I think every student of advanced economics would do well to watch very carefully Armen Alchian's interview with F. A. Hayek from 1978, especially the segment of the interview dealing with Prices and Production and monetary theory in Prices and Production.
It is critical to understand that Hayek (and Mises) was developing a price theoretic economics. Prices guide production decisions. So the puzzle to be solved with industrial fluctuations is how are rational agents misled in their decisions.
HAYEK: Well, you know, I don't suppose I saw it as clearly as I see the thing now, but I think it all began with my becoming aware that any assumption that prices are determined by what happened before is wrong, and that the function of prices is to tell people what they ought to do in the future.
HAYEK: But-- Forgive me for interrupting, but it's of course the other way around. It's by discovering the function of prices as guiding what people ought to do that I finally began to put it in that form. But so many things-- The whole trade-cycle theory rested on the idea that prices determined the direction of production. You had, at the same time, the whole discussion of anticipations. I found out that the whole Mises argument about calculation really ultimately rested on the same idea, and that drove me to the '37 article, which then became the systematic basis of my further development.
I think it is critical to read and absorb the true meaning of his claim that "I found out that the whole Mises argument about calculation really ultimately rested on the same idea, and that drove me to the '37 article, which then became the systematic basis of my further development."
I also have a very strong affinity with this exchange between Alchian and Hayek.
ALCHIAN: Well, that's the way it goes. In Prices and Production, on page 29 of the second edition, I ran across a sentence I didn't remember you having made at that time. You made the prediction about the future, which turned out to be wrong, unfortunately. You said something to the effect--I don't have the exact quotation--that in the future the theorists will abandon the concept of a general price level and concentrate on relative price effects in the change of the quantity of money.
HAYEK: It was a wish.
The follow up by both Alchian and Hayek has proven to be more optimistic about the future path of theory development than what actually happened. The emphasis on relative prices and microfoundations in the New Classical revolution devolved over time into representative agent models and real business cycle theory.
Gerald O'Driscoll's Economics as Coordination Problem captures this price theoretic foundation of Hayek's project. As an undergraduate my first reaction of Hayek was negative because the first book I read was The Road to Serfdom, and after I was already a Rothbardian libertarian, so the book seemed to be too compromising for me at the time. I have since come to appreciate what Hayek was doing with that project more and more in the intervening years. But back then, Hayek was placed on a shelf. It was through my engagement with IHS that I acquired and began to read seriously other works of Hayek's -- including Law, Legislation and Liberty and Prices & Production. But I read these after I had read a copy of O'Driscoll's great book. O'Driscoll more than anyone else allowed me to see the connection between Mises's calculation argument and Mises's development of the Austrian theory of the business cycle, and Hayek's work on the problems of socialist economic planning and Hayek's own work on imputation, on monetary theory and policy, and on trade cycle theory. This also led me to re-read Mises and to see in Human Action that monetary calculation was not limited to the issue of socialist economic calculation, but permeated his analysis of the market process.
My own work as an economist from the late 1980s till 2000s was focused almost exclusively on these issues (or a methodological rendering of why these issues were not appreciated by others). There are reasons why authors title books the way they do -- so that fact that Hayek thought the central lesson was that prices guide production results in the title Prices & Production, and it was this essential Mises/Hayek point that led me to title my book Calculation & Coordination.
Hayek's idea that economists will abandon the concept of a general price level and concentrate on relative price effects in the change of the quantity of money is still a wish. But it is a wish that the next generation of economist trained in price theory and market process theory can fulfill if they are so willing to be bold and creative. As Alchian says, perhaps graduate students 20, 30, 40 years from 1978, will see this oral history and be inspired to really dig into Hayek's work. This is a call to dig into his analytical work, not his policy positions in various debates. But the way that Hayek conceived on the research program in economics, and the appropriate methodology for the social sciences.
Hopefully, events such as the one we are holding in October will reinforce Alchian's message to graduate students and scholars in economics and political economy.