- Cafe Hayek - http://cafehayek.com -

Revisiting Ludwig Lachmann

Tweet [1]

In this, my most recent column in The Freeman [2], I express my regret for taking so long to appreciate the important and creative work of the late Ludwig Lachmann.  Here’s a slice:

Perhaps his single finest essay is his 1947 article from Economica, “Complementarity and Substitution in the Theory of Capital.” It’s easy to talk about capital not being a lump of homogeneous clay—that is, capital not being what it is assumed to be in standard macroeconomic theories—but it’s far more difficult to describe what capital specificity means and how some pieces of capital work productively in tandem with each other while other pieces compete with each other. Even more difficult is explaining why an understanding of capital substitutability and complementarity is indispensable for an adequate understanding of economic growth and of booms and busts.

In this article from 65 years ago—usefully expanded years later into his book Capital and Its Structure—Lachmann analyzes capital with a sophistication that has rarely been matched, and the importance of which has yet to be grasped by most economists. Capital’s structure, value, and what the economist Arnold Kling might call its “sustainability” in patterns of productive trade and specialization are all determined by the plans formulated by entrepreneurs, investors, and consumers. The more consistent these plans are, especially as assessed over time, the more productive are the machines, inventories, infrastructure, worker skills, and all the other goods and services lumped under the heading “capital.”

Capital, in this understanding, isn’t chiefly stuff whose productivity is determined by its engineering specifications or by anything else reducible to the laws of physics. And capital is emphatically not clay-like stuff that can be remolded instantaneously from one form (say, a locomotive) into another form (say, Wi-Fi signals) when its usefulness in its current form proves to be less than its now-expected usefulness in some different form.

The above might seem trivial. In one sense it surely is. No one can look at an espresso machine in a Starbucks or an inventory of jeans in Abercrombie & Fitch without understanding that, if too few consumers demand espresso or jeans, entrepreneurs who invested in these things will suffer losses. These entrepreneurs won’t be able to convert these specific pieces of capital into other more productive pieces of capital with a mere wave of their hands.

Yet the reality is that modern macroeconomic theory, which should be particularly focused on capital heterogeneity, is oblivious to this reality. Save for the work of a few Austrians, capital theory as done by Ludwig Lachmann is simply not today part of economics. (In an irony that would not be lost on Lachmann, the value of the “human capital” of most modern economists would plummet were they to take Lachmann’s insights into capital theory seriously.)