Ludwig Lachmann

Quotes From

Capital and Its Structure (1956)

• the question which matters [in the definition of capital] is not which resources are man-made but which are man-used.#
• As long as we cling to the view that all capital is homogeneous, we shall only see, as Keynes did, the unfavourable effects of investment on the earning capacity and value of existing capital goods, since all the elements of a homogeneous aggregate are necessarily perfect substitutes for each other. The new capital competes with the old and reduces the profitability of the latter. Once we allow for heterogeneity we must also allow for complementarity between old and new capital. The effect of investment on the profitability of old capital is now seen to depend on which of the various forms of old capital are complementary to, or substitutes for, the new capital.#Quoted in Steven Horwitz, Microfoundations and Macroeconomics (2000)
• Money is largely, so to speak, a capital good ‘by proxy’. It symbolizes, at the initiation of the plan, those current services we shall need later on but which, owing to their ‘current’ character, we cannot store until we need them. We store the money instead.#Quoted in Steven Horwitz, Microfoundations and Macroeconomics (2000)
• The shape in which new capital goods make their appearance is determined largely by the existing pattern, in the sense that ‘investment opportunities’ really mean ‘holes in the pattern’.#
• In general, investments will tend to take such concrete forms as are complementary to the capital already in existence.#
• It is possible to define the economic forces engendering investment in terms which avoid the quantification of capital, or even the very concept of capital.#
• It is quite wrong to say . . . that continuous investment will lower the marginal efficiency of capital. What continuous investment will do is to destroy the capital character of some resources for which the new capital is a substitute, while increasing the incomes from labour and capital resources complementary to it.#
• A progressive economy is not an economy in which no capital is ever lost, but an economy which can afford to lose capital because the productive opportunities revealed by the loss are vigorously exploited.#
• The generic concept of capital without which economists cannot do their work has no measurable counterpart among material objects; it reflects the entrepreneurial appraisal of such objects. . . . Something is capital because the market, the consensus of entrepreneurial minds, regards it as capable of yielding an income.#
• The two greatest achievements of [economic] science within the last hundred years, subjective value and the introduction of expectations, became possible only when it was realized that the causes of certain phenomena do not lie in the ‘facts of the situation’ but in the appraisal of such a situation by active minds.#
• The business man who forms an expectation is doing precisely what a scientist does when he formulates a working hypothesis. Both business expectation and scientific hypothesis serve the same purpose; both reflect an attempt at cognition and orientation in an imperfectly known world, both embody imperfect knowledge to be tested and improved by later experience.#Quoted in Steven Horwitz, “From The Sensory Order to the Liberal Order: Hayek’s Non-rationalist Liberalism” (2000)
• Böhm-Bawerk also made it clear that his thesis did not mean that capital could not be increased in any other way than by ‘lengthening’, but only that, where this is possible, we would soon encounter diminishing returns. . . . Where existing capital is merely duplicated (‘widened’), operated by a given labour force, diminishing returns will soon appear. Where new capital resources, but of the type employed before, are being substituted for existing labour (‘deepened’), we may have to wait a little longer for diminishing returns to make their appearance, depending on the elasticity of substitution, but appear they will in the end. The only way in which we can hope to resist the pressure of diminishing returns is by changing the composition of capital and enlisting an indivisibility which, with fewer complementary capital resources, could not have been used. ‘Higher roundabout productivity’ therefore has to be interpreted in terms of this case. The only circumstances which permit it are those circumstances which permit a higher degree of division of capital.#
• That the economy ‘hits the ceiling’ may mean that a new railway line cannot be completed, or cannot be completed within the time planned, or at the cost planned. But it may also mean that even if it is completed as planed, it will lack complementary factors in the rest of the economy. Such a lack of complementary factors may well express itself in a lack of demand for its services, for instance where these factors would occupy ‘the later stages of production’. To the untrained observer it is therefore often indistinguishable from ‘lack of effective demand’.#
• Where interest rates are kept constant, no hint of ex ante disequilibrium between savings and investment can transpire. Where raw material prices are ‘controlled’ and no rising wages give a hint of approaching labour shortage, we need not be surprised if we hit the ceiling with full force. The sensitive mechanism which emits the storm signals has been switched off; the deviation of actual prices from their normal and expected levels can no longer serve as a measure of disequilibrium and a signpost for action.#
• This distinction [between economic growth and fluctuations] finds a place in a theory which confines itself to asking whether and to what extent existing resources are being used, whether, and perhaps at what speed, such resources can be augmented, and what are the circumstances in which such augmentation is likely to take place. Once we have learnt to ask how, and in what order, existing resources are being used, and what are the implications of such multiple use, once we have begun to understand the importance of the concrete form of resources in limiting the scope of multiple use, we can easily dispense with the all too simple distinction between economic growth and cyclical fluctuations.#
• Time is germane to [the problems of capital], but not merely as the dimension in which the ‘quantity of Capital’ changes, but also as the dimension in which capital resources are turned from one mode of use to another.#
• The distinction between the long and the short run referred originally to the change in resources which occurs in the former, but not in the latter, where such change means purely quantitative change. The distinction between ‘given resources’ and ‘resources adapted to demand’ is unambiguous only where the adaptation means addition or subtraction. Where regrouping exists as an alternative mode of change the matter is no longer quite so simple. The whole notion is clearly linked to a purely quantitative conception of capital.#
• A certain excess capacity, for instance in transport and power production, is necessary if a position is to be avoided in which any increase in capital in one industry requires a corresponding decline in another. It is just such an excess capacity that makes a large number of capital changes in secondary industries consistent with each other. But all this means is that there is, in an industrial economy, as a rule a fairly wide range over which variations in the different rates of investment would be consistent changes. It does not mean that inconsistent change cannot exist.#
• If by entrepreneurial decisions we mean decisions involving the making and revising of plans, there is no difference between changing a production plan and changing the composition of an investment portfolio. They are both exactly the same type of action.#
• It is true that the modern shareholder rarely takes the trouble of opposing managerial decisions with which he happens to disagree at the company meeting. But this is so because he has a much more effective way of voting against these decisions: He sells.#
• Why gramophone records with the music of Irving Berlin find a readier sale than those with the music of Schoenberg is a question about which the economist has nothing to say, but why in an inflation people come to prefer the most illiquid assets to money is a question he can hardly shirk. ‘Asset preference’ is not an ultimate determinant in the sense in which a taste for tobacco is.#
• The fundamental difference between labour and capital as ‘factors of production’ is of course that in a free society only the services of labour can be hired while as regards capital we usually have a choice of hiring services or buying their source, either outright or embodied in titles to control. The chief justification for a theory of capital of the type here presented lies in the fact that in the buying and selling of capital resources there arise certain economic problems, like capital gains and losses. In a world in which all material resources were inalienable, for instance entailed on the state, but where their services could be freely hired, there would be no more scope for such a theory of capital than there is today for a theory of labour.#
• The econometricians have thus far failed to explain why in an uncertain world the meaning of past events should be the only certain thing, and why its ‘correct’ interpretation by entrepreneurs can always be taken for granted.#
• It is quite wrong to say, for instance, that continuous investment will lower the marginal efficiency of capital. What continuous investment will do is to destroy the capital character of some resources for which the new capital is a substitute, while increasing the incomes from labour and capital resources complementary to it. In conditions of capital change the ‘marginal efficiency of capital’ . . . is thus seen to be a meaningless notion implying, contrary to common observation, that the earning capacity of all capital resources will be affected in the same way.#
• For Adam Smith the division of labour was the most important source of progress. The same principle can be applied to capital. As capital accumulates there takes place a ‘division of capital’, a specialization of individual capital items, which enables us to resist the law of diminishing returns. As capital becomes more plentiful its accumulation does not take the form of multiplication of existing items, but that of a change in the composition of capital combinations. . . . Complementarity plus indivisibility are the essence of the matter. It will not pay to install an indivisible capital good unless there are enough complementary capital goods to justify it. Until the quantity of goods in transit has reached a certain size it does not pay to build a railway. A poor society therefore often uses costlier (at the margin) means of transport than a wealthy one. The accumulation of capital does not merely provide us with the means to build power stations, it also provides us with enough factories to make them pay and enough coal to make them work. Economic progress thus requires a continuously changing composition of the social capital. The new indivisibilities account for the increasing returns.#
• Böhm-Bawerk’s ‘third ground’ [of a positive rate of interest, viz. the higher productivity of roundabout methods] is an important element of the theory of economic progress which somehow, by mistake, its author put into the wrong pigeonhole and inserted into his theory of interest.#
• Rigid prices are ‘administered’ prices in a situation in which the ‘administrators’ regard the knowledge they can withhold (from buyers and competitors) as more valuable than the knowledge they might gain by experimenting with price variations. ‘Fear of spoiling the market’ is essentially fear of what consumers and competitors will do in the future with the knowledge derived from price change now.#
• Idle capacity is economically a form of scrap kept in physical existence by optimistic expectations of future value which may or may not be fulfilled. To understand why this capacity is kept in existence we need to understand, not merely why the original plans failed, but why no alternative use for it has been found.#
• Just as the profitability of all capital goods in a combination depends inter alia on the wages of the co-operant labour, so the rate of profit on each capital good depends on the cost at which complementary capital goods can be secured.#
• Process analysis, we may say, combines the equilibrium of the decision-making unit, firm or household, with the disequilibrium of the market.#
• [In equilibrium analysis,] while the failure of each successive plan conveys significant additional knowledge to the individuals concerned, it does not affect the shape of the demand and supply curves. It merely induces individual actors to choose other points on them for testing. It is usually assumed that as a result of the accumulating experience gained from a series of unsuccessful tests, a consistent solution is sure to be found in the end, in other words, that in the ‘real world’ there does exist a ‘tendency towards equilibrium’.#
• Equilibrium analysis can tell us whether courses of action are, or are not, consistent with each other. It cannot, except in rather special circumstances, explain how inconsistencies are removed.#
• Expectations, [as opposed to preferences], always embody problematical experience, i.e. an experience which requires interpretation.#

The Legacy of Max Weber (1971)

• Institutions are very important, but their modus operandi must be examined from a firmly founded praxeological basis rather than taken for granted on the strength of some dubious biological analogy.#
• Those whose minds are too absorbed by the problems of the day are unlikely to be good prophets.#
• The relationship between plan and action is not the simple one of cause and effect, but the complex one of interaction between mental acts and observable events.#
• While ‘description of the initial situation’ is a fairly innocuous requirement in nature, where all we have to do is enumerate objects in time and space, for human action this requirement cannot be met because we should have to include something unspecifiable—knowledge! A human situation without specific knowledge makes no sense. It follows that the ‘scientific method’ of the natural sciences will be of little use to the student of action because he is unable to use the testing procedure this method prescribes.#
• No ‘explanation’ which has nothing to offer beyond successful prediction of observable events can satisfy the student of action who wishes to understand it.#
• It is true that in explaining recurrent patterns of action, the essential subject-matter of all social sciences, we cannot provide such explanation in terms of purposes, as elements of plans, because the purposes pursued by millions of people are of course numbered in millions. But often we are none the less able to provide explanations in terms of the elements common to all these plans, such as norms, institutions, and sometimes institutionalized behaviour, the maximization of profits, or the avoidance of the risk of insolvency. As long as we are able to account for the recurrence of patterns of action in terms of such elements of plans, we are successfully employing the classical method of interpretation.#
• Textual interpretation is the prototype of Verstehen. . . . It will be readily appreciated how little all this has to do with ‘intuition’. The procedure is a rational procedure of discursive study.#
• May not the struggle for power among political leaders, even irrespective of their personal qualities, gradually lead to an erosion of those fundamental institutions which circumscribe and limit the exercise of political power? Will not the leaders in the course of the political struggle have to make promises to the electorate which cannot be redeemed without whittling away some of the very institutions on which the democratic process rests?#
• It is impossible for all institutions to change at the same rate, and . . . the relative immutability of some institutions is always a necessary prerequisite for the relative flexibility of the rest.#
• The central problem of the institutional order hinges on the contrast between coherence and flexibility, between the necessarily durable nature of the institutional order as a whole and the requisite flexibility of the individual institution. In other words, this central problem does not become apparent until we come to view the institutional order in the perspective of time.#
• As regards initial situations, a human situation can never be defined exclusively in observable terms because all human action is also concerned with an unknown and unknowable future. . . . Human action cannot be regarded as mere reaction to stimulus. To understand it we have to understand what image of the future the actors are bearing in their minds.#
• The question we face [in the social sciences] is not whether such [universal] laws exist, but whether those which do (‘All men must eat in order to live’) are of much help in enabling us to understand how social situations change.#
• The method of interpretation (Verstehen) . . . is nothing less than the traditional method of scholarship which scholars have used throughout the ages whenever they were concerned with the interpretation of texts. Whenever one is in doubt about the meaning of a passage one tries to establish what the author ‘meant by it’, i.e. to what ideas he attempted to give expression when he wrote it. . . . It is evidently possible to extend this classical method of scholarship to human acts other than writings.#

Capital, Expectations, and the Market Process (1940)

• The knowledge we gain from economic study is not knowledge about things but knowledge about knowledge.#
• Any experience made conveys knowledge to us only insofar as it fits, or fails to fit, into a pre-existent frame of knowledge.#
• The merits of a particular model have to be judged by comparison with those of another model, actual or potential, not by comparison with “reality” which is, and always must remain, beyond our theoretical grasp. The common sense case for the equilibrium method is that if we wish to survey a constellation of diverse forces, the easiest method of doing so is to perform the mental experiment of imagining that state of affairs which would be reached when all these forces have unfolded all their implications.#
• The Keynesian model fits reasonably well any world in which we find the various classes of factors of production in approximately similar conditions, and where they therefore can be treated as though they were homogenous.#
• Two phases may be discerned in the process of competition, which constantly alternate. . . . Without innovation and product differentiation there would be nothing to imitate, and competition could not exist. Without constant competitive pressure from imitators of successful innovations, innovations would remain a permanent source of monopolistic or oligopolistic income.#
• The function of the stock exchange, as of any market, is not to guess the future but to reconcile, as much as possible, present actions that extend into an uncertain future.#
• The stock exchange may be viewed as the central forward market for future capital yields of indefinite horizon. Buyers and sellers on the exchange express their expectations about the chances of various plans, and thereby also evaluate the underlying capital combinations.#
• Ex ante it is by no means sure which technological changes will signify “progress” and which not.#
• The decisive question is whether the market can offer methods for the quick and effective liquidation of malinvestments, even though it cannot prevent thwarted expectations and the failure of plans. For the market economy the revision of plans has no less significance than their original conception.#
• The absence of forward markets does not by itself imply an unsatisfied demand for the services of specialized risk takers. In general, the market economy generates the institutions it needs. The lack of an institution may be attributable to the fact that it is not needed.#
• The existence of unemployment and idle resources does not necessarily indicate “lack of effective demand”; it may indicate lack of complementary capital.#
• The market process promotes the spreading of knowledge through the promotion of those capable of interpreting market data and of thus transforming them into market knowledge, and the elimination of those who cannot read the signs of the market.#
• It is not the subjective nature of expectations, any more than that of individual preferences, which makes them such unsuitable elements of dynamic theories, it is the fact that time cannot pass without modifying knowledge which appears to destroy the possibility of treating expectations as a data of a dynamic equilibrium system.#
• Instead of studying the process by which men in a market exchange knowledge with each other and thus gradually reduce the degree of inconsistency by their actions, [Keynes] roundly condemned the most sensitive institution for the exchange of knowledge the market economy has ever produced!#
• The impossibility of prediction in economics follows from the facts that economic change is linked to change in knowledge, and future knowledge cannot be gained before its time.#
• In a world of change no one type of expectation [elastic or inelastic] can be relied upon to provide stability. Neither a gullible capital market nor an obstinate one, nor, we may add, any intermediate variety is in itself a bulwark against crises of every kind. They each provide us with protection against some afflictions while leaving us unprotected against others.#
• Whenever we observe large transactions taking place at little price change this indicates a case of conflicting expectations.#
• The [economic] problem is usually stated in terms of (objective) “resources” and (subjective) “wants.” In a stationary world these terms may have an unambiguous meaning, but in a dynamic world what is a resource depends on expectation, and so does what constitutes a want worth satisfying.#
• Observable events as such have no significance except with reference to a framework of interpretation which is logically prior to them.#
• If we say that we wish to “explain” an action, what we mean is not merely that we wish to know its purpose, but also that we wish to see the plan behind the action. Plan, a product of the mind, is both the common denominator of all human action and its mental pattern, and it is by reducing “action” to “plan” that we “understand” the actions of individuals.#
• It is intelligibility and not determinateness that social science should strive to achieve.#
• An economic plan as an observed fact does not lose its significance for us when it fails. On the contrary, we owe to such a plan our criterion of success, which alone allows us to speak of failure.#
• Economic man appears in classical theory only in his capacity as a factor of production. This means not merely that the consumer is not an economic subject, but that homo oeconomicus is always a producer.#
• Divergent rates of profit in a multicommodity world are both a result of change and a cause of further change.#
• In a market economy a process of redistribution of wealth is taking place all the time before which those outwardly similar processes that modern politicians are in the habit of instituting, pale into comparative insignificance, if for no other reason than that the market gives wealth to those who can hold it, while politicians give it to their constituents who, as a rule, cannot.#
• Factor complementarity and substitution are phenomena belonging to different provinces of the realm of action. Complementarity is a property of means employed for the same end, or a group of consistent ends. All the means jointly employed for the same end, or such ends, are necessarily complements. Factor complementarity presupposes a plan within the framework of which each factor has a function. . . . Substitution, on the other hand, is a phenomenon of change the need for which arises whenever something has gone wrong with a prior plan. Substitutability indicates the ease with which a factor can be turned into an element of an existing plan. . . . The importance of substitutability lies in that it is usually possible to pursue the same end (output) with a different combination of factors. The importance of complementarity lies in that “technical rigidity” (invariability of the mode of complementarity) may often make it necessary to change the end rather than the means; an existing combination of factors is used to produce a different output.#
• The market process tends to produce a coherent complementarity pattern throughout the economic system ex post, but it does its work by compelling the scrapping of those capital goods which do not fit into this pattern, or at least their removal to other spheres of production where a pigeon-hole can be found for them, usually with a concomitant capital loss. The market process tends to eliminate the results of malinvestment but cannot prevent its occurrence.#
• The more fixed capital there is, and the more durable it is, the greater the probability that such capital resources will, before they wear out, have to be used for purposes other than those for which they were originally designed. This means practically that in a modern market economy there can be no such thing as a source of permanent income. Durability and limited versatility make it impossible.#
• Ownership is a legal concept which refers to concrete material objects. Wealth is an economic concept which refers to scarce resources. All valuable resources are, or reflect, or embody, material objects, but not all material objects are resources.#
• Whatever the merits of such a [cheap money] policy in depression or during the early stages of revival, there is one aim it cannot achieve: to maintain the level of investment activity under boom conditions.#
• Technical progress does not mean merely the introduction and diffusion of new and better machines, it also means the more efficient use of existing resources.#
• The attempt to find in a changing world somewhere an unchanging entity to serve as a measure of change is bound to fail. Economic change affects the economic significance of hours of work along with everything else. Labour hours have no “intrinsic qualities” which do not change and have economic significance.#
• In a world of dynamic change unused resources have two functions. Firstly, they act as shock-absorbers when combinations disintegrate. Secondly, their existence provides an inducement to invest in those capital goods which are complementary to them. . . . The production of new capital instruments will have different effects on the earnings of different existing capital resources. Those to which they are complements will earn more, those for which they are substitutes will earn less and often nothing at all. To ask what is the effect of the accumulation of capital on “the” rate of profit is to ask a meaningless question, since one of its main effects is to make rates of profit diverge.#
• There can be no major change which leaves the existing structure and composition of capital intact. All such change tends to create situations in which there is too much of some capital assets and too little of others. In this fact lies the ultimate reason for that instability of the “capitalistic” economy which so many deplore and so few understand.#
• Contrary to what appears to be a widely held view, Böhm-Bawerk’s chief contribution to the theory of capital was not the introduction of time, but of complementarity over time.#
• In the world of our daily experience all unexpected change entails more or less extensive capital regrouping.#
• Every major change is bound to upset some plans and disrupt some complementarities. On the other hand, it is impossible to speak of substitutable factors without defining the kind of change we wish to provide for.#
• The mere ownership of objects, therefore, does not necessarily confer wealth; it is their successful use that confers it. Not ownership but the use of resources is the source of income and wealth.#
• Once we abandon the notion of capital as homogeneous, we should be prepared to find less substitutability and more complementarity.#
• The market process derives its rationale from, and has its place in, a world in which general equilibrium is impossible. But to deny the significance of general equilibrium is not to deny the significance of equilibrating forces. It is merely to demand that we must not lose sight of the forces of disequilibrium and make a comprehensive assessment of all the forces operating in the light of our general knowledge about the formation and dissemination of human knowledge.#
• Economics has more nearly approached the ideal of a closed theoretical system in which all propositions are linked to each other and the number of fundamental hypotheses reduced to a bare minimum, than any other social science. This can hardly be an accident. No doubt such an achievement was easier for a science which deals with a sphere of life in which conduct has to be rational, on penalty of bankruptcy, and which can thus use the Logic of Action as the logical cement of its own edifice.#
• It is not the nature of our empirical material, but the nature of the questions we ask of our material, that determines the boundaries between sciences.#
• The business of the economist consists in very little else but asking what human choices have caused a given phenomenon, say a change in price, or output, or employment.#
• Technical problems can also be stated in terms of means and ends, but they only arise when we have one end and more than one means. How to produce gold is therefore a technical problem; whether to produce it at all, or to devote our resources to other ends, is essentially an economic one.#
• It is hardly an exaggeration to say that without a stock exchange there can be no market economy. What really distinguishes the latter from a socialist economy is not the size of the “private sector” of the economy, but the ability of the individual freely to buy and sell shares in the material resources of production.#
• Methodological individualism, in its backward-looking form, means simply that we shall not be satisfied with any type of explanation of a social phenomena which does not lead us ultimately to a human plan.#
• All new knowledge, technical or otherwise, is at first necessarily the possession of a few on whom it will probably confer a temporary monopoly position. Gradually, as the new knowledge is tested in the workshop as well as in the market, more and more people come to know about it, and thus the spreading knowledge of it gradually undermines the erstwhile monopoly. In the course of progress we may expect that as one “wave of knowledge” reaches the periphery of the system, becomes “common knowledge”, a new wave will emanate from somewhere else, and the process starts all over again. This, we need not doubt, is the real meaning of Schumpeters “process of creative destruction.”#
• Competition is not a market form, but the very process by which one market form evolves into another.#