What's wrong with Mises's critique of socialism
A major misconception by the free-market fundamentalists is that central planning is mathematically impossible. So they consider the Soviet example, and imagine that if only they look at Gosplan's "source code" hard enough, they will inevitably discover some bug. So they write esays like this (http://www.mises.org/pdf/econcalc.pdf), failing to point to any real bugs, but making general claims that the source code must be full of them. Theis basic argument is this: programming is hard, and they are trying to write programs, so their code must be buggy and therefore their system must crash. And when the system does crash, they are quick to claim victory, and the fact that the crash can actualy be attributed to a fire in the server room never bothers them.
However, if you look for bugs in the right place, you will quickly see that actually it is Mises's paper that needs debugging. Because in its current form, it just can't withstand any serious criticism. Let us see, for example, how Mises' analysis falls short already in the very beginning of his "proof".
In Part 1, Mises makes a series of pretty obvious observations, pointing out, correctly, the importance of money in a socialist economy. (It bears mentioning that, for some reason, many Americans imagine that a Soviet-like system rejects the use money - this is patently untrue, even if you listen to Mises). Here, however, Mises takes his first shot at finding some fatal error in Socialism. While grudgingly admitting the possibility of assigning value to consumption goods, he chooses to attack the idea of appraising the value of production goods. To quote Mises, "Money could never fill in a socialist state the role it fills in a competitive society in determining the value of production goods. Calculation in terms of money will here be impossible."
Let us pose here and think about this argument. On a first glance it looks that Mises actually has a point. If there is no free market for production goods, then how do you value, say, a tractor vs. a combine? In a capitalist economy companies will decide how much they are willing to pay for either item, but how will government bureauctats arrive at the correct valuation? Mission impossible, huh?
Well, not so simple. First of all, note that even under capitalism, there is no such thing as "objective valuation" of production goods. Upon a little thought we can immediately identify two possible prices for any piece of equipment. One price is determined by the labor theory of value: it is the number of man-hours required to produce the tractor or the combine. A capitalist would call it "self-cost" or "operating expence". Provided the market is highly competitive and there are no major production bottlenecks, the market price of the production good will approximate its self-cost. The other price is determined by the "marginal utility". For example, the extra amount of grain that can be harvested by the most efficient farmer if he purchases an extra tractor, will give you the tractor's marginal utility. If the market is monopolized by John Deere or if there are some production bottlenecks (e.g. shortage of iron), then the market price will approach the marginal utility of the production good. In a real economy the price will fluctuate between these two extremes.
The United States economy is a mixture of government-created monopolies and competing private businesses. As a result, the price of one and the same production good can vary enormously depending on the degree of government involvement. By and large, however, whenever the market is allowed to operate more or less freely, the price of a tractor is much closer to the self-cost than to the maximum price the highest bidder would pay. But this immediately destroys Mises' argument against socialism. For if the "correct" price of a tractor is equal to its self-cost plus a few percent profit, then a central planner who assigns prices based on the labor theory of value, will never be very far off the mark. Using different processes, the capitalist and the socialist have arrived to rougly the same valuation.
Mises's argument will still be valid if the productivity of labor in a given country is too low to produce the tractor as cheaply as John Deere does in America. Let's say, the country lacks automated production lines, and as a result each tractor produced locally costs a million dollars. This, presumably, is but a temporary condition. Eventually technological bottlenecks will be removed, but while resources are still limited, it is essential that the country makes the best use of what's currently available. So maybe we can say that Mises' objection is valid at least for undeveloped countries where every tractor is as valuable as gold?
Alas, here again Mises misses his target. Any honest Marxist would explain to Mises that the necessity of achieving high productivity of labor is recognized by Marxism as an essential prerequisite for Socialism. One cannot start building Socialism in a feudal economy. That's why Marx, who was well aware of this difficulty, has always insisted that capitalism must be allowed to run its course before one even begins to think of socializing production. The Marxist theory was intended for modern, technologically advanced economies; it is dishonest to critisize it for its failures outside its realm of applicability.
However, Mises still has one objection. If capital goods are not really in such short supply that they couldn't be efficiently distributed without the help of some marginal utility mechanism, then maybe some shortage of natural resources will still save the "proof"? Here is the way he puts it: "For, over and above the actual labor, the production of all economic goods entails also the cost of materials. An article in which more raw material is used can never be reckoned of equal value with one in which less is used."
This point merits a separate discussion. Above all, we must here must a clear distinction between an objective shortage and poor availability of row materials. Needless to say, to the ultra-capitalist Mises, it appears that the market price of a commodity is sacred and beyond dispute. But the reality is not very Mises-friendly. In most cases, what free-market fundamentalists describe as "scarcity" is just another word for a high self-cost. There is no physical shortage of oil on Earth. There is enough oil to last us a thousand years, but some of that oil will require many man-hours to extract. A $100 oil simply means it takes too many workers to assemble the rig and to drill the well. In these cases, the labor theory of value will work every bit as well as it works for any consumption good. Thus the iron ore that is needed to produce a tractor, and the oil that is needed to produce the iron ore will all be assigned a value in terms of man-hours, which will then appear in the socialist price of the tractor. Again, this method of valuation will work as well as any capitalist one.
If, on the other hand, the nature of the constraint is a physical one (a river that only has so much water, for instance), then a socialist planner will have to decide on its optimal use without the labor theory or the marginal utility theory to guide him. Actually, the latter point is not really true. A planner can still estimate the marginal utility by running a calculation along these lines: "if I give the resource to factory A, they can produce this quantity of consumption goods, and factory B could only produce half that much, but factory C could produce 20% more than factory A. So factory C gets the resource". No calculation is perfect. The planner will not find the best solution, but he can at least take a shot at finding the second-best one.
It looks like Mises has finally got something to chew on. Maybe if we zero in on this (admittedly unlikely) scenario, we can "prove" the inefficiency of socialism at least on that one count?
Alas, it will be like the pot calling the kettle black. When you ask a free-market fundamentalist how his beloved capitalism will handle this situation, you wind up with a solution that is much worse than any inefficiencies in the socialist model. Turns out that under capitalism, the water right will belong to a private monopoly which will then be selling its water to the highest bidder - here you got your marginal utility theory in action. Eventually one company will outbid every competitor and obtain the resource. The diference is that where a socialist company could use the resource right away, its successful capitalist counterpart has emerged from the bidding process totally exhaused and saddled with a huge debt which will then have to be passed to the consumers. The socialist company that won the contest may have been 5% less efficient; in contrast, under capitalism you've got a company that is fully efficient and is squezed dry by the private owner of the limited resource. What a sure way to outpace a centrally planned economy!
I couldn't take apart the whole essay, but I hope this already illustrates my point that one should always take it with a grain of salt when he hears that this or that essayist has "proved" some economic theory. More often than not it just means that the guy has tried to bring up some point or raise some objection to promote his chosen point of view. Then, under close scrutiny, it will all turn out to be very subjective...