Macro economics is like magic? Close to it.

F.A. Hayek regarding the ‘Austrian School’ of economics, from The Fatal Conceit (p. 98):

By its stress on what it called the ‘subjective’ nature of economic values it produced a new paradigm for explaining structures arising without design from human interaction.

By “subjective” Hayek means that the value of the things we trade — the morning newspaper, a Coke, a haircut — is determined subjectively by each of us.

By “structure”, I believe Hayek means a system of prices by which a potato’s price becomes relative to how much time it takes you to earn enough to buy it.

All of the prices reflect the subjective values we all place on these items and these prices are discovered through the experience of human interaction and trading these things, not by anyone setting the price.

I’m reminded of an example in Russ Roberts’ The Price of Everything, when the econ professor Ruth asked who set the price of a home she plans to sell.  The seller, answered her students.  Ruth responds, so if I have a house that’s in a neighborhood where like houses normally sell for $800,000, I can set the price for $1.2 million and expect to get that price?  Who really sets the price?  Nobody.

Hayek continues:

Yet, during the last forty years, its [the Austrian school] contributions have been obscured by the rise of ‘macro-economics’, which seeks causal connections between hypothetically measurable entities or statistical aggregates.  These may sometimes, I concede, indicate some vague probabilities, but they certainly do not explain the processes involved in generating them.

Here’s the good part (emphasis added):

But because of the delusion that macro-economics is both viable and useful (a delusion encouraged by its extensive use of mathematics which must always impress politicians lacking any mathematics education, and which is really the nearest thing to the practice of magic that occurs among professional economists) many opinions ruling contemporary government and politics are still based on naive explanations of such economic phenomena as value and prices, explanations that vainly endeavour to account for them as ‘objective’ occurrences independent of human knowledge and aims.  Such explanations cannot interpret the function or appreciate the indispensability of trading and markets for coordinating the productive efforts of large numbers of people.

In other words, macro-economics is really the use of math to relate things that may not really exist.  This is a hard one for people to accept.  After all, GDP is GDP isn’t it?  It’s real?  Those statisticians and economists know what they’re doing, don’t they?

What’s real are the trades between you and others.  What’s real is the thought processes that went your mind that led you to make those trades, as well as the thought processes that went through the minds of your trading partners.

GDP is not real.  The thought processes exist somewhere — in our minds.  GDP is a number printed on a page.  What that number means doesn’t exist anywhere.

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