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<font color="#002864" size="1" face="Verdana">http://www.mises.org/fullstory.asp?control=1258</font>
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<font face="Verdana" size="2"><font color="#002864" size="5"><strong>Economics and Measurement</strong></font>
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<font size="4">By Gene Callahan</font>
<p dir="ltr" align="left"><font size="2">[Posted July 3, 2003]</font>
<blockquote dir="ltr" style="MARGIN-RIGHT: 0px">
<font size="2">The quantitative treatment of economic problems must not
be confused with the quantitative methods applied in dealing with the
problems of the external universe of physical and chemical events. The
distinctive mark of economic calculation is that it is neither based upon
nor related to anything which could be characterized as measurement.</font>
<font size="2">-- Ludwig von Mises, Human Action, II.3</font>
[/i]
<font size="2">[img][/img] A
great revolution in the physical sciences occurred between the 15<sup>th</sup>
and 18<sup>th</sup> centuries. Measurement and the subsequent establishment of
quantitative formula relating various measurements gradually replaced the
Aristotelian search for the proper classification of physical phenomena. As
Whitehead says of Aristotelian teachings,"these doctrines said to the
physicist to classify when they should have said measure"
(1967, p. 45).</font>
<font size="2">But, as so often happens in human affairs, a new idea
produces an overreaction. The idea of measurement, so successful in the
physical sciences, came to be seen as the sine qua non of all
human knowledge. The notion that if something hasn't been measured, then we
don't know anything about it, came to be commonplace.</font>
<font size="2">Measurement in the physical sciences depends upon the
postulate that certain elements in the situation being measured are constant.
A meter is always a meter, whether Joe or Mary or Sam is doing the measuring.
And that meter should stay constant over time. Even Einstein, in formulating
his theory of relativity, which contends that measurements of length are
dependent on the observer's frame of reference, still must posit some
unchanging elements, such as the speed of light, in order to formulate
physical laws based on that idea.</font>
<font size="2">However, once we enter into the realm of human action, there
are no quantitative constants. Human action springs from the meaning that
humans attach to their situation. Since that is the case, as knowledge is
gained, as life is lived—in short, as time passes—the meanings humans
attach to the circumstances of their world will alter. Such alterations are
inherently unsusceptible to quantitative measurement or prediction. We cannot
measure an interpretation, nor can new human meanings be predicted in advance—otherwise,
they would not be new!</font>
<font size="2">Let's say we examine the copper market over a course of many
years. We will find that different prices were paid and different quantities
of copper were sold in each year. People's desire for copper fluctuated. The
fact that from the point of view of chemistry copper remained identical during
the period is irrelevant to economics. As
Mises puts it:</font>
<blockquote dir="ltr" style="MARGIN-RIGHT: 0px">
<font size="2">External objects are as such only phenomena of the
physical universe and the subject matter of the natural sciences. It is
human meaning and action which transform them into means. Praxeology does
not deal with the external world, but with man's conduct with regard to it.
Praxeological reality is not the physical universe, but man's conscious
reaction to the given state of this universe. Economics is not about things
and tangible material objects; it is about men, their meanings and actions.
Goods, commodities, and wealth and all the other notions of conduct are not
elements of nature; they are elements of human meaning and conduct. He who
wants to deal with them must not look at the external world; he must search
for them in the meaning of acting men.</font>
[/i]
<font size="2">Once we realize that economics deals with human meaning and
not the physical characteristics of economic goods, the futility of searching
for eternal, quantitative economic laws should be clear. No one would consider
measuring what"war" or"liberty" means to people. Meaning
is not available for measurement, and, in any case, meanings are in continual
flux. What having a horse meant to a person in 1800 is entirely different than
what having one means to a person in 2003, with the availability of Internet
connections, automobiles, trains, and planes.</font>
<font size="2">The price of something like Priceline.com stock over the
last few years illustrates the primacy of meaning in human action. What owning
a share of Priceline meant to the average investor in early 2000 was
phenomenal yearly increases in the stock's price and a share in the"new
economy." On March 10, 2000, at the height of the dot-com bubble, a share
of Priceline traded for $94.50.</font>
<font size="2">A mere nine months later, Priceline had much the same web
site, the same technology, and many of the same employees. Yet on December 29,
2000, a share traded for $1.31. By then, the meaning of owning Priceline for
most investors was to have been a sucker, taken in by hype, holding an asset
that just kept declining in value. The physical characteristics of what was
owned had changed relatively little, but the meaning attached to that
ownership had altered dramatically.</font>
<font size="2">"But," the advocate of economic measurement may
ask,"what about money?" Can't we use the"measuring rod"
of money as a common unit, thereby measuring what different goods meant to
people at different times?</font>
<font size="2">However, money is itself an economic good, and its meaning
to acting man fluctuates just like the meaning of all other such goods. Quite
aside from variations in the quantity of money altering its value, the meaning
of money itself will vary from person to person and for the same person across
time. The acquisition of money may be a man's main pursuit in life until, one
day, a religious conversion completely alters its importance for him. Even if
we had an absolutely fixed quantity of an unchanging substance, such as gold,
serving as money, its meaning might still vary greatly. In peaceful times with
a booming economy, people might feel the need to hold very little money. But
should a crisis, such as a war, suddenly arise, their desire to hold money as
insurance against hard times might increase dramatically.</font>
<font size="2">Nor will it help to try to adjust the value of money by some
price index. Such indices try to gauge changes in the value of money by"measuring"
the amount of other goods it can purchase. We can see that this procedure is
viciously circular. The value to people of those other goods fluctuates as
well. Initially, we were going to attempt to measure the fluctuations in the
value of non-monetary goods by using money, but now we find ourselves
measuring the fluctuations in the value of money by using the value of
non-monetary goods! In regards to human action, there is nothing constant by
which we can achieve stable measurement. If the price of oranges declines, was
that because oranges are valued less, money valued more, or some combination
of both factors?</font>
<font size="2">The collection of national economic data and the attempt to
"steer" the economy based on such numbers are plagued, among other
things, by this measurement problem. We can measure the quantity of physical
goods a society consumes or produces, but that tells us little about the level
of satisfaction the members of that society gain from those goods. It might
seem, at first glance, that we could perform capital accounting for an entire
country using money prices, achieving at least the same accuracy of
measurement as the businessman. But that mistakes the nature of capital
accounting. As Mises
says:</font>
<blockquote dir="ltr" style="MARGIN-RIGHT: 0px">
<font size="2">It is possible to determine in terms of money prices the
sum of the income or the wealth of a number of people. But it is nonsensical
to reckon national income or national wealth. As soon as we embark upon
considerations foreign to the reasoning of a man operating within the pale
of a market society, we are no longer helped by monetary calculation methods.
... If a business calculation values a supply of potatoes at $100,
the idea is that it will be possible to sell it or to replace it against
this sum. If a whole entrepreneurial unit is estimated to be $1,000,000, it
means that one expects to sell it for this amount. But what is the meaning
of the items in a statement of a nation's total wealth? What is the meaning
of the computation's final result? What must be entered into it and what is
to be left outside? Is it correct or not to enclose the"value" of
the country's climate and the people's innate abilities and acquired skill?
The businessman can convert his property into money, but a nation cannot.</font>
[/i]
<font size="2">The collection of prices and quantities contained in, for
instance, GDP figures, are an arbitrary choice on the part of the government.
It is arbitrary to count a dollar the government spends on some service no one
may really want as"equal" to a dollar a consumer freely chooses to
spend on a good she truly desires. It is arbitrary to count a dollar spent by
me this year as"equal" to a dollar spent by you next year. The
dollar amounts going into the GDP are adjusted yearly for inflation, but as we
have seen, the measure of inflation is itself arbitrary. Nor is there any
particular reason that yearly adjustments, rather than monthly or daily
adjustments, should be used, other than the fact that we are accustomed to
annual data. And we have no reason to believe, even if we could eliminate the
above difficulties, that a dollar measure of GDP reflects anything constant
about the satisfaction the citizens receive from the dollars they spend.
Ultimately, GDP measures nothing more than how many dollars were spent in a
nation's economy on selected goods and services.</font>
<font size="2">Nevertheless, economic data and statistics are not useless.
They are facts to be interpreted by economic history. If we see a
steady decline in the price of raw land in some country during some period, we
may draw on our understanding of other factors we know were involved and
perhaps conclude that increased agricultural productivity was reducing the
demand for cultivating previously raw land. But it would be a serious error to
formulate a"law" stating that all declines in the price of raw land
were evidence of the same process. In another country, at another time, a
decline in the price of such land might be due to a general deflation, to a
decline in population, or to a new source of cheap agricultural imports.
Similarly, a decline in GDP figures may be rendered meaningful by being
subjected to historical interpretation.</font>
<font size="2">We may even find that certain quantitative patterns persist
over years or even decades. That might mean that we had stumbled across an
institutional or customary arrangement producing such a pattern. Political
philosopher Terry Nardin has said that statistical studies in the social
sciences"are not scientific generalizations about a truly
time-independent class of phenomena; they are more or less well-disguised
descriptions of customs specific to a particular historical situation"
(2001).</font>
<font size="2">A noteworthy example of this phenomenon has been </font><font size="2">pointed
out by Roger Garrison</font><font size="2">. He observes that Milton
Friedman's predictions on the relationship between the money supply and price
inflation worked fairly well for a significant period of history. But, just as
Friedman's version of monetarism was gaining acceptance with policy makers,
Regulation Q, which forbade the payment of interest on checking accounts, was
rescinded. The institutional framework within which Friedman's predictions had
worked was altered dramatically. As a result, just as Friedman's system was
being adopted, it stopped working! If Friedman had viewed his work as
determining an institutionally derived regularity, rather than an economic law,
he might have expected that a major institutional change would have required a
revision to his system.</font>
<font size="2">The collection of economic data and their subsequent
econometric analysis are perfectly valid activities, if they are used
judiciously. Economic data are raw material for historical interpretation, and
not the launching point for a futile search for eternal, quantitative economic
laws.</font>
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<font size="2">Gene Callahan is author of Economics
for Real People. Send him MAIL,
and see his Mises.org Daily
Articles Archive. He delivered the Henry Hazlitt Memorial Lecture at
the Austrian Scholars Conference 9, March 13, 2003. Click HERE to
view the online video version of his lecture.</font>
<font size="2"><strong>References</strong></font>
<font size="2">Nardin, Terry, 2001,"Oakeshott's Philosophy of the
Social Sciences," Presentation to the First Annual Michael Oakeshott
Association Conference, London School of Economics.</font>
<font size="2">Whitehead, A.N. [1925] 1967. Science and the Modern World,
New York: The Free Press.
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