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Friday, December 21, 2012

The “Economies” Of Rationalization - F.A. Hayek

This is not the only disadvantage of a general re-organization of industry on monopolistic lines. The so-called economies which it is claimed would be made possible if industry were “reorganized” on monopolistic lines prove on closer examination to be sheer waste. In practically all the cases where the planning of individual industries is advocated at present, the object is to deal with the effects of technical progress.1 Sometimes it is claimed that the desirable introduction of a technical innovation is made impossible by competition. On other occasions it is objected against competition that it causes waste by forcing the adoption of new machines, etc. when producers would prefer to continue using the old ones. But in both cases, as can be easily shown, planning which aims to prevent what would happen under competition would lead to social waste.
Once productive equipment of any kind is already in existence it is desirable that it should be used so long as the costs of using it (the “prime costs”) are lower than the total cost of providing the same service in an alternative way. If its existence prevents the introduction of more modern equipment this means that the resources which are necessary to produce the same product with more modern methods can be used with greater advantage in some other connection. If older and more modern plants exist side by side and the more modern firms are threatened by the “cut-throat competition” of the more obsolete works, this may mean either of two things. Either the newer method is not really better, i.e. its introduction has been based on a miscalculation and should never have taken place. In such a case, where operating costs under the new method are actually higher than under the old the remedy is, of course, to shut down the new plant, even if it is in some sense “technically ” superior. Or—and this is the more probable case—the situation will be that while operating costs under the new method are lower than under the old, they are not sufficiently lower to leave at a price which covers the operating costs of the old plant, a margin sufficient to pay interest and amortization on the new plant. In this case, too, miscalculation has taken place. The new plant should never have been built. But once it exists the only way in which the public can derive at least some benefit from the capital which has been misdirected is for prices to be allowed to fall to the competitive level and part of the capital value of the new firms to be written off. Artificially to maintain capital values of the new plant by compulsory shutting down the old would simply mean to tax the consumer in the interest of the owner of the new plants without any compensating benefit in the form of increased or improved production.
All this is even clearer in the not infrequent case where the new plant is really superior in the sense that if it had not already been built it would be advantageous to build it now, but where the firms using it are in financial difficulties because it has been erected at a time of inflated values they are in consequence loaded with an excessive debt. Instances like this, where the technically really most efficient firms are at the same time the financially most unsound, are said to be not infrequent in some English industries. But here again any attempt to preserve capital values by suppressing competition from the less modern firms can only have the effect of enabling producers to keep prices higher than they otherwise would be, solely in the interests of the bondholders. The right course from the social point of view is to write down the inflated capital to a more appropriate level, and potential competition from the less modern concerns has therefore the beneficial effect of bringing prices down to a level appropriate to present costs of production. The capitalists who have invested at an unfortunate moment may not like this, but it is clearly in the social interest.
The effects of planning in order to preserve capital values are perhaps even more harmful when it takes the form of retarding the introduction of new inventions. If we abstract, as we are probably entitled to do, from the case where there is reason to assume that the planning authority possesses greater foresight and is better qualified to judge the probability of further technical progress than the individual entrepreneur, it should be clear that any attempt in this direction must have the effect that that which is supposed to eliminate waste is in fact the cause of waste. Given reasonable foresight on the part of the entrepreneur, a new invention will only be introduced if it makes it either possible to provide the same services as were available before at a smaller expenditure of current resources (i.e. at a smaller sacrifice of other possible uses of these resources) or to provide better services at an expenditure which is not proportionately greater. The fall in the capital values of existing instruments which will undoubtedly follow is in no way a social loss. If they can be used for other purposes, a fall of their value in their present use below that which they would attain elsewhere is a distinct indication that they should be transferred. And if they have no other use but their present one their former value is of interest only as an indication how much cost of production must be lowered by the new invention before it becomes rational to abandon them entirely. The only persons who are interested in the maintenance of the value of already invested capital are its owners. But the only way this can be done in these circumstances is by withholding from the other members of society the advantages of the new invention.

Collectivist Economic Planning

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