Theories of Carl Menger
Carl Menger is regarded as the founding father of the Austrian School of Economics. This is because he is responsible for developing two pillars of Austrian economics. First, Menger helped to establish a subjective theory of value. Second, he argued that economic knowledge can come only from deducing the consequences of assumptions that are known to be true. Menger was born in 1840 in Neu Sandec, Galicia. After graduating, Menger worked first as a financial journalist for the leading Viennese newspaper. It was during this time that he worked on the Principles of Economics (Menger 1985).
Carl Menger Subjective Theory of Value:
Menger made two important contributions to economics. One involved value theory and the other concerned economic methodology. Menger was one of the first economists to discover the marginal utility theory of value and the principle of diminishing marginal utility, and he was one of the earliest advocates of a subjective theory of value. Menger was also involved in a heated debate over the nature of economics and the proper way to do economic analysis. During the late nineteenth century, classical economics was held in low esteem on the European continent. Especially dissatisfying was the highly abstract and theoretical nature of British economics. Menger sought to bring economics back to the real world. His starting point in this endeavor was a recognition that goods have value because they meet human needs.
In contrast to the classical British economists, Menger argued that value was determined by subjective factors (utility or the beliefs of people about what gives them pleasure) rather than by objective factor (the costs of production). For Menger, value did not exist objectively within goods themselves. Rather, value arises because people make judgments about the worth of particular goods. Diamonds and gold are not valuable in and of themselves. They have value only because human beings desire them and find them useful. Value, for Menger, thus comes from the satisfaction of human needs. Human needs create a demand for goods; they also become the driving force for the development of institutions such as private property and money that help them to meet their needs.
Finally, human needs result in economic exchange and help determine prices. Furthermore, Menger argued that, since human needs were greater than the goods available to satisfy these needs, people would choose rationally among all alternative goods made available to them. Goods must satisfy the subjective needs of consumers, according to Menger, and consumers must recognize this fact if goods are to have any value. Menger also recognized that, as one purchases greater and greater quantities of a good, each succeeding quantity purchased will yield less satisfaction to the consumer. That is, people experience diminishing marginal utility when they consume more of any good. One important consequence of this theory of value is that all activities yielding subjective satisfaction are productive activities. In contrast to the British classical economists, trade was productive according to Menger because people would not trade unless they felt the goods that they received would give them more utility than the goods they gave up. And in contrast to Quesnay, agriculture and manufacturing could both be productive activities because the goods produced by each of these economic sectors yield satisfaction to consumers.
Carl Menger Theory of Factors of Production:
Another implication of the subjective theory of value is that the classical labor theory of value had to be wrong. As Menger noted “The determining factor in the value of a good, then, is neither the quantity of labor or other goods necessary for its production nor the quantity necessary for its reproduction, but rather the magnitude of importance of these satisfactions with respect to which we are conscious. Since value comes from the individual, according to Menger, economic analysis must begin with studying the individual. This position has come to be known as methodological individualism. Menger also recognized that factors of production have value because they satisfy wants indirectly; these factors are needed to produce the goods that people directly desire. To find the actual value of a factor of production, Menger thought that we should withdraw one unit of the factor (say one worker) and observe the loss in output. The value of this output is the value added by that worker. It represents the consumer satisfaction produced by that worker. The value created by each factor of production thus depended upon its marginal productivity; and the return or payment to each factor used in producing goods should depend on the anticipated value created by that factor.
Carl Menger Methodological Issues:
The theory development took precedence over data accumulation for Menger. Menger thought that proper scientific method involved the search for essential characteristics of economic phenomena, or necessary connections between economic variables. Historical or empirical economics could not do this, since sometimes prices fall and people expect further price declines, so they buy less now.
Consequently, historical economics could not yield definitive results. Only introspection yields absolute and necessary truths, according to Menger. Trying to refute laws of economics by pointing to contrary real-world evidence was like trying to refute the laws of geometry by measuring the angles of a triangle to see if they equaled 180¯ even the attempt to do this shows a fundamental misunderstanding of geometry. Menger’s Investigations into the Method of Social Sciences (1883) sought to put economics on firm theoretical and methodological foundations. In so doing, Menger defended his method of doing economics and argued against the method of the Historical School.
Menger strongly emphasized the individualistic method of analysis and the fact that economic knowledge is derived a priori, or before the experience of real-world economies. Studying economics for Menger involved studying individual preferences (or demand) and explaining how these lead to observable phenomena like different prices for different goods. Menger’s method became the accepted method of doing economics, although there have been many prominent critics of this methodology. The major effect of the debate has probably been to give economic methodology, a study of the methods used to obtain economic knowledge, a bad reputation.