Capitalists, Entrepreneurs, and Capitalist-Entrepreneurs
A discussion of Mises's view of the market presupposes a
classification of the various economic functions of agents in the
marketplace. These economic functions can coincide in the same
person, but they are distinct roles in the market process. Gains
from the production process accrue in the form of payments to
laborers who work on the process, capitalists whose capital goods
are used in the process, and entrepreneurs who make the decision of
what to produce and take the initiative to actually produce and
market it. Sometimes the same person can perform all three functions.
Mises writes, "The excess of gross receipts over expenditures which
the classical economists called profit includes the price for the
entrepreneur's own labor employed in the process of production,
interest on the capital invested, and finally entrepreneurial profit
proper" (Mises 1949, p. 535). In order to earn interest, no
entrepreneurial activity is necessarily required; interest is a
"ratio in the mutual [market] valuation of present goods as against
future goods" (Mises 1949, p. 528) which, according to Mises,
originates from the universality of positive time preference.
Interest payments earned by capitalists are their incentive to "abstain
from employing [their capital goods] for consumption" (Mises 1949,
p. 531). In addition, the capitalist earns rents on the capital
goods he owns that are more productive than other goods of a similar
kind employed in the economy: "Control of a better tool yields 'rent'
when compared with the returns of less suitable tools which must be
utilized on account of the insufficient supply of more suitable ones"
(Mises 1949, p. 635). Entrepreneurial profit is neither interest nor
It is not necessary that the same person both own the factors of
production and direct their use, but it is often the case. Murray
Rothbard termed the person who combines the ownership of capital
goods with entrepreneurial initiative "the capitalist-entrepreneur"
(Rothbard 1962). Aside from getting interest and rent on his capital
goods, the capitalist-entrepreneur seeks profit as well: "The
capitalist-entrepreneur buys factors or factor services in the
present; his product must be sold in the future. He is always on the
alert, then, for discrepancies, for areas where he can earn more
than the going rate of interest" (Rothbard 1962). In real-world
markets, most entrepreneurs are also capitalists; from this fact
stems the difficulty, often encountered by theoretical economists,
of accurately determining which part of the
capitalist-entrepreneur's payment is interest and which is profit.
Mises acknowledged this issue in Human Action: "It is more difficult
to sunder entrepreneurial profit from originary interest" (Mises
1949, p. 535). In the real world, lenders of money are also
necessarily entrepreneurs, because each loan runs a risk of non-repayment.
In the face of this uncertainty, "in every act of lending
an element of entrepreneurial venture" (Mises 1949, p. 536) and thus
"[e]very interest stipulated and paid in loans includes not only
originary interest but also entrepreneurial profit" (Mises 1949, p.
536). Only through the use of the imaginary construction of the
evenly-rotating economy where profits are absent, but originary
interest and rent persist can a clear distinction between originary
interest and entrepreneurial profit be established (Mises 1949, p.
Consumer Sovereignty and Mutual Gain
Mises recognized an essential element of the market order that often
remains unseen at first glance. In Human Action, Mises noted
that the market economy has the following predominant characteristic:
"Everybody in acting serves his fellow citizens. Everybody, on the
other hand, is served by his fellow citizens. Everybody is both a
means and an end in himself and a means to other people in their
endeavors to attain their own ends" (Mises 1949, p. 257). Without
coercion, the market steers each economic agent's self-interest
toward benefiting his fellow men; nobody is forced to choose a given
line of work or to produce a given good or service-and yet
individuals undertake these endeavors of their own free will; Mises
even went as far as agreeing with Karl Marx that the market was
characterized by "anarchic production," though Mises and Marx
disagreed on their normative evaluations of this phenomenon (Mises
1949, p. 257).
How does the market system enable producers both of direct consumer
goods and factors of production to work for the benefit of others?
Mises explains this phenomenon via the idea of consumer sovereignty:
"Neither the capitalists nor the entrepreneurs nor the farmers
determine what has to be produced. The consumers do that" (Mises
1949, pp. 269-270); the consumers care solely about their own
satisfaction when they purchase goods on the market. They are not
concerned with the personality, past merits, or success of a given
entrepreneur, but rather with the ability of his product to satisfy
their desires; if they find a different product that fulfills their
needs more effectively, they will shift to purchasing that product
(Richman 2005). The capitalist-entrepreneur can only stay in
business and earn profits as long as he pleases consumers and his
product passes the consumers' "stern test: will the satisfaction
rendered by that product exceed the satisfaction rendered by an
alternative use of the money? If the answer is no, the capitalist's
pleas will fall on deaf ears" (Richman 2005). The consumers can be
sovereign because, in a market economy, they have the choice to
purchase or not to purchase the goods offered by any given producer.
Mises writes: "The consumer is not at the mercy of the shopkeeper.
He is free to patronize another shop if he likes. Nobody must kiss
other people's hands or fear their disfavor" (Mises 1949, p. 286).
According to Mises, consumers are not only sovereign with regard to
goods they directly purchase, but also with regard to all the inputs
that go into those goods. The inputs have no value outside of the
value to consumers of the final product they contribute toward; "[d]emand
at the retail level shapes demand at the earlier levels of
production" (Richman 2005). Hence, entrepreneurs in every industry
no matter whether they produce direct consumer goods or inputs must respond to consumer tastes and preferences in order to stay in
business. Serving his fellow man is not a mere option for the market
entrepreneur; it is vital to his economic survival.
Using the idea of consumer sovereignty, Mises refutes Marx's
dichotomy between "production for use" and "production for profit."
Indeed, writes Mises, "[p]roduction for profit is necessarily
production for use, as profits can only be earned by providing
consumers with those things they most urgently want to use" (Mises
1949, p. 299). Only when the consumers benefit from using the
capitalist-entrepreneur's product can the capitalist-entrepreneur
make money selling it.
Yet consumer sovereignty does not mean consumer tyranny. In fact,
Mises writes, "[t]here is in the range of the market a very
substantial and effective right to resist oppression" (Mises 1949,
p. 286). A man is perfectly free to defy the tastes of consumers for
instance, in not selling or using goods and services to which he
objects morally; however, he must also be willing to pay the price
of such defiance, for "there are in this world no ends the
attainment of which is gratuitous" (Mises 1949, p. 286). If an
entrepreneur could have sold weapons or alcohol at a profit but does
not wish to do so out of ethical considerations, he is free to
follow his conscience, but he must also forgo the profits he could
have gained from those ventures.
Furthermore, consumer sovereignty on the market does not mean merely
the sovereignty of the majority of consumers or of the most popular
tastes and preferences. Mises writes that "on the market no vote is
cast in vain" (Mises 1949, p. 271), as there exist goods to suit
minority preferences; for example, "[t]he publishers cater not only
to the majority by publishing detective stories, but also to the
minority reading lyrical poetry and philosophical tracts" (Mises
1949, p. 271). Unlike a political democracy, where only the majority
or plurality gets what it voted for, a market gives every consumer
what his money can purchase.
The Source and Nature of Profits and Losses
Mises does not consider profit to be a function of an entrepreneur's
capital stock; "[p]rofit is not related to or dependent on the
amount of capital employed by the entrepreneur. Capital does not 'beget'
profit" (Mises 1949, p. 297). Neither interest on capital, nor
dividends, nor monopoly gains, nor gains from technological
innovation can be described as profit proper (Mises 1951). Rather,
shifts in consumer demand are responsible for profits' emergence.
When these shifts occur, production must be adjusted, and the
entrepreneur who adjusts it most effectively to fulfill consumer
preferences will get the largest profits (Mises 1949, p. 297).
Indeed, Mises recognizes that alterations in consumer preferences
inevitably occur in periods of economic change: "Some goods are
valued higher than previously, others lower. These alterations are
the source from which entrepreneurial profits and losses stem"
(Mises 1949, p. 534).
Mises contends that entrepreneurial profits and losses "have no
place in an imaginary world of normalcy and equilibrium" (Mises
1949, p. 297). Profit is inherently a disequilibrium phenomenon,
caused by the introduction of new economic conditions changes in
consumer tastes and preferences to which entrepreneurs must adjust.
The adjustment process is always temporary, and any given profit
opportunity tends to diminish as the adjustment gets underway and to
disappear once the adjustment is complete. Thus, an entrepreneur
cannot expect to take advantage of a profit opportunity and benefit
from it indefinitely; rather, "[t]he fleeting nature of
entrepreneurial profits spurs constant innovation and efficiency"
(Richman 2005), an unceasing need for entrepreneurs to seek new ways
in which consumer satisfaction can be optimized.
Uncertainty of future economic conditions is necessary for profits
to come about; if everybody in an economy could fully anticipate the
future, the entrepreneurs "would neither earn any profits nor suffer
any losses. They would have to buy the complementary factors of
production at prices which would, already at the instant of purchase,
fully reflect the future prices of the products" (Mises 1951). In
the face of this uncertainty, profits give an incentive to
entrepreneurs who judge the future correctly and provide the
quantity and kind of goods that consumers want. The profitable
entrepreneur purchases inputs at present prices that are lower than
what he could sell the finished product for in the future; his
profit is the difference between the price he receives for the goods
he sells and his total costs of production of which Mises considers
interest on capital invested to be a part (Mises 1951).
If, however, the entrepreneur judges the future state of consumer
demand wrongly, he will incur a loss by paying more for current
factors of production than the revenue he could get by selling the
finished product in the future. The difference between his higher
total cost and lower total revenue is the entrepreneur's loss (Mises
1951). But one needs not to be in the position of an owner of factors
of production in order to be an entrepreneur or to experience profit
and loss. Ultimately, according to Mises, profits and losses are
psychic phenomena: "They are intensive magnitudes. The difference
between the value of the end attained and that of the means applied
for its attainment is profit if it is positive and loss if it is
negative" (Mises 1951). In this broad, psychic sense, every acting
individual is an entrepreneur in that he hopes to reap greater
rewards from his activities than the total opportunity cost of
engaging in them. The entrepreneur need not be a capitalist who owns
factors of production; he be a simple laborer or just a man seeking
to maximize his psychic enjoyment of his leisure time.
Only where monetary calculations enter the picture, however, can
profits and losses be quantified; the original psychic profits and
losses, on the other hand, remain impossible to reduce to a single
objective standard of measurement: "Profit and loss are computable
as social phenomena. The psychic phenomena of profit and loss, from
which they are ultimately derived, remain, of course, incalculable
intensive magnitudes" (Mises 1951).