The Use of Knowledge in Society
Friedrich von Hayek
[Reprinted from the American Economic Review,
XXXV,
No.4; September, 1945, pp.519-30]
What is the problem we wish to solve when we try to construct a
rational economic order? On certain familiar assumptions the answer
is simple enough. If we possess all the relevant information, if we
can start out from a given system of preferences, and if we command
complete knowledge of available means, the problem which remains is
purely one of logic. That is, the answer to the question of what is
the best use of the available means is implicit in our assumptions.
The conditions which the solution of this optimum problem must
satisfy have been fully worked out and can be stated best in
mathematical form: put at their briefest, they are that the marginal
rates of substitution between any two commodities or factors must be
the same in all their different uses.
This, however, is emphatically not the economic problem
which society faces. And the economic calculus which we have
developed to solve this logical problem, though an important step
toward the solution of the economic problem of society, does not yet
provide an answer to it. The reason for this is that the "data"
from which the economic calculus starts are.never for the whole
society "given" to a single mind which could work out the
implications and can never be so given.
The peculiar character of the problem of a rational economic order
is determined precisely by the fact that the knowledge of the
circumstances of which we must make use never exists in concentrated
or integrated form but solely as the dispersed bits of incomplete
and frequently contradictory knowledge which all the separate
individuals possess. The economic problem of society is thus not
merely a problem of how to allocate "given" resources--if "given"
is taken to mean given to a single mind which deliberately solves
the problem set by these "data." It is rather a problem of
how to secure the best use of resources known to any of the members
of society, for ends whose relative importance only these
individuals know. Or, to put it briefly, it is a problem of the
utilization of knowledge which is not given to anyone in its
totality.
This character of the fundamental problem has, I am afraid, been
obscured rather than illuminated by many of the recent refinements
of economic theory, particularly by many of the uses made of
mathematics. Though the problem with which I want primarily to deal
in this paper is the problem of a rational economic organization, I
shall in its course be led again and again to point to its close
connections with certain methodological questions. Many of the
points I wish to make are indeed conclusions toward which diverse
paths of reasoning have unexpectedly converged. But, as I now see
these problems, this is no accident. It seems to me that many of the
current disputes with regard to both economic theory and economic
policy have their common origin in a misconception about the nature
of the economic problem of society. This misconception in turn is
due to an erroneous transfer to social phenomena of the habits of
thought we have developed in dealing with the phenomena of nature.
In ordinary language we describe by the word "planning"
the complex of interrelated decisions about the allocation of our
available resources. All economic activity is in this sense
planning; and in any society in which many people collaborate, this
planning, whoever does it, will in some measure have to be based on
knowledge which, in the first instance, is not given to the planner
but to somebody else, which somehow will have to be conveyed to the
planner. The various ways in which the knowledge on which people
base their plans is communicated to them is the crucial problem for
any theory explaining the economic process, and the problem of what
is the best way of utilizing knowledge initially dispersed among all
the people is at least one of the main problems of economic
policy-or of designing an efficient economic system.
The answer to this question is closely connected with that other
question which arises here, that of who is to do the ;planning. It
is about this question that all the dispute about "economic
planning" centers. This is not a dispute about whether planning
is to be done or not. It is a dispute as to whether planning is to
be done centrally, by one authority for the whole economic system,
or is to be divided among many individuals. Planning in the specific
sense in which the term is used in contemporary controversy
necessarily means central planning--direction of the whole economic
system according to one unified plan. Competition, on the other
hand, means decentralized planning by many separate persons. The
halfway house between the two, about which many people talk but
which few like when they see it, is the delegation of planning to
organized industries, or, in other words, monopolies.
Which of these systems is likely to be more efficient depends
mainly on the question under which of them we can expect that fuller
use will be made of the existing knowledge. This, in turn, depends
on whether we are more likely to succeeding putting at the disposal
of a single central authority all the knowledge which ought to be
used but which is initially dispersed among many different
individuals, or in conveying to the individuals such additional
knowledge as they need in order to enable them to dovetail their
plans with those of others.
It will at once be evident that on this point the position will be
different with respect to different kinds of knowledge. The answer
to our question will therefore largely turn on the relative
importance of the different kinds of knowledge: those more likely to
be at the disposal of particular individuals and those which we
should with greater confidence expect to find in the possession of
an authority made up of suitably chosen experts. If it is today so
widely assumed that the latter will be in a better position, this is
because one kind of knowledge, namely, scientific knowledge,
occupies now so prominent a place in public imagination that we tend
to forget that it is not the only kind that is relevant. It may be
admitted that, as far as scientific knowledge is concerned, a body
of suitably chosen experts may be in the best position to command
all the best knowledge available--though this is of course merely
shifting the difficulty to the problem of selecting the experts.
What I wish to point out is that, even assuming that this problem
can be readily solved, it is only a small part of the wider problem.
Today it is almost heresy to suggest that scientific knowledge is
not the sum of all knowledge. But a little reflection will show that
there is beyond question a body of very important but unorganized
knowledge which cannot possibly be called scientific in the sense of
knowledge of general rules: the knowledge of the particular
circumstances of time and place. It is with respect to this that
practically every individual has some advantage over all others
because he possesses unique information of which beneficial use
might be made, but of which use can be made only if the decisions
depending on it are left to him or are made with his active
co-operation. We need to remember only how much we have to learn in
any occupation after we have completed our theoretical training, how
big a part of our working life we spend learning particular jobs,
and how valuable an asset in all walks of life is knowledge of
people, of local conditions, and of special circumstances. To know
of and put to use a machine not fully employed, or somebody's skill
which could be better utilized, or to be aware of a surplus stock
which can be drawn upon during an interruption of supplies, is
socially quite as useful as the knowledge of better alternative
techniques. The shipper who earns his living from using otherwise
empty or half-filled journeys of tramp-steamers, or the estate agent
whose whole knowledge is almost exclusively one of temporary
opportunities, or the arbitrageur who gains from local differences
of commodity prices-- are all performing eminently useful functions
based on special knowledge of circumstances of the fleeting moment
not known to others.
It is a curious fact that this sort of knowledge should today be
generally regarded with a kind of contempt and that anyone who by
such knowledge gains an advantage over somebody better equipped with
theoretical or technical knowledge is thought to have acted almost
disreputably. To gain an advantage from better knowledge of
facilities of communication or transport is sometimes regarded as
almost dishonest, although it is quite as important that society
make use of the best opportunities in this respect as in using the
latest scientific discoveries. This prejudice has in a considerable
measure affected the attitude toward commerce in general compared
with that toward production. Even economists who regard themselves
as definitely immune to the crud ematerialist fallacies of the past
constantly commit the same mistake where activities directed toward
the acquisition of such practical knowledge are
concerned--apparently because in their scheme of things all such
knowledge is supposed to be "given." The common idea now
seems to be that all such knowledge should as a matter of course be
readily at the command of everybody, and the reproach of
irrationality leveled against the existing economic order is
frequently based on the fact that it is not so available. This view
disregards the fact that the method by which such knowledge can be
made as widely available as possible is precisely the problem to
which we have to find an answer.
If it is fashionable today to minimize the importance of the
knowledge of the particular circumstances of time and place, this is
closely connected with the smaller importance which is now attached
to change as such. Indeed, there are few points on which the
assumptions made (usually only implicitly) by the "planners"
differ from those of their opponents as much as with regard to the
significance and frequency of changes which will make substantial
alterations of production plans necessary. Of course, if detailed
economic plans could be laid down for fairly long periods in advance
and then closely adhered to, so that no further economic decisions
of importance would be required, the task of drawing up a
comprehensive plan governing all economic activity would be much
less formidable.
It is, perhaps, worth stressing that economic problems arise
always and only in consequence of change. As long as things continue
as before, or at least as they were expected to, there arise no new
problems requiring a decision, no n ed to form a new plan. The
belief that changes, or at least*-day adjustments* have become less
important in modern times implies the contention- that economic
problems also have become less important. This belief in the
decreasing importance of change is, for that reason, usually held by
the same people who argue that the importance of economic
considerations has been driven into the background by the growing
importance of technological knowledge.
Is it true that, with the elaborate apparatus of modern
production, economic decisions are required only at long intervals,
as whcn a new factory is to be erected or a new process to be
introduced ? Is it true that, once a plant has been built, the rest
is all more or less mechanical, determined by the character of the
plant, and leaving little to be changed in adapting to the ever
changing circumstances of the moment?
The fairly widespread belief in the affirmative is not, as far as
I can ascertain, borne out by the practical experience of the
businessman. In a competitive industry at any rate--and such an
industry alone can serve as a test--the task of keeping cost from
rising requires constant struggle, absorbing a great part of the
energy of the manager. How easy it is for an ineflicient manager to
dissipate the differentials on which profitability rests and that it
is possible, with the same technical facilities, to produce with a
great variety of costs are among the commonplaces of business
experience which do not seem to be equally familiar in the study of
the economist. The very strength of the desire, constantly voiced by
producers and engineers, to be allowed to proceed untrammeled by
considerations of money costs, is eloquent testimony to the extent
to which these factors enter into their daily work.
One reason why economists are increasingly apt to forget about the
constant small changes which make up the whole economic picture is
probably their growing preoccupation with statistical aggregates,
which show a very much greater stability than the movements of the
detail. The comparative stability of the aggregates cannot, however,
be accounted for--as the statisticians occasionally seem to be
inclined to do--by the "law of large numbers" or the
mutual compensation of random changes. The number of elements with
which we have to deal is not large enough for such accidental forces
to produce stability. The continuous flow of goods and services is
maintained by constant deliberate adjustments, by new dispositions
made every day in the light of circumstances not known the day
before, by B stepping in at once when A fails to deliver. Even the
large and highly mechanized plant keeps going largely because of an
environment upon which it can draw for all sorts of unexpected
needs: tiles for its roof, stationery or its forms, and all the
thousand and one kinds of equipment in which it cannot be
self-contained and which the plans for the operation of the plant
require to be readily available in the market.
This is, perhaps, also the point where I should briefly mention
the fact that the sort of knowledge with which I have been concerned
is knowledge of the kind which by its nature cannot enter into
statistics and therefore cannot be conveyed to any central authority
in statistical form. The statistics which such a central authority
would have to use would have to be arrived at precisely by
abstracting from minor differences between the things, by lumping
togcther, as resources of one kind, items which differ as regards
location, quality, and other particulars, in a way which may be very
significant for the specific decision. It follows from this that
central planning based on statistical information by its nature
cannot take direct account of these circumstances of time and place
and that the central planner will have to find some way or other in
which the decisions depending on them can be left to the "man
on the spot."
If we can agree that the economic problem of society is mainly one
of rapid adaptation to changes in the particular circumstances of
time and place, it would seem to follow that the ultimate decisions
must be left to the people who are familiar with these
circumstances, who know directly of the relevant changes and of the
resources immediately available to meet them. We cannot expect that
this problem will be solved by first communicating all this
knowledge to a central board which, after integrating all knowledge,
issues its orders. We must solve it by some form of
decentralization. But this answers only part of our problem. We need
decentralization because only thus can we insure that the knowledge
of the particular circumstances of time and place will be promptly
used. But the "man on the spot" cannot decide solely on
the basis of his limited but intimate knowledge of the facts of his
immediate surroundings. There still remains the problem of
communicating to him such further information as he needs to fit his
decisions into the whole pattern of changes of the larger economic
system.
How much knowledge does he need to do so successfully ? Which of
the events which happen beyond the horizon of his immediate
knowledge are of relevance to his immediate decision, and how much
of them need he know?
There is hardly anything that happens anywhere in the world that
might not have an effect on the decision he ought to make.
But he need not know of these events as such, nor of all their
effects. It does not matter for him why at the particular
moment more screws of one size than of another are wanted, why
paper bags are more readily available than canvas bags, or why
skilled labor, or particular machine tools, have for the moment
become more difficult to obtain. All that is significant for him
is how much more or less difficult to procure they have
become compared with other things with which he is also concerned,
or how much more or less urgently wanted are the alternative things
he produces or uses. It is always a question of the relative
importance of the particular things with which he is concerned, and
the causes which alter their relative importance are of no interest
to him beyond the effect on those concrete things of his own
environment.
It is in this connection that what I have called the "economic
calculus" (or the Pure Logic of (Choice) helps us, at least by
analogy, to see how this problem can be solved, and in fact is being
solved, by the price system. Even the single controlling mind, in
possession of all the data for some small, self-contained economic
system, would not-- every time some small adjustment in the
allocation of resources had to be made--go explicitly through all
the relations between ends and means which might possibly be
affected. It is indeed the great contribution of the Pure Logic of
Choice that it has demonstrated conclusively that even such a single
mind could solve this kind of problem only by constructing and
constantly using rates of equivalence (or "values," or "marginal
rates of substitution"), that is, by attaching to each kind of
scarce resource a numerical index which cannot be derived from any
property possessed by that particular thing, but which reflects, or
in which is condensed, its significance in view of the whole
means-end structure. In any small change he will have to consider
only these quantitative indices (or "values") in which all
the relevant information is concentrated; and, by adjusting the
quantities one by one, he can appropriately rearrange his
dispositions without having to solve the whole puzzle ab initio
or without needing at any stage to survey it at once in all its
ramifications.
Fundamentally, in a system in which the knowledge of the relevant
facts is dispersed among many people, prices can act to co-ordinate
the separate actions of different people in the same way as
subjective values help the.individual to co-ordinate the parts of
his plan. It is worth contemplating for a moment a very simple and
commonplace instance of the action of the price system to see what
precisely it accomplishes. Assume that somewhere in the world a new
opportunity for the use of some raw material, say, tin, has arisen,
or that one of the sources of supply of tin has been eliminated. It
does not matter for our purpose--and it is significant that it does
not matter--which of these two causes has made tin more scarce. All
that the users of tin need to know is that some of the tin they used
to consume is now more profitably employed elsewhere and that, in
consequence, they must economize tin. There is no need for the great
majority of them even to know where the more urgent need has arisen,
or in favor of what other needs they ought to husband the supply. If
only some of them know directly of the new demand, and switch
resources over to it, and if the people who are aware of the new gap
thus created in turn fill it from still other sources, the effect
will rapidly spread throughout the whole economic system and
influence not only all the uses of tin but also those of its
substitutes and the substitutes of these substitutes, the supply of
all the things made of tin, and their substitutes, and so on; and
all his without the great majority of those instrumental in bringing
about these substitutions knowing anything at all about the original
cause of these changes. The whole acts as one market, not because
any of its members survey the whole field, but because their limited
individual fields of vision sufficiently overlap so that through
many intermediaries the relevant information is communicated to all.
The mere fact that there is one price for any commodity--or rather
that local prices are connected in a manner determined by the cost
of transport, etc.--brings about the solution which (it is just
conceptually possible) might have been arrived at by one single mind
possessing all the information which is in fact dispersed among all
the people involved in the process.
We must look at the price system as such a mechanism for
communicating information if we want to understand its real
function-- a function which, of course, it fulfils less perfectly as
prices grow more rigid. (Even when quoted prices have become quite
rigid, however, the forces which would operate through changes in
price still operate to a considerable extent through changes in the
other terms of the contract.) The most significant fact about this
system is the economy of knowledge with which it operates, or how
little the individual participants need to know in order to be able
to take the right action. In abbreviated form, by a kind of symbol,
only the most essential information is passed on and passed on only
to those concerned. It is more than a metaphor to describe the price
system as a kind of machinery for registering change, or a system of
telecommunications which enables individual producers to watch
merely the movement of a few pointers, as an engineer might watch
the hands of a few dials, in order to adjust their activities to
changes of which they may never know more than is reflected in the
price movement.
Of course, these adjustments are probably never "perfect"
in the sense in which the economist conceives of them in his
equilibrium analysis. But I fear that our theoretical habits of
approaching the problem with the assumption of more or less perfect
knowledge on the part of almost everyone has made us somewhat blind
to the true function of the price mechanism and led us to apply
rather misleading standards in judging its efficiency. The marvel is
that in a case like that of a scarcity of one raw material, without
an order being issued, without more than perhaps a handful of people
knowing the cause, tens of thousands of people whose identity could
not be ascertained by months of investigation, are made to use the
material or its products more sparingly; that is, they move in the
right direction. This is enough of a marvel even if, in a constantly
changing world, not all will hit it off so perfectly that their
profit rates will always be maintained at the same even or "normal"
level.
I have deliberately used the word"marvel" to shock the
reader out of the complacency with which we often take the working
of this mechanism for granted. I am convinced that if it were the
result of deliberate human design, and if the people guided by the
price changes understood that their decisions have significance far
beyond their immediate aim, this mechanism would have been acclaimed
as one of the greatest triumphs of the human mind. Its misfortune is
the double one that it is not the product of human design and that
the people guided by it usually do not know why they are made to do
what they do. But those who clamor for "conscious direction"--and
who cannot believe that anything which has evolved without design
(and even without our understanding it) should solve problems which
we should not be able to solve consciously--should remember this:
The problem is precisely how to extend the span of out utilization
of resources beyond the span of the control of any one mind; and
therefore, how to dispense with the need of conscious control, and
how to provide inducements which will make the individuals do the
desirable things without anyone having to tell them what to do.
The problem which we meet here is by no means peculiar to
economics but arises in connection with nearly all truly social
phenomena, with language and with most of our cultural inheritance,
and constitutes really the central theoretical problem of all social
science. As Alfred Whitehead has said in another connection, "It
is a profoundly erroneous truism, repeated by all copy-books and by
eminent people when they are making speeches, that we should
cultivate the habit of thinking what we are doing. The precise
opposite is the case.
Civilization advances by extending the number of important
operations which we can perform without thinking about them.."
This is of profound significance in the social field. We make
constant use of formulas, symbols, and rules whose meaning we do not
understand and through the use of which we avail ourselves of the
assistance of knowledge which individually we do not possess. We
have developed these practices and institutions by building upon
habits and institutions which have proved successful in their own
sphere and which have in turn become the foundation of the
civilization we have built up.
The price system is just one of those formations which man has
learned to use (though he is still very far from having learned to
make the best use of it) after he had stumbled upon it without
understanding it. Through it not only a division of labor but also a
co-ordinated utilization of resources based on an equally divided
knowledge has become possible. The people who like to deride any
suggestion that this may be so usually distort the argument by
insinuating that it asserts that by some miracle just that sort of
system has spontaneously grown up which is best suited to modern
civilization. It is the other way round: man has been able to
develop that division of labor on which our civilization is based
because he happened to stumble upon a method which made it possible.
Had he not done so, he might still have developed some other,
altogether different, type of civilization, something like the "state"
of the termite ants, or some other altogether unimaginable type. All
that we can say is that nobody has yet succeeded in designing an
alternative system in which certain features of the existing one can
be preserved which are dear even to those who most violently assail
it--such as particularly the extent to which the individual can
choose his pursuits and consequently freely use his own knowledge
and skill.
It is in many ways fortunate that the dispute about the
indispensability of the price system for any rational calculation in
a complex society is now no longer conducted entirely between camps
holding different political views. The thesis that without the price
system we could not preserve a society based on such extensive
division of labor as ours was greeted with a howl of derision when
it was first advanced by Von Mises twenty-five years ago. Today the
difficulties which some still find in accepting it are no longer
mainly political, and this makes for an atmosphere much more
conducive to reasonable discussion. When we find Leon Trotsky
arguing that "economic accounting is unthinkable without market
relations"; when Professor Oscar Lange promises Professor von
Mises a statue in the marble halls of the future Central Planning
Board; and when Professor Abba P. Lerner rediscovers Adam Smith and
emphasizes that the essential utility of the price system consists
in inducing the individual, while seeking his own interest, to do
what is in the general interest, the differences can indeed no
longer be ascribed to political prejudice. The remaining dissent
seems clearly to be due to purely intellectual, and more
particularly methodological, differences.
A recent statement by Joseph Schumpeter in his Capitalism,
Social ism, and Democracy provides a clear illustration of one
of the methodological differences which I have in mind. Its author
is pre-eminent among those economists who approach economic
phenomena in the light of a certain branch of positivism. To him
these phenomena accordingly appear as objectively given quantities
of commodities impinging directly upon each other, almost, it would
seem, without any intervention of human minds. Only against this
background can I account for the following (to me startling)
pronouncement. Professor Schumpeter argues that the possibility of a
rational calculation in the absence of markets for the factors of
production follows for the theorist "from the elementary
proposition that consumers in evaluating ('demanding') consumers'
goods ipso facto also evaluate the means of production which
enter into the production of these goods." [1]
Taken literally, this statement is simply untrue. The consumers do
nothing of the kind. What Professor Schumpeter's "ipso
facto" presumably means is that the valuation of the
factors of production is implied in, or follows necessarily from,
the valuation of consumers' goods. But this, too, is not correct.
Implication is a logical relationship which can be meaningfully
asserted only of propositions simultaneously present to one and the
same mind. It is evident, however, that the values of the factors of
production do not depend solely on the valuation of the consumers'
goods but also on the conditions of supply of the various factors of
production. Only to a mind to which all these facts were
simultaneously known would the answer necessarily follow from the
facts given to it. The practical problem, however, arises precisely
because these facts are never so given to a single mind, and
because, in consequence, it is necessary that in the solution of the
problem knowledge should be used that is dispersed among many
people.
The problem is thus in no way solved if we can show that all the
facts, if they were known to a single mind (as we
hypothetically assume them to be given to the observing economist),
would uniquely determine the solution; instead we must show how a
solution is produced by the interactions of people each of whom
possesses only partial knowledge. To assume all the knowledge to be
given to a single mind in the same manner in which we assume it to
be given to us as the explaining economists is to assume the problem
away and to disregard everything that is important and significant
in the real world.
That an economist of Professor Schumpeter's standing should thus
have fallen into a trap which the ambiguity of the term "datum"
sets to the unwary can hardly be explained as a simple error. It
suggests rather that there is something fundamentally wrong with an
approach which habitually disregards an essential part of the
phenomena with which we have to deal: the unavoidable imperfection
of man's knowledge and the consequent need for a process by which
knowledge is constantly communicated and acquired. Any approach,
such as that of much of mathematical economics with its simultaneous
equations, which in effect starts from the assumption that people's
knowledge corresponds with the objective facts of the
situation, systematically leaves out what is our main task to
explain. I am far from denying that in our system equilibrium
analysis has a useful function to perform. But when it comes to the
point where it misleads some of our leading thinkers into believing
that the situation which it describes has direct relevance to the
solution of practical problems, it is high time that we remember
that it does not deal with the social process at all and that it is
no more than a useful preliminary to the study of the main problem.
[1] Capitalism, Socialism, and
Democracy (New York; Harper & Bros., 1942), p. 175. Professor
Schumpeter is, l believe, also the original author of the myth that
Pareto and Barone have "solved-- the problem of socialist
calculation. What they, and many others dld was merely to state the
conditions which a rational allocation of resources would have to
satisfy and to point out that these were essentially the same as the
conditions of equilibrium of a competitive market. This is something
altogether different from s owing how the allocation of resources
satisfying these conditions can be found in practice. Pareto himself
(from whom Barone has taken practically everything he has to say), far
from claiming to have solved the practical problem, in fact explicitly
denies that it can be solved without the help of the market. See his
Manuel d'economie pure (2d ed., 1927), pp. 233-34. The
relevant passage is quoted in an English translation at the beginning
of my article on "Socialist Calculation: The Competitive
'Solution,' " in Economica, VIII, No. 26 (new ser.,
1940), 125; reprinted below as chapter viii.