During his lifetime Eugen von Böhm-Bawerk (1851-1914) enjoyed an illustrious reputation as both statesman and economist. As an official of the Austrian ministry of finance he was instrumental in reforming the income tax; as the vice-president of a special commission he guided the country in its return to the gold standard, and as minister of finance he insisted in the elimination of all sugar subsidies. He rose to the rank of minister of finance no fewer than three times. He resigned from his third appointment, precipitating the fall of the administration, when increased financial demands of the Austrian army endangered the balancing of the budget. When he was offered the most lucrative position in government, the post of governor of the central bank, he rejected the offer in favor of a professorship at the University of Vienna.
The publication of his three-volume Capital and Interest established Böhm-Bawerk's reputation as one of the greatest economists of the 19th century. His contemporaries used to compare his importance with that of David Ricardo whose rigidly deductive method of analysis served as a model for subsequent work by Austrian economists. Böhm-Bawerk paved the way for a better understanding of the process of production and especially the nature of capital and interest. He was trusted and admired during his lifetime, but forgotten or ignored when World War I ravaged the great Western powers and the doctrines of Karl Marx and John Maynard Keynes began to sway the minds of the people. But his theories live on not only in the writings of Ludwig von Mises, Friedrich Hayek, Murray Rothbard, and other members of the Austrian School, but also wherever economic principles are being discussed and formulated.
To Böhm-Bawerk, economic value was the causa prima; all other economic phenomena merely rest and build on economic value. Carl Menger had affirmed marginal utility as the foundation of economic valuation and action and developed an atemporal theory of value, allocation, and exchange in his treatise Principles of Economics (1871). In his footsteps, Böhm-Bawerk constructed a system that combined the Menger concepts with his analysis of roundabout method of production. But he took issue with his senior for explaining interest income as earnings flowing from the "power of disposal over quantities of economic goods within a definite period of time." To Böhm-Bawerk, Menger's theory was rather inadequate and unable to lead to a satisfactory explanation of interest.
In his first major publication, History and Critique of Interest Theories (1884), Böhm-Bawerk brilliantly analyzed Menger's "use theory" as well as all other known interest theories. He disproved the "productivity theories" of J.B. Say and his many followers in France, Germany, and Italy. He countered the "motivated" productivity theories of Lord Lauderdale and Thomas R. Malthus. He rebutted especially what he called the "abstinence theories" of the great Classical economists Adam Smith, David Ricardo, Nassau Senior, and Frederic Bastiat, and meticulously exploded the "exploitation theories" of Pierre Proudhon, John Stuart Mill, Karl Marx, and their many disciples. Realizing that he had to build a solid theoretical foundation for his cold critiques, he penned the indispensable and fundamental basis of his theme, this very essay, Basic Principles of Economic Value; it was published in the most important economic journal of its time, in Conrad's Jahrbücher in 1886. Three years later he further elaborated his analysis in the second volume of his great trilogy on capital and interest, in his Positive Theory of Capital (1889). When members of the German Historical School summarily rejected his inquiry Böhm-Bawerk reaffirmed it with yet another essay, Value, Cost, and Marginal Utility in Conrad's Jahrbücher (1892). And finally, in 1894, he published a 45-page essay on The Ultimate Standard of Value in Zeitschrift für Volkswirtschaft, Sozialpolitik und Verwaltung, the English translation of which appeared soon thereafter in the Annals of the Academy of Political and Social Sciences, Volume V, Number 2.
These works must also be seen as Böhm-Bawerk's tacit contribution to the Methodenstreit or "war of methods" between Carl Menger and the German Historical School led by Gustav Schmoller. In his Principles of Economics Menger had sought to demonstrate that the central principle of economics is the phenomenon of value and that economic theory seeks to discover and explain the causal relationships between economic goods and human values. He had hoped to reach especially the German-speaking economic profession which preferred historical investigation to theoretical analysis. Rejecting any attempt to devise theories that apply to all times and places, the German professors were confining themselves to the discussion of "constantly unfolding rules" that are applicable to a particular economy and based on various stages of evolution. In the belief that economic life was an organic whole of politics, law, and custom and that there could be no such thing as a theory for all, they rejected Menger's analysis entirely. To them, Menger's theory was not only incorrect but useless. Rejected and attacked, Menger replied in his Investigations into the Method of the Social Sciences with special Reference to Economics (1883) and a year later, with an impassioned pamphlet entitled The Errors of Historicism (1884).
Böhm-Bawerk quietly reinforced Menger with this very essay, Basic Principles of Economic Value. Rewritten and enlarged it was to constitute Book III of his Positive Theory of Capital (1889). It presents his basic thesis that all economic knowledge must build on a thorough inquiry into the nature of subjective value. In his own words, "our science, instead of ignoring subjective sensations, wants, etc. and subjective value based thereon, must search among them for the beginning of an explanation of all economic phenomena. A theory that fails to develop the theory of subjective value is built on quicksand." Having laid the foundation, he elaborated the important role played by the period of production. His time-preference theory was used, expanded, and perfected by other economists such as Knut Wichsell, Frank A. Fetter, and Irving Fisher. But it was left to Ludwig von Mises to extend and apply the subjective value theory also to money and indirect exchange, thereby completing the value theory.
Böhm-Bawerk's analysis lucidly and cogently demonstrates the causal relationship between individual valuation and the determination of price. He disproved three popular explanations that are as popular today as they were more than a century ago. One ascribes goods prices to the relationship of demand and supply, another to the costs of production, and the third to the quantity of labor needed in the production. The last, no matter how fallacious, guides not only the agents of labor unions but also all socialists who advocate collective or government ownership or management of the means of production and distribution of goods. Böhm-Bawerk was to return to this important topic in his 1896 essay "Zum Abschluss des Marxschen Systems" which, in 1898, appeared under the English title "Karl Marx and the Close of His System,"
The law of demand and supply indeed constitutes the mainstay of our price knowledge, but according to Böhm-Bawerk, it is far from perfect. As commonly stated, it is merely quantitative no matter how intensive the demand and supply may be. It needs a fertile foundation in the form of a valid theory of subjective value. In Böhm-Bawerk's formulation, where there is two-sided competition, price emerges at a point within a range of an upper and a lower limit. "The upper limit is determined by the valuation by the last buyer to come to terms and the valuation by that excluded willing seller who has the greatest capacity for exchange. The lower limit is determined by the valuation by the last seller among those to come to terms and the valuation of that excluded willing buyer who has the greatest capacity for exchange." In short, the market price is established at a point within a range that is limited and determined by the valuations by the two marginal pairs. It is the product of subjective valuations.
The popular law of costs actually is no general price law but merely a particular part within the latter. It pertains to those economic goods that can be reproduced at will. In the long run their prices can neither be much higher nor much lower than their costs. If they should rise above their costs, their production would become profitable which would encourage businessmen to expand production. On the other hand, if their prices should fall below their costs, production would inflict losses on manufacturers who would soon curtail the output. According to the law of supply and demand, the reduction of the supply would tend to increase the price.
In final analysis, the law of costs is encompassed by the law of marginal utility which rests on the very nature of things. It points to the very raison d'être of all human economy, the improvement of economic well being.
Böhm-Bawerk wrote and published this essay in 1886. It was reprinted forty-nine years later, in German, in the "School of Economic Series of Scarce Tracts in Economic and Political Science", Number 11, London, 1932. During the 1950s and early 1960s Frederick Nymeyer, the personal friend of Ludwig von Mises and founder of Libertarian Press, published most of Böhm-Bawerk's writings in English. His favorite translator was this writer who was attending Professor von Mises' classes at New York University. This essay, which was translated in 1960, unfortunately did not reach the printers because of the passing of the publisher; but in sum and substance it appeared already in 1959 in Book III of The Positive Theory of Capital. The Ludwig von Mises Institute under the direction of Llewellyn Rockwell now is the driving force for a completion of a Böhm-Bawerk collection in English.September 2003