Liberal Institutions as Nodal Points of Plan Coordination

     

As the four of us do seem to agree on the fundamental issues that Pete's opening essay raised, it seems most valuable to continue to do what we have already started to do, which is to explore some of its implications. In this comment, I want to revisit some ideas I explored in an earlier paper in which I compared Hayek's theory of mind with the Austrian theory of capital. Here, I want to emphasize the idea of "the plan" that was so central to Ludwig Lachmann's 1956 book Capital and its Structure. I then want to argue that liberal institutions are crucial for the ability to formulate, execute, and coordinate human plans in the way Lachmann discusses them.

In Lachmann's account, entrepreneurs formulate a production plan by bringing together physical capital goods and human capital that they think will complement each other in executing the plan. For Lachmann, "the plan" is the fundamental unit of human action, and it rests on the underlying expectations of the plan formulators. As actors attempt to execute those plans, some will succeed and others will fail. Those plans that fail, as measured by profit and loss, will have to be revised in light of that information. Entrepreneurs will substitute other physical and human capital for pieces of the old plan, formulating a new plan that they believe will now succeed. Even successful plans might undergo a process of revision if entrepreneurs believe that the underlying data have changed.

This, of course, is a learning process not unlike how individual human actors learn in Hayek's cognitive theory. The argument in The Sensory Order (2017 [1952]) is that humans act based on a "model" of the world which is used to "try out" various courses of action to imagine their consequences before action is taken. Hayek proposed that we then act based on which of those possibilities appears to best accomplish our goals. This is akin to a firm's budgeting process. This is the source of his argument that we live as much in a world of expectation as a world of fact. Our actions are based on the expectations produced by the implicit theories that are embedded in the model.

In addition, the success or failure of our individual actions feeds back in ways that change the model as we come to learn more about the causal structure of the world and our role in it. This is the individual analogue to profit and loss. Though the process that happens within the brain is not something we can consciously control in the way an entrepreneur can with a production plan, both seem to be examples of the twin processes of evolution and spontaneous order at the heart of Hayek's social theory. Hayek (2017 [1977]) himself recognized this when he pointed to his work on capital as prompting him to think about the mind as a similarly structured spontaneous order.

Hayek too emphasized the importance of the plan, especially in his 1937 paper "Economics and Knowledge," which put the coordination of plans at the center of what market processes do. In "The Use of Knowledge in Society," Hayek (1945) emphasized that his criticisms of planning are not criticisms of any or all planning, just the idea of one centralized plan. What the market price system does is to enable us to coordinate decentralized plans and thereby make more complete use of the various kinds of knowledge people possess.

And it is here that liberal institutions matter. As Lachmann pointed out in his 1971 book The Legacy of Max Weber, social institutions are nodal points for plan coordination. Their stability  enables us to have more certainty about the accuracy of our expectations and thereby formulate better plans. This applies both to the plans of entrepreneurs and the models we all make use of in all of our action. The rule of law, well-defined and enforced property rights, and sound money, perhaps the three core liberal framing institutions, all provide the stability necessary for better plan formulation and the increased likelihood of successful plan execution.

Put differently: for Hayek's twin processes of evolution and spontaneous order to work successfully at the level of the individual, the firm, and society as a whole, they have to be embedded in institutions that work as knowledge surrogates to both facilitate more successful plan formulation and provide feedback when those plans fail. Liberal institutions do so at all three levels far better than any alternatives.

Hayek, F. A. 1937. "Economics and Knowledge," in Individualism and Economic Order, Chicago: University of Chicago Press.

__________. 1945.  "The Use of Knowledge in Society," in Individualism and Economic Order, Chicago: University of Chicago Press.

__________. 2017 [1952]. The Sensory Order, reprinted in The Collected Works of F. A. Hayek Volume 14: The Sensory Order and other Writings on theFoundations of Theoretical Psychology, Viktor J. Vanberg, ed., Chicago: University of Chicago Press, 2017.

__________. 2017 [1977]. "The Sensory Order after 25 Years," reprinted in The Collected Works of F. A. Hayek Volume 14: The Sensory Order and other Writings on the Foundations of Theoretical Psychology, Viktor J. Vanberg, ed., Chicago: University of Chicago Press, 2017.

Horwitz, Steven. 2008. "Analogous Models of Complexity:  The Austrian Theory of Capital and Hayek's Theory of Cognition as Adaptive Classifying Systems," Explorations in Austrian Economics, Roger Koppl, ed., volume 11 of Advances in Austrian Economics, Bingley, UK: Emerald Publishing, 143-66.

Lachmann, Ludwig M. 1956.  Capital and its Structure, Kansas City: Sheed Andrews and McMeel. Online version: Ludwig M. Lachmann, Capital and its Structure (Kansas City: Sheed Andrews and McMeel, 1978). </titles/96>

___________________. 1971.  The Legacy of Max Weber, Berkeley: The Glendessary Press.