Actually, I’m not going to solve the problem in the sense that I will find an answer to the problem. What I am going to do is finally answer the question of what the calculation problem actually is.
A quick survey of the literature shows that almost everyone has totally missed the boat. Many different opinions are out there, including by respected Austrians, and none of them grasped what the essence of the problem really is. Look at the Mises Wiki, at Rothbard’s articles, at Yeager’s paper, at the folks who debate whether Mises and Hayek said the same thing, and they all have one thing in common. They have no clue what Mises was talking about, as I will show very clearly.
Devil’s Advocate: Asking for trouble again, are you, Dave? I expect a neat summary of their positions, the reason why they are wrong, and then finally your version. I mean, a serious writer should do it that way, as you yourself have written many times.
SD: OK, in a word. Their position is that the calc problem has nothing to do with the one key element that they never mention, but Mises did. My position is that it has everything to do with the key element that they all omit.
DA: You have written a whole series of articles about the c. problem. Have you mentioned the key element there?
SD: Nope, I too was in the dark back then.
DA: And how did you discover this supposed key element, which nobody else did, not even brilliant you in the past?
SD: I was reading his book Liberalism, and he really emphasizes the key element there. Then I looked back at Chapter 26 of Human Action, and there it was, staring me in the face, and I never noticed it until then. Nor has anyone else, yet.
DA: OK lay it all out, Dave.
SD: Basically, the key element is very simple, the well known idea that you cannot compare apples and oranges. Except he’s not talking about apples and oranges, which are consumer goods, but about factors of production. Like apples and oranges, they cannot be compared except by price, and under socialism they have no price.
Here are the quotes from Liberalism, [Chapter 2 Section 4] where he says it five times. Emphasis mine, of course:
1. Capitalist economic calculation, which alone makes rational production possible, is based on monetary calculation. Only because the prices of all goods and services in the market can be expressed in terms of money is it possible for them, in spite of their heterogeneity, to enter into a calculation involving homogeneous units of measurement.
He’s saying that there is a problem of calculating without numbers, because you are trying to calculate with things that are heterogeneous, meaning apples and oranges. A free market solves this by giving them all a number, called the price, and thus makes calculation possible.
DA: Yes, all right, he does seem to say it there.
2. In a socialist society, where all the means of production are owned by the community, and where, consequently, there is no market and no exchange of productive goods and services, there can also be no money prices for goods and services of higher order. Such a social system would thus, of necessity, be lacking in the means for the rational management of business enterprises, viz., economic calculation. For economic calculation cannot take place in the absence of a common denominator to which all the heterogeneous goods and services can be reduced.
Yep, he just said it again. Heterogeneous is the problem. Trying to add up apples and oranges. Now for the third time:
3. A socialist society could not make such calculations. For it would have no possible way of reducing to a uniform standard of measurement all the heterogeneous quantities and qualities of goods and services that here come into consideration.
4. The general management of a purely socialist society wall therefore have no means of reducing to a common denominator the costs of production of all the heterogeneous commodities that it plans to produce.
5. One cannot calculate if it is not possible to reduce to a common medium of expression hours of labor of various grades, iron, coal, building materials of every kind, machines, and all the other things needed in the operation and management of different enterprises.
DA: And you say he writes this in Human Action, too?
SD: Chapter 26:
THE director wants to build a house. Now, there are many methods that can be resorted to. Each of them offers, from the point of view of the director, certain advantages and disadvantages with regard to the utilization of the future building, and results in a different duration of the building’s serviceableness; each of them requires other expenditures of building materials and labor and absorbs other periods of production. Which method should the director choose? He cannot reduce to a common denominator the items of various materials and various kinds of labor to be expended. Therefore he cannot compare them. He cannot attach either to the waiting time (period of production) or to the duration of serviceableness a definite numerical expression. In short, he cannot, in comparing costs to be expended and gains to be earned, resort to any arithmetical operation. The plans of his architects enumerate a vast multiplicity of various items in kind; they refer to the physical and chemical qualities of various materials and to the physical productivity of various machines, tools, and procedures. But all their statements remain unrelated to each other. There is no means of establishing any connection between them.
Imagine the plight of the director when faced with a project. What he needs to know is whether or not the execution of the project will increase well-being, that is, add something to the wealth available without impairing the satisfaction of wants which he considers more urgent. But none of the reports he receives give him any clue to the solution of this problem.
Then he says it again:
Moreover, in drawing his cherished curves of cost and price, the mathematical economist fails to see that the reduction of costs and prices to homogeneous magnitudes implies the use of a common medium of exchange.
And a third time:
Thus he creates the illusion that calculation of costs and prices could be resorted to even in the absence of a common denominator of the exchange ratios of the factors of production.
SD: Bottom line, there’s the key idea. You cannot compare apples and oranges, except by price. And there are no prices for producer goods under socialism.
So not only can you not compare the many different ways of making something to see which is the best, you also cannot compare the final product with the inputs that made it, to know whether it was worth making at all.
DA: Tie it all together for me, Dave. Spell it out like a proof in high school geometry. You know, an Aristotelian Syllogism.
1. In order to know which is the best way to make something, there has to be a uniform standard of measurement of the various goods and services that comprise each way of making it.
2. Under socialism, there is no uniform standard of measurement for means of production. Certainly they do not have a money price, because they are not bought and sold.
3. Thus, under socialism, there is no way of knowing if one is wasting resources on a grand scale, or not, when making something.
4. In other words, a socialist trying to figure out the best way to make something is like someone needing surgery who dials a phone number at random, hoping he is dialing the number of a surgeon. The odds are so stacked against him, and the socialist, it’s laughable.
Earlier socialist economists were stunned when Mises came out with the calculation problem. They had never thought about it, and had no reply for a while. Finally, they realized the only way was to figure out a way to have a uniform standard of measurement, a number, which they called the “price” of a given procedure. Of course, this “price” cannot be determined in the market, because there is no market, since producer goods are not for sale.
So they decided that maybe trial and error would be good way of determining a price. You take a blind guess, commit to it, and if people starve to death, or have other serious problems, you know you have to change something. Or maybe they could turn the economy into a game of Monopoly, where selected people would be given pretend money and would then pretend to buy and sell things, and have the real life “price” set based on this Monopoly game.
Of course, Mises in HA laughed all this off with the scorn it deserves.