The Second Cleavage of the Austrian School: Schumpeter’s German Writings on Economic Systems and Economic Policy in Comparison with Mises/Hayek

After World War I, economists of the Austrian School became heavily engaged in economic policy debates. On the issue of socialization, Joseph Schumpeter and Ludwig Mises took opposite positions. Long time before publication of “Capitalism, Socialism and Democracy” Schumpeter, although cautious about concrete possibilities for socialism in Germany and in Austria, was convinced that capitalism would eventually transform into a socialist system. In his “Wesen des Geldes” (1932, published only 1970) he put forward the arguments about the theoretical feasibility of a socialist economy. Mises’ thesis of the theoretical impossibility of socialism was first published 1920. In his writings on questions of economic policy published in the German weekly journal “Der deutsche Volkswirt” Schumpeter approached issues of tax policy, wage formation, monetary policy, causes and cures of the Great Depression in a pragmatic way. Recurrent economic crises before and after currency stabilization made Schumpeter skeptical whether capitalism was a viable economic order for Germany under the economic conditions of the Versailles peace treaty and with a fragmented party system. For Mises, economic problems were caused by state interventions. The Great Depression was a crisis of interventionism and of anticapitalist politics. If the theoretical basis for Mises’s verdict on an socialist economic calculation appears insufficient today, many of his specific conclusions anticipate the difficulties with real economic planning remarkably well - in 1920, before a new economic system had taken shape in reality in the Soviet Union. Later Hayek recast the argument and demonstrated the impossibility of replacing real by simulated market competition. Hayek’s newly developed understanding of the market process based on dispersed knowledge and its functioning as a discovery procedure allowed him to reaffirm Mises’ conclusions. Schumpeter thought that at a stage of high “maturity” of the capitalist system the economy could work - with some, but not a dramatic loss of efficiency - without the discovery procedure of real market competition. This can be ascribed to his relative neglect of the aspect of ignorance and uncertainty under which all economic decisions must be taken. For Schumpeter, economic policy in a capitalist system was interventionist by its very nature. Schumpeter was always willing to face a situation with all its difficulties and looked for solutions which had a chance of being debated seriously by others. Mises more or less recommends only one solution for any kind of problem: to follow strictly the principles of liberalism and absolute non-interventionism. What is behind this approach is a Platonic image of market capitalism as a system which constitutes a final ideal state. For Schumpeter, development is a pervasive phenomeneon, with trends in the different spheres of the socio-economic system interfering with each other. Schumpeter criticized the lack of historical dimension in Hayek’s thinking: instead of treating political ideas as if they were coming out of thin air, Hayek should have studied their historical origins. Then he would have discovered that they are a product of the social and economic system which he so dearly appreciates. Differences in opinion on economic systems and on questions of economic policy between Schumpeter and Mises/Hayek demonstrate that a deep cleavage in the Austrian School appeared after World War I. The main contributions to the development of economics in the 20th century which came from the Austrian School have focussed on a specific concept of competition: competition as a protracted process of rivalry, as opposed to competition as an end-state in the rivalry between buyers and sellers. This applies to Schumpeter’s economic dynamics, Mises’ analysis of economic socialism, Hayek’s insights on the use of knowledge in society and on competition as a discovery procedure. The more problematic judgements are based on the other type of concept of competition: Schumpeter’s evaluation of socialism is based on Walrasian, neoclassical thinking; Mises’ and Hayek’s “Great Refusal” of the reality of the market economy is due to their preoccupation with ideal end-states. Hence, on both sides the “second cleavage” of the Austrian School is a consequence of a deviation from its essential teachings. As regards their main contributions to Austrian School economics in the 20th century, Schumpeter and Mises/Hayek are not contradictory, but rather complementary.