I’m at the Mises University now, and I plan on transcribing my notes. This is the third lecture given. Any errors are mine, feel free to point them out so that I can correct them.
This lecture was given by Prof. Herbener.
Basic points about Human Action
- Human Action, the Action Axiom: man acts, using means to obtain ends, so as to ease unrest felt.
- The Action Axiom is true in the Aristotlean sense in that nay attempts to disprove it are in fact actions, and are thus self-contradictory.
- Understanding (”verstehen”) of human action comes from our reflection on conceptual structure.
- Only human beings as individuals can act; this rules out collective action; thus, we can forgo “group valuation”.
- How do we reconcile different individuals with the overall group?
- Appraisal — choice between two alternatives, scarcity; in fact, action implies scarcity.
- Choice is two-dimensional: one thing is chosen, while the next-best thing is forgone.
Choice and Preference
- Choice is choosing between two alternatives.
- Preference is just our ranking of the alternatives in the ordinal sense (e.g., 1st, 2nd, 3rd, etc).
- Praxeologically, preference is part of action. There is no such thing as preference separate from action, and thus no such thing as a “preference map” existing separately from action.
- Preference can only be demonstrated through action; there can only be demonstrated preference. Thus, we often times cannot know very much about an individuals value-scale, except what can be deduced.
Value
- Value is subjective: that is, it is in the human mind and lacks extensive objective property; value does not exist outside of the human mind.
- Because value is subjective and wholly in the human mind, it can not be measured.
- Value is the state of mind we have; thus, there are no cardinal units of value (e.g., 1.5utils), as such is non-sensical; thus, we cannot add or subtract value, nor do any other mathematical manipulations of it.
- Values are not constant, but are constantly changing.
- There are no constants that relate our actions to objective conditions.
- Value is not a cipher through which, influenced by external factors, preference determines action.
- Mainstream economists have tried to use “cardinal rank” to represent ordinal rank; thus, they arbitrarily assign numbers to ordinal rankings:
- e.g.,
A — 95
B — 85
C — 75
- However, as Austrians note, A, B, and C are not like grades, but are states of
mind.
- Cardinal numbers are not a representation of ordinal rank: they are a
“representation” plus a quantitative difference between the rankings.
- The mainstream response was to do linear transformations, which don’t
change the function, but only the gap-size.
- The Austrians responded that linear transformations don’t change the ratios. The only way to “represent” ordinal ranks would be through all cardinal functions.
- e.g.,
- The mainstreamers then tried to use the concept of indifference — the possibility of being indifferent between two options — to equate utility:
- Leap of FaithThis is wrong: to say that someone is
indifferent is to say that they can’t make a choice; if they can make a choice, then
they were not indifferent; however, to say that someone can’t make a choice is not
to say that he or she equates utility.
- Ordinal preference rankings:
1st: $100
2nd: good X
3rd: $80
- Cardinal preference rankings:
ordinal rank: good — utility function
1st: $100 — (2x,1y)(1x,2y)
2nd: X — (1x,1y)
3rd: $80 — (0x,1y)
- Money is never valued in this system — only the “utility cardinality” of one
good vs. another good. This is unrealistic:- The realistic thing to do is to consider the value scale: money vs.
goods.
- Unrealistic, because it requires us to map out a utility function for all
possibilities, as if such a thing exists; in reality, individuals only
demonstrate preference through action, and the idea of a utility map is
contrary to that.
- The realistic thing to do is to consider the value scale: money vs.
- Indifference does not explain action, but only inaction.
- Indifference is not a useful economic theoretical concept, as indifference
cannot be revealed through action, nor can indifference explain action.
Indifference is only useful to psychologist, entrepreneurs, and forecasters.
- Continuity: assumption that indifference is infinitesimal, smooth. In reality there is no reason to think that economic phenomena are continuous.
- Assumption that utility function is constant, so that we can empirically measure a demand curve. This is flatly wrong, as peoples valuations are constantly changing.
- Summarily, indifference is simply an equivocation that allows economists to get to cardinal utility. Bah humbug.
- Leap of FaithThis is wrong: to say that someone is
Valuation leads to the societal division of labor
- Individuals always aim action at maximizing psychic profit, and can evaluate actions. This is implicit in the action axiom, that “man acts”.
- All action is economizing; decision are based on valuation.
- Alternatives for valuation:
- One person does all valuation for everyone (problematic).
- Weigh opportunity costs.
- All individuals decide for themselves.
- One person does all valuation for everyone (problematic).
- No one person can do all of the calculation needed to determine what should be produced.
- General structure of causality:
- Preferences cause supply and demand.
- Supply and demand determines the prices of goods.
- The prices of goods determine the cost for consumers, and the revenues for
entrepreneurs.
- Preferences determine the supply of factors. The revenue for entrepreneurs
restrains their demand for factors.
- The supply of factors and the demand for factors determines the price of
factors.
- The price of factors determines the revenues for sellers and the costs for
entrepreneurs.
- Preferences cause supply and demand.
- Two Laws of Utility:
These laws apply for equally suitable uses of goods; one unit serves any one end;
e.g.,
1st use of car => transportation to job
2nd use of car => errands- Diminising Marginal Returns: the greater the stock of the good, the lower
the value of the marginal unit, because that marginal value goes to the least
valued use.
- More units of a good are preferred to less units of a good.
- Diminising Marginal Returns: the greater the stock of the good, the lower
- Consider the following examples (H = horse):
Rank..Buyer A..Buyer B..Buyer C
1st….$16k…..$14k…..$12k
2nd….H……..H……..H
3rd....$13k.....$15k.....$11k
Rank..Seller X..Seller Y..Seller C
1st...$11k......$13k......$15k
2nd...H.........H.........H
3rd...$10k......$12k......$14k
Price..Q{D}..Q{S}
$15k...1.....3
$14k...1.....2
$13k...2.....2*
$12k...2.....1
$11k...3.....1
Above the market clearing price ($13k), sellers want to sell, but buyers don’t want to buy. Below the market clearing price ($13k), buyers want to buy, but sellers don’t want to sell. At the market clearing price, buyers want to buy and sellers want to sell, and all traders have their preferences satisfied. Price fixing at a price above or below the market-clearing price will result in excess supply or shortages, respectively.
{ 3 comments }
Dear Sir,
I have facing a problem in Economics question,so please help me.I am waiting for your reply.If you send me the Answer of this question,then i am very thankful to you.You send me the Answer of this question at my hotmail address.
:Question:
Differentiate between Cardinal and Ordinal measurement of utility. Explain also the shortcomings of Indifference curve analysis?
Dear Mr. Nazir,
When discussing cardinal vs. ordinal, it is helpful to look at what the words mean. The distinguishing factor here is between cardinal and ordinal numbers. Cardinal numbers are 1, 2, 3; ordinal numbers, 1st, 2nd, 3rd. Some crucial differences follow from that. Whereas mathematical operations can be performed on cardinal numbers, they cannot be performed on ordinal numbers. Now, when talking about cardinal utility, it is an attempt to measure the utility of various alternatives. When talking about ordinal utility, it is the ranking of alternatives.
Cardinal utility is, however, an erroneous concept. It is impossible to “measure” utility. People can only say “I prefer A to B”, but cannot meaningfully say “I prefer A 2.5 times more than B” or something to that effect. Furthermore, comparisons of utility between different individuals are impossible and meaningless, as well as between the same individual at different points in time (as individuals can and do change their preferences — that is, ordinal value-scale rankings). Because value is subjective, we cannot measure it and cannot compare between two different people, or even between the same person at different times.
To clarify, ordinal utility culminates in value-scales:
1st: A
2nd: B
3rd: C
whereas cardinal utility is the erroneous attempt at measurement:
10utils — A
7utils — B
3utils — C
Because Indifference Curves necessarily rely on cardinal utility, they are inherently flawed. Indifference curves rely on the erroneous idea that somehow indifference amounts to equality. However, this is incorrect. If someone is indifferent, that means that they cannot make a choice (if they could, they wouldn’t be indifferent); to say that someone cannot make a choice is not to say that he equates utility.
In such a system of indifference curves, money is never valued — this is unrealistic. The realistic thing to do would be to look at value-scales, considering money vs. a good. Furthermore, indifference curves require us to map out a utility function for all possibilities, as if such a thing existed; in the real world, preference is demonstrated through action — utility maps are contrary to that.
Since the economist is interested in action, indifference is useless to the economist, because it can only explain inaction.
Furthermore, indifference curves assume continuity, infinitesimal smoothness. In reality, however, economic phenomena are not continuous; not only are many goods discontinous in their nature (e.g., TVs, cars, chairs, etc), but human consideration is not infinitesimally small. Finally, indifference curves assume that you can empirically measure a demand-curve, which is wrong, as people’s valuations are constantly changing.
Dear David,
I have a confusing problem with the ordinality and cardinality. Suppose I have a set of data measuring people’s preference on, say, a car; e.g., how much they like the car. The respondents answer the question by giving a score ordinally (1=not like at at all, 2, 3, 4, and 5=like very much). This score is an ordinal number, right?
If then I average the all respondents’ score and get, say, 4.333, is the average (4.333) now a cardinal number? Does it holds to all ordinal numbers if we mathematically manipulate them (average, divide, log-transformation, etc)?
Thx for your reply.
John Isd.
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