Carl Menger: The Founding of the Austrian School

Despite the many illustrious forerunners in its six-hundred-year prehistory, Carl Menger was the true and sole founder of the Austrian School of economics proper. He merits this title if for no other reason than that he created, out of whole cloth, the system of value and price theory that constitutes the core of Austrian economic theory. But Menger did more than this: he also originated and consistently applied the correct, praxeological method for pursuing theoretical research in economics. Thus, in its method and core theory, Austrian economics always was and will forever remain Mengerian economics.

Menger’s position as the originator of the fundamental doctrines of Austrian economics has been recognized and hailed by all eminent authorities on the history of Austrian economics. In his eulogy of Menger written upon the latter’s death in 1921, Joseph Schumpeter averred that “Menger is nobody’s pupil and what he created stands. . . . Menger’s theory of value, price, and distribution is the best we have up to now.”1 

Ludwig von Mises wrote that:

What is known as the Austrian School of Economics started in 1871 when Carl Menger published a slender volume under the title Grundsätze der Volkswirtschaftslehre [Principles of Economics]. . . . Until the end of the [1870s] there was no “Austrian School.” There was only Carl Menger.2

For F. A. Hayek, the Austrian School’s

fundamental ideas belong fully and wholly to Carl Menger. . . . [W]hat is common to the members of the Austrian School, what constitutes their peculiarity and provided the foundations for their later contributions, is their acceptance of the teaching of Carl Menger.3

While there is no dispute regarding Menger’s role as creator of the defining principles of Austrian economics, there does exist some confusion regarding the precise nature of his contribution. It is not always fully recognized that Menger’s endeavor to radically reconstruct the theory of price on the basis of the law of marginal utility was not inspired by a vague subjectivism in outlook. Rather, Menger was motivated by the specific and overarching aim of establishing a causal link between the subjective values underlying the choices of consumers and the objective market prices used in the economic calculations of businessmen. The classical economists had formulated a theory attempting to explain market prices as the outcome of the operation of the laws of supply and demand, but they were compelled to restrict their analysis to the monetary calculations and choices of businessmen while neglecting consumer choice for the lack of a satisfactory theory of value. Their theory of “calculated action” was correct as far as it went, and was used to telling effect in demolishing the protectionist and interventionist schemes of sixteenth- and seventeenth-century mercantilists and the statist fantasies of nineteenth-century Utopian socialists.4 Thus, Menger’s ultimate goal was not to destroy classical economics, as has sometimes been suggested, but to complete and firm up the classical project by grounding the theory of price determination and monetary calculation in a general theory of human action.

Life and Work5

Carl Menger was born on February 28, 1840, in Galicia, which is today a part of Poland. He was the scion of an old Austrian family which included craftsmen, musicians, civil servants, and army officers, and which had emigrated from Bohemia a generation before his birth. His father, Anton, was a lawyer, and his mother, Caroline (née Gerzabek), was the daughter of a wealthy Bohemian merchant. He had two brothers, Anton and Max: the former, an eminent socialist author and fellow professor in the Law Faculty of the University of Vienna; and the latter, a lawyer and a Liberal deputy in the Austrian Parliament. The Menger family had been ennobled, but Carl himself dropped the title “Von” in early adulthood.

After studying economics at the Universities of Prague and Vienna from 1859 to 1863, Menger went to work as a journalist in the summer of 1863.6 The young Menger quickly attained prominence in the journalistic profession, writing a number of novels and comedies (which were apparently serialized for newspapers) and, in 1865, meeting and sharing confidences with the Liberal Austrian prime minister R. Belcredi. In the Fall of 1866, he left the Wiener Zeitung, an official newspaper for which he was then working as a market analyst, in order to prepare for his oral examination for a doctorate in law. After passing this examination, Menger went to work as an apprentice lawyer in May 1867, receiving his law degree from the University of Krakow in August 1867. However, he soon returned to work as an economic journalist and helped to found a daily newspaper. ‘

It was in September 1867, immediately after receiving his law degree, that, reported Menger, he “threw [himself] into political economy.”7 Over the next four years, he painstakingly worked out the system of thought that would so profoundly reshape economic theory when it came to fruition in 1871 with the publication of the Principles. As an economic journalist, Menger had observed a sharp contrast between the factors that classical economics had identified as most important in explaining price determination and the factors that experienced market participants believed exerted the greatest influence in shaping the pricing process. Whether or not this observation was the original inspiration for Menger’s sudden and deep absorption in economic questions after 1867, it surely is consistent with his ultimate goal of reconstructing price theory.8

In 1870, Menger obtained a civil service appointment in the press department of the Austrian cabinet (the Ministerratspraesidium), which was then composed of members of the Liberal Party. With a published work in hand and the successful completion of his Habilitation examination in 1872, Menger fulfilled the requirements for an appointment as a Privatdozent—basically an unpaid lecturer with complete professorial privileges—in the Faculty of Law and Political Science at the University of Vienna.9 Upon his promotion to the position of a paid, full-time associate professor (Professor Extraordinarius)10 in Autumn 1873, Menger resigned from the ministerial press department, but continued his private-sector journalistic activities until 1875.

In 1876, Menger won an appointment as one of the tutors of the eighteen-year-old Crown Prince, Rudolf von Habsburg. Over the course of the next two years, Menger tutored Rudolf while traveling with him throughout Europe.11 Upon his return to Vienna, Menger was appointed by the Emperor Franz Joseph, Rudolf’s father, to the Chair of Political Economy in Vienna’s Law Faculty, where he took up his duties in 1879 as a Professor Ordinarius or Full Professor.

Secure in a prominent academic position, Menger was now able to concern himself with formulating a clarification and defense of the theoretical method he had adopted in his Principles. The latter book had been ignored in Germany because, by the 1870s, German economics had come almost completely under the sway of the younger Historical School, which was led by Gustav Schmoller and was bitterly hostile to Menger’s (and the Classical School’s) “abstract” style of economic theorizing. The fruits of Menger’s methodological research were published in 1883 in a book entitled Untersuchungen über die Methode der Sozialwissenschaften und der politischen Ökonomie insbesondere (Investigations into the method of the social sciences with special reference to economics).12 Where the earlier book had been coldly ignored, the Investigations precipitated a furor among German economists, who heatedly responded with derisive attacks on Menger and the “Austrian School.” In fact, this latter term was originated and applied by the German Historicists in order to emphasize the isolation of Menger and his followers from the mainstream of German economics. Menger responded in 1884 with a scathing pamphlet, Irrthumer des Historismus in der deutschen Nationalökonomie (The errors of historicism in German economics), and the famous Methodenstreit, or methodological debate, between the Austrian School and the German Historical School was on.13

In the meantime, Menger’s writing and teaching had begun by the mid-1870s to attract a number of brilliant followers, most notably Eugen von Böhm-Bawerk and Friedrich von Wieser. Between 1884 and 1889, the works of these men and of numerous others also influenced by Menger began to pour forth in great abundance, leading to a coalescence of an identifiable Austrian School. By the late 1880s, Mengerian doctrines were also being introduced to non-German speaking economists in France, the Netherlands, the United States, and Great Britain.

After he retired from active participation in the Methodenstreit in the late 1880s, Menger’s interests shifted back from methodological concerns to questions of pure economic theory and applied economics. In 1888, he published a notable article on capital theory, Zur Theorie des Kapitals. Also during this period, Menger served as the leading member of a commission charged with reforming the Austrian monetary system, a role which stimulated him to ponder deeply problems of monetary theory and policy. The result was a spate of articles on monetary economics published in 1892, including Geld (Money), a pathbreaking contribution to monetary theory.14 Menger continued in academic life until he resigned his professorship in 1903, but, unfortunately, despite the fact that he lived until 1921, there were no more major works to come from his pen.

The Classical School and the State of Economic Theory on the Eve of the Publication of Menger’s Principles

When Menger seriously turned his attention to economic theory in 1867, there existed a mighty though deeply flawed system of economic theory that had been constructed mainly by the British Classical School, namely David Hume, Adam Smith, and David Ricardo. To their undying credit, the classical economists were successful in demonstrating that price phenomena—product prices, wages, and interest rates—were not the product of historical accident or the arbitrary whim of sellers, but were determined by universal and immutable economic law, viz., the law of supply and demand. They also showed how prices, through the calculations and actions of profit-seeking businessmen, effectively regulated the production process. In those industries where the selling price exceeded the average cost of the product by a greater than normal margin, business owners were motivated by prospective profits to expand their output from existing enterprises, while additional output was forthcoming from new enterprises initiated by capitalist-investors eager to share in the supranormal profits.

Conversely, in those industries where product prices failed to cover per unit costs, the universal quest for profit and aversion to loss among businessmen led existing firms to contract their output or discontinue production altogether, while discouraging entry by new competitors into the industry. Moreover, as the production of goods expanded in those industries where higher-than-normal profits were being reaped, supply increased relative to demand and the profit rate tended to diminish back to a normal level as prices declined toward their “natural” level in relation to production costs. In the case of industries where production was shrinking due to losses, the decrease in supply relative to demand drove prices up toward (and beyond) average costs to their natural level, causing losses to disappear and a normal level of profit to emerge in the process.

In the classical view, then, both prices and production behaved according to definite laws of cause and effect. Prices were determined by the interaction of all market participants, so that the actual price of any good reflected the momentary equilibrium of supply and demand; the allocation of resources to the various processes of production was governed by the calculations and choices of profit-seeking (and loss-avoiding) businessmen, which meant that, in the long run, resources were allocated among the various branches of production so as to ensure a tendency to equalize at some normal or natural level the “rate of profit” or rate of return on all capital investment. Classical economics, therefore, did indeed contain an embryonic theory of human action, which was incomplete because it focused narrowly on the calculating businessman, the proverbial “economic man” who “bought in the cheapest and sold in the dearest markets.” In other words, the classical theory of prices and production was a theory of calculable action only, i.e., of action in the marketplace, a realm where all means and ends, costs and benefits, and profits and losses could be calculated in terms of money. While this was a great achievement and a bold step forward in economic science, it left out of account the subjective and nonquantifiable valuations and preferences of the consumer, the raison d’être of all economic activity

To explain this neglect, we turn to the aforementioned great flaw in classical economics: its value theory. In attempting to analyze the value of goods as a foundation for its theory of price, the classical economists commenced by focusing on abstract categories or classes of goods, e.g., bread, iron, diamonds, water, etc., and their general usefulness to humankind instead of focusing on a specific quantity of a concrete good and its perceived importance to a choosing individual. They were thus at a loss to resolve the famous “paradox of value”: or why the market price of one pound of bread is almost negligible compared to the price of an equal weight of gem-quality diamonds, despite the fact that bread is indispensable in sustaining human life while diamonds are useful only for aesthetic enjoyment or ostentatious display. To proceed any further in their analysis, the classical economists were thus forced to sever value into two categories, “use value” and “exchange value.” The former referred to the importance of a good in serving human wants, while the latter indicated simply the market price of the good. Dismissing use value as a given and unexplained precondition of exchange value, they went on to concentrate their analysis exclusively on exchange value. This approach to value theory naturally prevented the classical economists from developing a complete theory of human action that integrated valuations and choices of consumers with the calculations and choices of businessmen.

Unable to ground their price theory in the subjective values of consumers, the classical economists turned to objective costs of production to close their theoretical system and, in so doing, accorded the technical conditions under which goods are produced equal status with human choices as the active determinants of economic activity. This resulted in a bifurcated and contradictory price theory. According to this theory, as we noted above, market prices—prices that were actually paid in everyday transactions—are determined by supply and demand. However, only supply was actually explained, as the result of the monetary calculations of profit-maximizing businessmen, while the demands for the various consumer goods were taken as given. While human choices determined day-to-day market prices for all goods, in the long run the exchange value of “reproducible” goods was driven inexorably toward the “natural” price established by their costs of production, which themselves remained unexplained. “Scarcity” goods, those whose supplies could not be augmented by the production process, such as antiques, rare coins, paintings of the Old Masters, and so on, were treated as a separate and relatively unimportant category of goods whose exchange values were governed entirely by supply and demand. Thus, the split in classical value and price theory. But there also existed an unresolved contradiction, at least in the case of reproducible goods: although the emergence of actual prices at every moment are completely accounted for by human calculation and action, they also harbor a mysterious tendency to gravitate toward a level determined by factors wholly unrelated to human volition.

This was the unsatisfactory state in which Menger found economic theory in the late 1860s. It is true that a subjective-value school, which traced its roots back through J.B. Say, A.R.J. Turgot, and Richard Cantillon to the Scholastic writers of the Middle Ages, flourished on the Continent during the whole period of the Classical School’s ascendancy in Great Britain. And Menger himself, a renowned bibliophile, was nurtured and steeped in the writings of the German-language branch of this subjective-value tradition. However, while writers associated with this tradition repeatedly emphasized that “utility” and “scarcity” are the sole determinants of market prices and, in some cases, even formulated the concept of marginal utility, none before Menger was able to systematically elaborate these insights into a comprehensive theory of the pricing process and of the economy in general.15

Menger’s Reconstruction of Economic Theory16

The Nature and Scope of Economic Theory

As noted above, Menger emphatically did not intend to overthrow classical economics. He was quite comfortable with its emphasis on the universality and immutability of economic law, its theory of short-run price determination, and the laissez-faire policy conclusions it derived therefrom.17 Rather, Menger’s intentions were to reconstruct classical economics on firmer foundations by grounding the supply-and-demand theory of price and the theory of monetary calculation in the choices and actions of consumers and to repair its superstructure by healing the rift between the theory of price and the theory of distribution. Menger boldly proclaimed his intention of subsuming all the branches of economics under a reconstructed price theory in his Preface to Principles, writing

I have devoted special attention to the investigation of the causal connections between economic phenomena involving products and the corresponding agents of production, not only for the purpose of establishing a price theory based upon reality and placing all price phenomena (including interest, wages, ground rent, etc.) together under one unified point of view, but also because of the important insights we thereby gain into many other economic processes heretofore completely misunderstood.18

Menger recognized that at the center of “a price theory based upon reality” and of economic theory in general is human action— and human action alone. As Menger epigrammatically put it in preliminary notes written while Principles was in preparation: “Man himself is the beginning and the end of every economy” and “Our science is the theory of a human being’s ability to deal with his wants. 19While the centrality of human want satisfaction had been affirmed by earlier writers in the subjective-value tradition,20 Menger alone was successful in forging a method of economic theorizing—it was later to be dubbed “praxeology” by Ludwig von Mises—that was consistent with this insight. Thus, he began his scientific inquiry by meditating upon the nature of human striving to satisfy wants, and then deducing its immediate implications. By proceeding in this way, Menger was able to perceive immediately that the process of want satisfaction is not purely cognitive and internal to the human mind, but depends crucially upon the external world and, therefore, upon the law of cause and effect. This explains why Menger began his economic treatise with the statement that “All things are subject to the law of cause and effect.”21 Without reference to this great law of objective reality, the human striving to attain goals is logically inconceivable, because, as Menger argued, subjective states of satisfaction are links in the same causal chain that includes objective states of the world:

One’s own person, moreover, and any of its states are links in this great universal structure of relationships. It is impossible to conceive of a change of one’s person from one state to another in any way other than one subject to the law of causality. If, therefore, one passes from a state of need to a state in which the need is satisfied, sufficient causes for this change must exist. There must be forces in operation within one’s organism that remedy the disturbed state, or there must be external things acting upon it that by their nature are capable of producing the state we call satisfaction of our needs.22

But the direction of causation is not one-way, from objective states of the world to subjective states of satisfaction. For Menger, it is two-way, because, by conceiving the law of cause and effect, man is able to recognize his total dependence on the external world, and transform the latter into means to attain his ends. Man, himself, thus becomes the ultimate cause—as well as the ultimate end—in the process of want satisfaction. In his notes, Menger expressed and emphasized the causal interrelationships between the subjective and the objective aspects of action by means of parallel trinities of linked concepts: “ends-means-realization/ man-external world-subsistence/ wants-goods-satisfaction.”23

The Theory of Goods

Menger’s emphasis on the law of causality led him to devote the first twenty-five pages of the Principles to explicating “the general theory of the good,” in the course of which he radically reformulated the concept of a good in praxeological terms.24 For Menger, goods are those elements of the external world that are integral to the causal process of want satisfaction and upon which action operates.25 Once again, passages in Menger’s pre-Principles notebooks are illuminating:

Our general dependence on the external world: in its entirety the external world is presented to us as a whole in which we live. Dependence on certain portions of this external world, or on some relationships in it, which must be brought into certain relations to us. To this end, these portions must be particularly suited. Such things are called goods, insofar as they have the capacity to satisfy human wants (serving ends amounts to the same thing).26 

Having identified the nature of a good, Menger proceeds to elucidate what he calls “the causal connections between goods,” with the goal of identifying “the place that each good occupies in the causal nexus of goods.”27 “Goods of the lowest order” are consumer goods, like bread for instance, which are used to directly satisfy human wants. In Menger’s words, “the causal connection between bread and the satisfaction of one of our needs is . . . a direct one.” Factors of production, on the other hand, are “goods of higher order,” having only “an indirect causal connection with human needs.” For example, flour and the services of ovens and bakers’ labor are second-order goods whose goods-character stems from the fact that, when they are combined in the process of production to yield a quantity of bread, they operate as an indirect cause of the satisfaction of the human want for bread. Likewise, wheat, grain mills, and millers’ labor constitute third-order goods which attain their goods-character from their usefulness in the production of second-order goods. The same applies to fourthand fifth-order goods in the production of bread. In short, according to Menger,

The process by which goods of higher order are progressively transformed into goods of lower order and by which these are directed finally to the satisfaction of human needs is… not irregular but subject, like all other processes of change, to the law of causality.28 Thus, it is their position in this causal order of want satisfaction that endows elements of the external world with their goodscharacter.

Menger draws a further distinction: between those goods whose available quantity exceeds the amount necessary to satisfy all human wants for them, and those available in a quantity that is insufficient to fully satisfy human wants for them. The former Menger designates “non-economic goods,” and the latter, “economic goods.” In the case of non-economic goods, because of their superabundance relative to wants, people need take no definite action with regard to them. With regard to economic goods, however, an individual must undertake to economize them in order to satisfy his wants for them as fully as possible. Economizing involves, among other things, ranking the wants for a particular good according to their greatest urgency or importance and then choosing to allocate units of the good only to those uses that serve the most important wants, while leaving unsatisfied the less important wants. Also, just as in the case of their goods-character, the economic character of higher-order goods also derives from the economic character of the lower-order good which they cooperate in producing. Thus, for example, in a region where pure water is naturally superabundant for all human purposes, neither water nor man-made reservoirs and water pumps, pipes, and filters need be economized. For Menger, then, the operation of economizing is nothing more or less than purposive behavior or action, as this latter term is understood by Mises and the proponents of the modern praxeological paradigm.

Both Menger’s “economizing man” and Mises’s “acting man” apply scarce means so as to attain their most highly valued ends.

Inherent in the idea of economizing is the notion of property. For Menger, “human economy and property have a joint economic origin,” which is rooted in the condition of scarcity.29 Thus, property is neither “an arbitrary invention” nor merely an aggregation of heterogeneous objects. It is a praxeological category that refers to a purposively created structure of goods that is adjusted through the operations of economizing to serve the structure of ends aimed at by an individual actor. According to Menger,

[A person’s] property is not . . . an arbitrarily combined quantity of goods, but a direct reflection of his needs, an integrated whole, no essential part of which can be diminished or increased without affecting realization of the end it serves.30

It is no exaggeration to say that Mengerian economics is as much about goods and property as it is about knowledge and expectations.31

Menger’s analyses of the order and of the economic character of goods taken together demolish the foundations of the classical cost-of-production theory. First, the proposition that the economic character of lower-order goods is derived from the fact that the goods of a higher order employed in producing them possess an economic character established prior to the causal production process, according to Menger, contradict[s] . . . all experience, which teaches us that, from goods of higher order whose economic character is beyond all doubt, completely useless things may be produced, and in consequence of economic ignorance actually are produced.32

In other words, the cost-of-production theory is at a loss in explaining how scarce and valuable resources can be and are used to produce products whose market value is zero because they are not useful, directly or indirectly, in serving human wants. This problem aside, the fatal flaw in a theory which seeks to explain the economic character of lower-order goods in terms of the economic character of goods of a higher order is that it is merely a “pseudoexplanation.” As Menger argued,

If we explain the economic character of goods of first order by that of goods of second order, the latter by the economic character of goods of third order, this again by the economic character of goods of fourth order, and so on, the solution of the problem is not advanced fundamentally by a single step, since the question as to the last and true cause of the economic character of goods always still remains unanswered.33

The Theory of Value

This brings us to the question of value which so vexed, and ultimately defeated, the classical economists. Because they were tragically unable to grasp that specific quantities and not entire classes of goods were the object of human action, the classical economists dropped use value from their analysis. But Menger, with his unblinking focus on individual action, easily recognized the profound significance of the concept of the marginal unit—the quantity of a good relevant to choice—for the whole of economic theory.

In his notes, Menger compared “species value,” the value of an abstract class of goods, to the “individual value” or “concrete value” attaching to specific units of a good. Dismissing the former as completely irrelevant to action in the real world, Menger argued that,

In the case of species value, we compare, on the one hand, the properties of a good without considering its quantity, and on the other, human wants without taking into account individuality. . . . In real life there are only concrete goods and concrete wants.34

In fact, the subjective ranking of the different satisfactions yielded by a definite quantity of a good is implied by the very notion of action. As Menger explained:

The varying importance that satisfaction of separate concrete needs has for men is not foreign to the consciousness of any economizing man. . . . Wherever men live, and whatever level of civilization they occupy, we can observe how economizing individuals weigh the relative importance of satisfaction of their various needs in general, how they weigh especially the relative importance of the separate acts leading to the more or less complete satisfaction of each need, and how they are finally guided by the results of this comparison into activities directed to the fullest possible satisfaction of their needs (economizing).35

By cogitating on the essence of economizing or action, Menger was thus able to conclusively demonstrate that the want for any good is actually a series of wants for a definite unit of the good to the satisfaction of which the individual is constrained by scarcity to attach differing degrees of importance. And, by implication, only actual units of a good are relevant to human choice: “Not species as such, but only concrete things are available to economizing individuals. Only the latter, therefore, are goods, and only goods are the objects of our economizing and of our valuation.”36

Having established that only specific wants and specific units of goods pertain to the valuational process, Menger proceeded to define value as “the importance that individual goods or quantities of goods attain for us because we are conscious of being dependent on command of them for the satisfaction of our needs.”37 In other words, “the value of all goods is merely an imputation of this importance [of satisfying our needs] to economic goods.”38 It follows, then, for Menger, that “value does not exist outside the consciousness of men. . . . [T]he value of goods . . . is entirely subjective in nature.”39 One would be wrong to interpret this last statement as a radical subjectivist dismissal of the realm of external reality. For Menger’s emphatic distinction between the value of a thing and the thing itself is actually intended as a means of elucidating the indissoluble ontological link between the realm of cognition and the realm of objective causal processes that comes into being by virtue of valuation and economizing. The value of goods is therefore nothing arbitrary, but always the necessary consequence of human knowledge that the maintenance of life, of well-being, or of some ever so insignificant part of them, depends upon control of a good or a quantity of goods.40

If value consists in a judgment about the significance of “concrete” things in producing satisfaction of “concrete” wants, how are such judgments arrived at? That is, what is the value of a specific thing to a person who seeks to employ it to satisfy his wants? It was in his answer to this question that Menger not only solved the paradox of value, but laid the foundations for the reconstruction of price theory, and, hence, of all of economic science.

Menger brilliantly answered the question by restating it: “[W]hich satisfaction would not be attained if the economizing individual did not have the given unit at his disposal—that is, if he were to have command of a total amount smaller by that one unit?”41 In light of Menger’s discussion of economizing, the obviously correct answer to this question is “only the least of all the satisfactions assured by the whole available quantity.” In other words, regardless of which particular physical unit of his supply was subtracted, the actor would economize by choosing to reallocate the remaining units so as to continue to satisfy his most important wants and to forego the satisfaction of only the least important want of those previously satisfied by the larger supply. It is, thus, always the least important satisfaction that is dependent on a unit of the actor’s supply of a good and, that, therefore, determines the value of each and every unit of the supply. This value-determining satisfaction soon came to be known as the “marginal utility.”42 As Menger formulated the law of marginal utility: 

Accordingly, in every concrete case, of all the satisfactions secured by means of the whole quantity of a good at the disposal of an economizing individual, only those that have the least importance to him are dependent on the availability of a given portion of the whole quantity. Hence the value to this person of any portion of the whole available quantity of the good is equal to the importance to him of the satisfactions of least importance among those assured by the whole quantity and achieved with an equal portion.43

Thus, by applying the law of marginal utility, Menger was able to provide a straightforward and incontrovertible resolution to the paradox of value that had so bedeviled classical economics and prevented its development into a full-blown theory of human action. According to Menger, it is because diamonds and gold are extremely rare while water tends to be abundantly available that: 

Under ordinary circumstances, therefore, no human need would have to remain unsatisfied if men were unable to command some particular quantity of drinking water. With gold and diamonds, on the other hand, even the least significant satisfactions assured by the total quantity available still have a relatively high importance to economizing men. Thus concrete quantities of drinking water usually have no value to economizing men but concrete quantities of gold and diamonds a high value.44

Having thus repaired the classical split between use value and exchange value and firmly rooted price theory in consumer valuations and choices, Menger turned his attention to the bifurcation perpetrated by the classical economists between price theory and distribution theory, or between the pricing of consumer goods and the pricing of the factors of production. Once again, Menger used the law of marginal utility to provide a solution of absolute and universal validity. He also refuted, once and for all, the classical contention that, in the long run at least, price is determined by costs of production.

Menger began by pointing out that only satisfaction of wants is directly significant to human beings.45 Consumer goods, or goods of the first order, attain value, therefore, only because people are cognizant of their dependence on specific quantities of these goods for the satisfaction of specific wants, and, hence, “impute” to these goods the importance of the satisfactions that depend upon them. Goods of higher orders, the factors of production that cooperate in the production of consumer goods, have no immediate connection with the satisfaction of human wants, but through the causal production process they do indirectly bear on the process of want satisfaction. Thus, the value of a certain quantity of consumer goods is imputed to the goods of the second order employed in its production, because the latter are a necessary, if indirect, cause of the satisfaction which is directly attributable to the stock of consumer goods. The same valueimputation analysis applies to the value of goods of the third, fourth, and higher orders. Concluded Menger:

Thus, as with goods of first order, the factor that is ultimately responsible for the value of goods of higher order is merely the importance we attribute to those satisfactions with respect to which we are aware of being dependent on the availability of the goods of higher order whose value is under consideration. But due to the causal connections between goods, the value of goods of higher order is not measured directly by the expected importance of the final satisfaction, but rather by the expected value of the corresponding goods of lower order.46

If “the value of goods of higher order is dependent upon the expected value of goods of lower order they serve to produce,” then, as Menger argued, costs of production, which are nothing but the sums of the prices paid for various kinds of higher-order goods, cannot possibly determine the prices of consumer goods, because the costs themselves are ultimately determined by these prices.47 Furthermore, as Menger pointed out, the cost-ofproduction theory of price determination cannot account for the prices of the services of land and of labor, which are nature given and, hence, have no costs of production themselves.48 In contrast, the Mengerian theory of value imputation easily explains these prices in the same manner as the prices of any other species of concrete goods: as proximately derived from the value of the lower-order goods or—if they themselves are goods of the firstorder—of the satisfactions that are directly dependent upon them.

Conclusion

This then is Menger’s greatest achievement and the essence of his “revolution” in economics: the demonstration that prices are no more and no less than the objective manifestation of causal processes purposefully initiated and directed to satisfying human wants. It is, thus, price theory that is the heart of Mengerian and, therefore, of Austrian economics. In a profoundly insightful passage in his eulogy, Schumpeter emphasized this aspect of Menger’s contribution:

What matters, therefore, is not the discovery that people buy, sell, or produce goods because and insofar as they value them from the point of view of satisfaction of needs, but a discovery of quite a different kind: the discovery that this simple fact and its sources in the laws of human needs are wholly sufficient to explain the basic facts about all complex phenomena of the modern exchange economy, and that in spite of striking appearances to the contrary, human needs are the driving force of the economic mechanism beyond the Robinson Crusoe economy or the economy without exchange. The chain of thought which leads to this conclusion starts with the recognition that price formation is the specific economic characteristic of the economy—as distinct from all other social, historical, and technical characteristics—and that all specifically economic events can be comprehended within the framework of price formation. From a purely economic standpoint, the economic system is merely a system of dependent prices; all special problems, whatever they may be called, are nothing but special cases of one and the same constantly recurring process, and all specifically economic regularities are deduced from the laws of price formation. Already in the preface of Menger’s work [Principles], we find this recognition as a self-evident assumption. His essential aim is to discover the law of price formation. As soon as he succeeded in basing the solution of the pricing problem, in both its “demand” and “supply” aspects, on an analysis of human needs and on what Wieser has called the principle of “marginal utility,” the whole complex mechanism of economic life suddenly appeared to be unexpectedly and transparently simple..49

Schumpeter concluded that, despite Menger’s other substantial contributions, his “theory of value and price . . . is, so to speak, the expression of his real personality.”50 If this is so, Menger’s personality lives on in the flourishing praxeological paradigm of contemporary Austrian economics.

Editors Note by Jonathan Newman: Salerno’s biography of Menger is edited for length. I recommend interested students read the full-length work in 15 Great Austrian Economists edited by Randall Holcombe.

• 1

  Joseph A. Schumpeter, “Carl Menger,” Ten Great Economists: From Marx to Keynes (New York: Oxford University Press, 1969), p. 86.

• 2

  Ludwig von Mises, The Historical Setting of the Austrian School of Economics (New Rochelle, N.Y.: Arlington House, 1969), pp. 9–10. Mises also wrote that “in 1871 the writings of Carl Menger and William Stanley Jevons inaugurated a new epoch of economic studies” (Ludwig von Mises, Theory and History: An Interpretation of Social and Economic Evolution [Auburn, Ala.: Ludwig von Mises Institute, 1985], p. 124)

• 3

  F.A. Hayek, “Carl Menger (1840–1921),” in The Fortunes of Liberalism: Essays on Austrian Economics and the Ideal of Freedom, vol. 4, The Collected Works of F.A. Hayek, Peter G. Klein, ed. (Chicago: University of Chicago Press, 1992), p. 62.

• 4

  This weakness of classical economics was noted by Mises: 

  Because the classical economists were able to explain only the action of businessmen and were helpless in the face of everything that went beyond it, their thinking was oriented toward bookkeeping, the supreme expression of the rationality of the businessman (but not that of the consumer). (Ludwig von Mises, Epistemological Problems of Economics, George Reisman, trans. [New York: New York University Press, 1981], p.175) 

  But, as Mises also recognized, this theory, though incomplete, was an essential step forward in the construction of the comprehensive system of praxeological economics: 

  [M]ercantilists had placed goods in the center of economics, which in their eyes was a theory of objective wealth. It was the great achievement of the Classics in this respect that beside the goods they set up economic man [i.e., the calculating businessman]. They thus prepared the way for modern Economics which puts man and his subjective valuations into the center of its system. (Ludwig von Mises, Socialism: An Economic and Sociological Analysis, J. Kahane, trans. [Indianapolis, Ind.: LibertyClassics, 1981], p. 293) 

  Indeed, the classical economic theory was effectively a praxeological theory that dealt narrowly with actions whose means and ends were calculable in monetary terms: “The first comprehensive system of economic theory, that brilliant achievement of the classical economists, was essentially a theory of calculated action” (Ludwig von Mises, Human Action: A Treatise on Economics , p. 231).

• 5

  Details of Menger’s life can be found in Hayek, “Carl Menger”; Erich W. Streissler, “The Influence of German Economics on Menger and Marshall,” in Carl Menger and His Legacy in Economics, Bruce J. Caldwell, ed. (Durham, N.C.: Duke University Press, 1990); Streissler, “Menger’s Treatment of Economics in the Rudolph Lectures,” in Carl Menger’s Lectures to Crown Prince Rudolf Erich, W. Streissler and Monika Streissler, eds. (Cheltenham, U.K.: Edward Elgar, 1994), pp. 3–25; and Kiichiro Yagi, “Menger’s Grundsätze in the Making,” History of Political Economy 25 (Winter 1993): 697–724.

• 6

  This was the Wiener Tagblatt. Its successor, the Neue Wiener Tagblatt, established itself as one of Vienna’s most influential newspapers for many years to come.

• 7

  Quoted in Yagi, “Menger’s Grundsätze,” p. 700.

• 8

  See Hayek, “Carl Menger,” p. 69.

• 9

  Mises describes the institution of the Privatdozent in the following terms: A doctor who had published a scholarly book could ask the faculty to admit him as a free and private teacher of his discipline; if the faculty decided in favor of the petitioner, the consent of the Minister [of Worship and Instruction] was still required; in practice this consent was [before the early 1880s] always given. The duly admitted Privatdozent was not, in this capacity, a civil servant. Even if the title of professor was accorded to him, he did not receive any compensation from the government. A few Privatdozents could live from their own funds. Most of them worked for their living. (Mises, Historical Setting of the Austrian School, p.13)

• 10

  It is Streissler, in his “Influence of German Economics,” p. 4, who renders this academic rank as “associate professor” in English; Mises, in Historical Setting of the Austrian School, p.11, translates it as “assistant professor.”

• 11

  Menger’s lectures to the Crown Prince, as recorded in the latter’s notebooks, can be found in Streissler and Streissler, eds., Carl Menger’s Lectures to Crown Prince Rudolf

• 12

  Carl Menger, Investigations into the Method of the Social Sciences with Special Reference to Economics, Louis Schneider, ed., Francis J. Nock, trans. (New York: New York University Press, 1985).

• 13

  On the conflict between the Austrian and German Historical Schools, see Mises, Historical Setting of the Austrian School, pp. 20–39. For a critique of historicism in all its forms, see Mises, Theory and History, pp. 198–239.

• 14

  For a survey of these and other writings of Menger on money, see Hans F. Sennholz, “The Monetary Writings of Carl Menger,” in The Gold Standard: Perspectives in the Austrian School, Llewellyn H. Rockwell, Jr., ed. (Auburn, Ala.: Ludwig von Mises Institute, 1992), pp.19–34.

• 15

  For a sweeping and erudite treatment of the entire pre-Mengerian subjective-value tradition see Murray N. Rothbard, Economic Thought Before Adam Smith, vol. 1, An Austrian Perspective on the History of Economic Thought (Cheltenham, U.K.: Edward Elgar, 1995), pp. 65–133. Alejandro A. Chafuen, Christians for Freedom: Late Scholastic Economics (San Francisco: Ignatius Press, 1986), provides the definitive account of the Scholastic pioneers in this tradition. Murray N. Rothbard, “New Light on the Prehistory of the Austrian School,” in The Foundations of Modern Economics, Edwin G. Dolan, ed. (Kansas City: Sheed and Ward, 1976), pp. 52–74, is also a noteworthy source on the Scholastic contributions. Joseph T. Salerno, “The Neglect of the French Liberal School in Anglo-American Economics: A Critique of Received Explanations,” Review of Austrian Economics 2 (1987): 113–56, deals with Say’s successors in the French Liberal School, while Streissler, “Influence of German Economics,” details the German subjectivist influences on Menger.

• 16

  The nearly simultaneous and completely independent co-discovery of the principle of marginal utility in the early 1870s by Menger, the Briton William Stanley Jevons, and the Frenchman Léon Walras is generally referred to as the “marginalist revolution.” However, although this principle played an essential role in Menger’s reconstruction of economic theory, as we shall see, the method by which he arrived at the principle and the use he made of it mark Mengerian economics as paradigmatically distinct from the theoretical systems that developed out of Jevons’s and Walras’s writings. On this point, see especially Emil Kauder, A History of Marginal Utility Theory (Princeton, N.J.: Princeton University Press, 1965); and William Jaffé, “Menger, Jevons, and Walras DeHomogenized,” Economic Inquiry 14 (December 1976): 511–24. On the marginalist revolution in general, see Richard S. Howey, The Rise of the Marginal Utility School: 1870–1889 (New York: Columbia University Press, 1989); and The Marginal Revolution in Economics: Interpretation and Evaluation, R.D. Collison Black, A.W. Coats, and Craufurd D.W. Goodwin, eds. (Durham, N.C.: Duke University Press, 1973).

• 17

  Menger’s attitude toward the Classical School is reflected in the fact that “The whole framework of the lectures [to Crown Prince Rudolf] and most of the arguments are taken from Adam Smith’s . . . Wealth of Nations.” See Streissler, “Menger’s Treatment of Economics in the Rudolf Lectures,” p. 6.

• 18

  Menger, Principles, p. 49.

• 19

  Menger, quoted in Yagi, “Menger’s Grundsätze,” pp. 720–21

• 20

  Especially Frédéric Bastiat, William E. Hearn, Amasa Walker, and Arthur Latham Perry. See Salerno, “Neglect of the French Liberal School” for a discussion of these economists.

• 21

  Menger, Principles, p. 51.

• 22

  Ibid., pp. 51–52. As Mises points out in Human Action, pp. 22–23, Man is in a position to act because he has the ability to discover causal relations which determine change and becoming in the universe. Acting requires and presupposes the category of causality. . . . [I]n order to act, man must know the causal relationship between events, processes, or states of affairs. And only as far as he knows this relationship, can his action attain the ends sought.

• 23

  Menger, quoted in Yagi, “Menger’s Grundsätze,” p. 704. These conceptual trinities, especially the last, reflect the influence of the French Liberal economist Frédéric Bastiat on Menger, who cited Bastiat twice in his Principles. “Wants, Efforts, Satisfaction” was the title of the second chapter of Bastiat’s unfinished treatise on political economy. See Frédéric Bastiat, Economic Harmonies, George B. de Huszar, ed., W. Hayden Boyers, trans. (Irvington-onHudson, N.Y.: Foundation for Economic Education, 1964), pp. 20–33. Bastiat also used these three terms in his definition of the science of political economy (p. 31). Elsewhere in the chapter, Bastiat stated that “The subject of political economy is man” (p. 25), words that resound in Menger’s statement, quoted above in the text, that “Man himself is the beginning and the end of every economy.” For Bastiat and the Liberal School’s profound influence on Continental economics in the nineteenth century, see Salerno, “Neglect of the French Liberal School,” pp. 119–24.

• 24

  It was standard practice for German textbook writers before Menger to begin by discussing “the theory of goods.” See Yagi, “Menger’s Grundsätze,” p. 703; and Streissler, “Influence of German Economics,” p. 49.

• 25

  Mises, in Human Action, p. 93, referred to goods as “the substratum of action.” 

  From a doctrinal point of view, Hayek, in “Carl Menger,” p. 70, 

  noted that [Menger’s] careful initial investigation of the causal relationship between human needs and the means for their satisfaction . . . is typical of the particular attention which, the widespread impression to the contrary notwithstanding, the Austrian School has always given to the technical structure of production.

• 26

  Menger, quoted in Yagi, “Menger’s Grundsätze,” p. 705. [Emphasis is Menger’s.]

• 27

  Menger, Principles, p. 56.

• 28

  Ibid., p. 67.

• 29

  Ibid., p. 97.

• 30

  Ibid., p. 76.

• 31

  I am indebted to Hans-Hermann Hoppe for first suggesting to me that goods and property play a central, though egregiously underappreciated, role in Mengerian economics.

• 32

  Menger, Principles, p.108.

• 33

  Ibid.

• 34

  Menger, quoted in Yagi, “Menger’s Grundsätze,” p. 709.

• 35

  Menger, Principles, p.128.

• 36

  Ibid., p. 116, n. 3

• 37

  Ibid., p. 115.

• 38

  Ibid., p. 122.

• 39

  Ibid., p. 121.

• 40

  Ibid., pp.120–21

• 41

  Ibid., p. 131.

• 42

  The term was coined by Menger’s follower and fellow Austrian economist, Friedrich von Wieser, and Menger himself appears never to have used it in his published work.

• 43

  Menger, Principles, p. 132.

• 44

  Ibid., p. 140.

• 45

  Ibid., pp.151–52.

• 46

  Ibid., p. 152.

• 47

  Ibid., p. 151.

• 48

  Ibid., p. 149.

• 49

  Schumpeter, “Carl Menger,” p. 84.

• 50

  Schumpeter, “Carl Menger,” p. 90.