Monday, June 24, 2013

Marshall on Menger’s Orders of Capital Goods

Carl Menger and Austrians generally classify goods into various orders, as follows:
(1) first order goods: consumption goods, which provide direct utility to consumers;

(2) second order goods: capital goods which are used to produce consumer goods (first order goods);

(3) third order goods: capital goods which are used to produce second order capital goods;

(4) fourth order capital goods: capital goods which are used to produce third order capital goods, and so on.
That is, consumer goods are “first order goods,” and capital goods are “higher order” goods, and in various orders as removed from the final consumer goods output.

How useful is this classification system for capital goods?

Alfred Marshall was sceptical:
“Goods have been divided into Consumers’ goods (called also Consumption goods, or again goods of the first Order), such as food, clothes, &c., which satisfy wants directly; and Producers goods (called also Production goods, or again Instrumental, or again Intermediate goods), such as ploughs and loom’s and raw cotton, which satisfy wants indirectly by contributing towards the production of the first class of goods. The line of division between the two classes is however vague, is drawn in different places by different writers; and the terms can seldom be used safely without special explanation.(1)

(1) Thus flour to be made into a cake when already in the house of the consumer, is treated by some as a Consumers’ good; while not only the flour, but the cake itself is treated as a Producers’ good when in the hand of the confectioner. Prof. Carl Menger (Volksivirthschqftslelire, ch. i. § 2) says bread belongs to the first order, flour to the second, a flour mill to the third order and so on. It appears that a railway train carrying people on a pleasure excursion, also some tins of biscuits, and milling machinery and some machinery that is used for making milling machinery, is at one and the same time a good of the first, second and fourth orders. But such subtleties are of little use. (Marshall 1895: 133–134, with n. 1, Chapter III).
On the one hand, I think Marshall was too extreme in implying that there was no useful distinction between (1) consumption goods and (2) capital goods generally, but his last point in the footnote (highlighted in yellow) was a sound one.

When capital goods are divided into different orders (as by Austrians), many can simultaneously belong to multiple orders at once. Alternatively, a capital good might belong to one order in the morning and another in the afternoon, or might be easily switched between orders.

While some capital goods might be capable of falling into one order or another, how many exceptions are there?

The Austrian system of classification of capital goods cannot be considered a universal, clear cut, or strictly useful one, if many capital goods’ classification is simultaneously to be included under different orders.

Also, the classification system obscures another point about capital: while capital goods are heterogeneous, many can have a significant degree of substitutability, flexibility and durability. A capitalist economy in which we find some important degree of adaptability, versatility and durability in the nature of capital goods also means that the Austrian capital theory underlying the Austrian business cycle theory (ABCT) is not a realistic vision of modern economies.

Vienneau (2006 and 2010) provides further discussion of this topic.

Marshall, Alfred. 1895. Principles of Economics (3rd edn.). Macmillan, London.

Menger, C. 2011. Principles of Economics (trans. Grundsätze der Volkswirtschaftslehre [1st edn. 1871] by J. Dingwall and B. F. Hoselitz), Terra Libertas, Eastbourne, UK.

Vienneau, R. L. 2006. “Some Fallacies of Austrian Economics,” September

Vienneau, R. L. 2010. “Some Capital-Theoretic Fallacies in Garrison’s Exposition of Austrian Business Cycle Theory,” September 4

1 comment:

  1. You can see the problem in Menger's distinction from the fact that people can buy tools either for production purposes, say, when a furniture maker buys a table saw to cut wood for the furniture he builds to sell in his business; or for consumption purposes, when someone buys the same model saw for a wood-working hobby at home. Menger would call the former a second-order good, and the latter a first-order good; but it could belong to both categories.