the state results in the loss of utility owing to the coercion (Cordato 1980, p. 401). Since a government is founded on its taxing power, no government action can amplify social utility. Hence, in a Rothbardian system, all the roles conducted by the government would be made available by the market through demand conditions. A free-market economy would bring about a carefully articulated system of property rights concerning all available resources (Cordato 1980, p. 401). In this way, general regulation of all acts, both social and economic, would be realized. Any issues of spill-overs and consequences would only come about in the event of property rights being violated in addition to their being handling being done by the courts just like any other aggression acts. Also, there is a perception among neoclassical economists that adverse effects such as pollution are the result of unenforced property rights. It illuminates on another failure of the government in proving the justification of its interference. The Austrians postulate that a clearly defined system of property rights is essential. Any spontaneous alteration in their structure results in the harbouring of plans already made by some of the property owners (Cordato 1980, p. 402). According to Rothbard, the assigning of property rights should be through the employment of ethical principles (Cordato 1980, p. 402). Efficiencies or the diminishing of costs should not be used as the basis of such a function. Therefore, any government intervention on property rights should ensure that it is guided by ethical principles.

It has already been established that the process of discovery is fostered by competition. The government should thus concentrate on doing away with entry barriers thus promoting competition and innovation (Nooteboom 1999, p. 794). Also, the government could actively engage in campaigning for inter-firm collaboration. There is evidence that cooperation, both lateral and vertical, between firms with dissimilar products or with similar ones but in different markets in no way harms competition in addition to being advantageous regarding innovation and the diffusion of innovations (Nooteboom 1999, p. 794). The only downside would be to find a way of managing dynamic transaction costs. Such a campaign would also necessitate the assurance that collusions that would bring about more barriers of entry would not be allowed. The competition will only wane when restrictions to enter the market are entertained. Also, Competition will bring about market turbulence, which Austrians find to be significant in enabling an uncovering of opportunities that are not noticeable in advance (Roberts and Eisenhardt 2003, p. 349). The process of competing is the only aspect that can bring about appropriate actions instead of employing a priori analysis. Innovation is one of the ways that promote the capturing and exploiting of profitable opportunities. Nevertheless, when competition is allowed to thrive, a high level of alertness is fostered. Innovation is usually a result of alertness and the exploitation of the prospect achieved through this state (Boettke and Coyne 2003, p. 8). In this way, firms will be free to engage in the process of spontaneous learning. Hence, any policies should be accommodative of competition.

It is the perspective of mainstream economists that government must regulate monetary policy and the banking structure through various mechanisms (Rockwell 2010, p. 9). However, the Austrian school of thought does not agree with this outlook finding that such an aspect would be better controlled via private markets (Rockwell 2010, p. 9). This Austrian viewpoint is also responsible for the increasingly radical proposals being made towards the market playing a more significant role in banking and monetary policy. One regulatory mechanism used in money and banking is that of deposit insurance, which has been popular since the fall of the S&L industry. It helps the government to act as a guarantor for loans and deposits using taxpayer money, which makes financial institutions less cautious (Rockwell 2010, p. 9). In this way, the government condones poor behaviour by doing away with the threat of getting punished for such conduct. Austrians would do away with such a mechanism, instead advocating for bank runs to take place, which would be instrumental in acting as a check. A lender of last resort would not exist, which is usually the taxpayer. Thus, illiquid and bankrupt entities would have no one to bail them out. This critique of central banking is based on the business cycle theory. This concept is based on the perception that the price system aids in communication. Any miscommunication whereby an interest rate is lower than the market or natural level via policy leads to an unsustainable growth path being fostered (Garrison 2002, p. 1). Such actions only lead to engagement in unnecessary undertakings.


In summary, the Austrian school of economics is instrumental in availing a unique outlook on the role that governments should play in the economy. There are several foundations of this school of thought. The first one is that of methodological individualism, which is founded on the belief that all cases of economic interaction should be based on individual behaviour. Secondly, there is the process of discovery, which is fostered through competition. Its existence promotes the discovering of facts. Another important aspect is the way information is dispersed since it fosters the allocation of resources. An additional element is that of price signals and profits, which has been exemplified through the game theory whereby entrepreneurs can use the two components to make things right. Additionally, there is an elaboration of how to achieve anti-neoclassical equilibrium. Austrians find that efficiency can be evaluated by initially looking at individuals and their purposeful behaviour. Inefficiency thus originates from the chosen means being inconsistent with the anticipated goals. Moreover, the historical background of the price system shows that the discovery was just by chance. Also, there has been an exposition on the role that the government can play in the economy. To start with, an elucidation of the way government interventions tend to create market failure has been illustrated through environmental regulation, antitrust policy, the diminishing of the entrepreneurial discovery process. There is also a unique perspective on property rights and the need for government. In a Rothbardian system, all the roles conducted by the government can be accomplished by the market. Nevertheless, if the government must intervene, any action must be dictated by ethical principles. Regarding free speech, the government should concentrate on doing away with entry barriers thus promoting competition and innovation. Another instance is that of money and banking whereby Austrians render central banking to be irrelevant since monetary policy and banking structure would be best controlled by private markets.

Reference List

Arrow, K.J., 1994. Methodological individualism and social knowledge. The American Economic Review, 84(2), pp.1-9.

Boettke, P.J. and Coyne, C.J., 2003. Entrepreneurship and development: Cause or consequence?. In Austrian economics and entrepreneurial studies (pp. 67-87). Emerald Group Publishing Limited.

Brandenburger, A.M. and Nalebuff, B.J., 1995. The right game: Use game theory to shape strategy. Harvard Business Review.

Callahan, G., 2004. Economics for real people. Mises Institute, Auburn.

Cordato, R.E., 1980. The austrian theory of efficiency and the role of government. The Journal of Libertarian Studies, 4(4), pp.393-403.

Garrison, R.W., 2002. Business Cycles: An Austrian Approach. An Encyclopedia of Macroeconomics, pp.64-68.

Hayek, F.A., 1945. The use of knowledge in society. The American economic review, pp.519-530.

Hodgson, G., 1986. Behind methodological individualism. Cambridge Journal of Economics, 10(3), pp.211-224.

Kirzner, I.M., 1997. Entrepreneurial discovery and the competitive market process: An Austrian approach. Journal of economic Literature, 35(1), pp.60-85.

Kirzner, I.M., 2000. Austrian Economics. Austrian Economics: Tensions and New Directions, p.85.

Nooteboom, B., 1999. Innovation and inter-firm linkages: new implications for policy. Research policy, 28(8), pp.793-805.

Roberts, P.W. and Eisenhardt, K.M., 2003. Austrian insights on strategic organization: from market insights to implications for firms.

Snow, M.S., 2002. Competition as a discovery procedure. Quarterly Journal of Austrian Economics, 5(3), pp.9-23.

Rockwell, L.H., 2010. Why Austrian Economics Matters. Mises Institute.

Taylor, T.C., 1980. An introduction to Austrian economics. Ludwig von Mises Institute.

November 23, 2022

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