By the happenstance of family, Hayek became one of the first ever to read Ludwig Wittgestein’s landmark Tractatus Logico-Philosophicus. Wittgenstein manages to tie the phenomenological positivism of Ernst Mach and Bertrand Russell to the new logic of Gottlob Frege using a procedure which isolates the purely formal and logical from the domain of the empirical or psychological in a manner that the neo-Kantian’s like Hermann Cohen could only have dreamed. In the process, Wittgenstein manages to distinguish between the realm of the tautological and realm of the contingent in precise and formal terms.
We have something new here. Curiously enough, Wittgenstein’s technique is very similar to that of Friedrich Wieser. Wittgenstein takes a God’s Eye View of the realm of logical relations and the realm of the empirically contingent. From this God’s Eye View, truth values determined by the empirically contingent are “given” to one mind, stipulated by the logician laying out logical relations before his mind’s eye. Hayek, working with Wieser’s Dictator model of perfectly coordinated economic relations, was doing essentially the same in attempting to work out the logic of marginal valuation, not only as it applies to a given set of consumer goods at one moment in time, but as that logic applies to dynamic alternative production and consumption plans and possibilities across time.
When we point out the truth that, “if A implies B and B implies C, then A implies C” we are not saying anything about the contingent arrangement of the world, we are stating a fact about conceptual relationships, as our mind orders them. When we lay out the logic of marginal valuation, in conceiving choices between alternative uses of a basket of goods like apples, we are not saying anything about the contingent arrangement of the world, we are stating a fact about conceptual relationships, as our mind orders them. Our last use of a apple we can imagine as less valuable than the first use, and the loss of any particular apple means giving up that last and least valuable use, and not the first and most valuable use. Whether we are right in imagining the apples to actually exist in the form and for the utility we take them to have is irrelevant to the logic of the situation. (See Carl Menger, Principles of Economics).
Hayek’s work isolating the nature and dimensions of the purely logical helped to him to identify a number of other elements — the multiple dimensions of the domain of the empirical and the causal. What Hayek discovered was that there were several different and important types of problem-raising empirical problems in economics, and several different dimensions to the causal and empirical domains of economic explanation.
Hayek first begins to run into these insights in his 1929 book and his solution crystallized in 1936 while listening to Frederic Benham make fun of how economists reassured themselves with the pleonasm “given data” which translating the Latin in effect is saying nothing but the “given given”. It is important the emphasize that this insight is already contained in Hayek’s 1929 book, complete with discussion of the difference between the fictional “data” of the pure logic of choice and the empirical patterns and prices signals in the real world.
Hayek’s idea of prices conveying information, and prices as imperfect communicators of market conditions can already be found in the work of Charles Hardy, 1923, and quoted by Hayek in his 1929 book.
Here is the passage from Hayek’s book:
“[Hardy] states that all those theories which are based on the length of the production-period under modern technical conditions agree in regarding these conditions as a source of difficulty to producers in adjusting production to the state of the market — producing, as they must, for a future period, the market possibilities of which are necessarily unknown to them. He then emphasizes that in general it is the task of the price-mechanism to adjust supply to demand; he thinks, however, that this mechanism is imperfect, if a long period has to lapse between production and the arrival of the product at market, because “prices and order give information concerning the prospective state of demand compared with the known facts of the present and future supply, but they give no clue to the changes in supply which they themselves are likely to cause.”” (Hayek, 1929/2012, 86)
Hayek in 1929 is already highlighting the insight of Mises on the guide function of profit calculation and is already bringing attention to the guide function of relative prices, and he is already pointing out that economists are being misled by their formal constructions, misunderstanding what is logically “given” in their formal constructions is not and can never by “given” to entrepreneurs adjusting there plans in the market:
“But the entrepreneur in a capitalist economy is not — as many economists seem to assume — in the same situation as the dictator of a Socialist economy. The protagonists of this [dictator]. The protagonists of this view seem to overlook the fact that production is generally guided no by any knowledge of the actual size of the total demand — even if that phrase is sometimes used — but on the basis of a calculation of profitability; and it is just that calculation which will equilibrate supply and demand. ” (Hayek, 1929/2012, p. 87)
Hayek in this same discussion also identifies one of his key empirical problems — what mechanism could possible generate systematic discoordination across market via systematically erroneous plans and anticipations:
“None of these theories under discussion [eg Hardy’s] explains why why these expectations should generally prove incorrect.” (Hayek, 1929/2012, p. 87)
Hayek’s memory in the 1970s: “One of my colleagues at the London School of Economics used to make fun of the use of ‘data’ by economists, who were so anxious to assure themselves that there were data that the were talking about ‘given’ data. This talk of about ‘data’ made me aware, of course, that they are completely fictitious; that we are assuming that these facts are ‘given’, but never say to home they are ‘given’. This made it clear to me that the whole economic problem is a problem of the utilization of knowledge which nobody possesses as a whole, and that determined my outlook on economics and proved extremely fertile.” (Hayek, 1983, p. 274)
“I have long felt that the concept of equilibrium itself and the methods which we employ in pure analysis have a clear meaning only when confined to the action of a single person.” (F. Hayek, “Economics and Knowledge” 2014, p. 59, see also F. Hayek, The Pure Theory of Capital, 2007, pp. 49-50).
“But the entrepreneur in a capitalist economy is not — as many economists seem to assume — in the same situation as the dictator of a Socialist economy. The protagonists of this view seem to overlook the fact that production is generally guided not by any knowledge of the size of the total demand, but by the price to be obtained in the market. In the modern exchange economy, the entrepreneur does not produce with a view to satisfy a certain demand … but on the basis of a calculation of profitability; and it is just that calculation which will equilibrate supply and demand.” (Hayek, 1929/2012, p. 87))
An empirical pattern needing explanation — systematically misallocated goods and systematically discoordinated relative prices and production structures.
“None of the theories under discussion explains why these [price and profit] expectations should generally prove incorrect. (Hayek, 1929/2012, p. 87))
“the problem of the division of knowledge .. seems to me to be the really central problem of economics as a science” (Hayek, 1937/2014, p. 72)
“the economic calculus which we have developed to solve this logical problem [assuming we have all of the relevant information required to construct a rational economic order] does not provide an answer to [the economic problem which society faces]” (Hayek, 1945/2014, p. 93)
Empirical task of trade cycle theory to explain systematic deviations from pure coordination of equilibrium theory/logic of choice
“It is .. the task of Trade Cycle theory to show under what conditions a break may occur in that tendency towards equilibrium which is described in pure analysis — i.e., why prices, in contradiction to the conclusions of static theory, do not bring about such changes in the quantities produced as would correspond to an equilibrium situation.” (Hayek, 1929/2012, p. 88)