The Lange model (or Lange–Lerner theorem) is a neoclassical

economic model In economics, a model is a theoretical construct representing economic processes by a set of variables and a set of logical and/or quantitative relationships between them. The economic model is a simplified, often mathematical, framework desi ...

for a hypothetical

socialist economy Socialist economics comprises the economic theories, practices and norms of hypothetical and existing socialist economic systems. A socialist economic system is characterized by social ownership and operation of the means of production that may ...

based on public ownership of the

means of production The means of production is a term which describes land, labor and capital that can be used to produce products (such as goods or services); however, the term can also refer to anything that is used to produce products. It can also be used as an ...

and a trial-and-error approach to determining output targets and achieving

economic equilibrium In economics, economic equilibrium is a situation in which economic forces such as supply and demand are balanced and in the absence of external influences the ( equilibrium) values of economic variables will not change. For example, in the s ...

and

Pareto efficiency Pareto efficiency or Pareto optimality is a situation where no action or allocation is available that makes one individual better off without making another worse off. The concept is named after Vilfredo Pareto (1848–1923), Italian civil engi ...

. In this model, the state owns non-labor factors of production, and markets allocate final goods and consumer goods. The Lange model states that if all production is performed by a public body such as the state, and there is a functioning price mechanism, this economy will be Pareto-efficient, like a hypothetical market economy under perfect competition. Unlike models of capitalism, the Lange model is based on direct allocation, by directing enterprise managers to set price equal to marginal cost in order to achieve Pareto efficiency. By contrast, in a capitalist economy, private owners seek to maximize profits, while competitive pressures are relied on to indirectly lower the price, this discourages production with high marginal cost and encourages

economies of scale In microeconomics, economies of scale are the cost advantages that enterprises obtain due to their scale of operation, and are typically measured by the amount of output produced per unit of time. A decrease in cost per unit of output enables ...

. This model was first proposed by Oskar R. Lange in 1936 during the

socialist calculation debate The socialist calculation debate, sometimes known as the economic calculation debate, was a discourse on the subject of how a socialist economy would perform economic calculation given the absence of the law of value, money, financial prices fo ...

, and was expanded by economists like H. D. Dickinson and

Abba P. Lerner Abraham "Abba" Ptachya Lerner (also Abba Psachia Lerner; 28 October 1903 – 27 October 1982) was a Russian-born American-British economist. Biography Born in Novoselytsia, Bessarabia, Russian Empire, Lerner grew up in a Jewish family, which e ...

. Although Lange and Lerner called it "

market socialism Market socialism is a type of economic system involving the public, cooperative, or social ownership of the means of production in the framework of a market economy, or one that contains a mix of worker-owned, nationalized, and privately owne ...

", the Lange model is a form of

centrally planned economy A planned economy is a type of economic system where investment, production and the allocation of capital goods takes place according to economy-wide economic plans and production plans. A planned economy may use centralized, decentralized, p ...

where a central planning board allocates investment and capital goods, while markets allocate labor and consumer goods. The planning board simulates a market in capital goods by a trial-and-error process first elaborated by

Vilfredo Pareto Vilfredo Federico Damaso Pareto ( , , , ; born Wilfried Fritz Pareto; 15 July 1848 – 19 August 1923) was an Italians, Italian polymath (civil engineer, sociologist, economist, political scientist, and philosopher). He made several important ...

and Léon Walras. The Lange Model is in practice type of

and not type of

. The Lange model has never been implemented anywhere, not even in Oskar Lange's home country,

Poland Poland, officially the Republic of Poland, is a country in Central Europe. It is divided into 16 administrative provinces called voivodeships, covering an area of . Poland has a population of over 38 million and is the fifth-most populou ...

, where

Soviet-type economic planning Soviet-type economic planning (STP) is the specific model of centralized planning employed by Marxist–Leninist socialist states modeled on the economy of the Soviet Union (USSR). The post-''perestroika'' analysis of the system of the Soviet ...

was imposed after World War II, precluding experimentation with Lange-style economy. Some parallels might be drawn with the

New Economic Mechanism The New Economic Mechanism (NEM) ( hu, Új gazdasági mechanizmus) was a major economic reform launched in the People's Republic of Hungary in 1968. Between 1972 and 1978, it was curtailed by the prevailing winds of Eastern Bloc politics. During th ...

or so-called

Goulash Communism Goulash Communism ( hu, gulyáskommunizmus), also commonly called Kádárism or the Hungarian Thaw, is the variety of socialism in Hungary following the Hungarian Revolution of 1956. János Kádár and the Hungarian People's Republic imposed pol ...

Hungary Hungary ( hu, Magyarország ) is a landlocked country in Central Europe. Spanning of the Pannonian Basin, Carpathian Basin, it is bordered by Slovakia to the north, Ukraine to the northeast, Romania to the east and southeast, Serbia to the ...

under Kádár, although this was not a pure Lange-model system.

Overview

The model is sometimes called the "Lange–Lerner" model.

Abba Lerner Abraham "Abba" Ptachya Lerner (also Abba Psachia Lerner; 28 October 1903 – 27 October 1982) was a Russian-born American-British economist. Biography Born in Novoselytsia, Bessarabia, Russian Empire, Lerner grew up in a Jewish family, which ...

wrote a series of articles that greatly influenced Lange's thinking. For example, Lerner (1938) caused Lange to re-write his 1936 and 1937 articles on

, before they were re-published as chapters in a 1938 book. Lerner (1938) influenced Lange's thinking on

social dividend The social dividend is the return on the capital assets and natural resources owned by society in a socialist economy. The concept notably appears as a key characteristic of market socialism, where it takes the form of a dividend payment to each ...

payments. Lerner (1944) also argued that investment in the Lange model would inevitably be politicized. The Lange model was developed in response to

Ludwig von Mises Ludwig Heinrich Edler von Mises (; 29 September 1881 – 10 October 1973) was an Austrian School economist, historian, logician, and Sociology, sociologist. Mises wrote and lectured extensively on the societal contributions of classical liberali ...

and

Friedrich Hayek Friedrich August von Hayek ( , ; 8 May 189923 March 1992), often referred to by his initials F. A. Hayek, was an Austrian–British economist, legal theorist and philosopher who is best known for his defense of classical liberalism. Haye ...

criticisms of socialism Criticism of socialism (also known as anti-socialism) is any critique of socialist models of economic organization and their feasibility as well as the political and social implications of adopting such a system. Some critiques are not directed ...

during the

. The critics argued that any body that owns and consolidates a society's means of production cannot acquire the information needed to calculate general equilibrium prices, and that market-determined prices were essential for the rational allocation of producer goods. The Lange model contains principles proposed by neoclassical economists

and Léon Walras. Lange's theory emphasizes the idea of Pareto efficiency: a situation is Pareto-efficient if there is no way to rearrange things to make any individual better off without making anyone worse off. To achieve Pareto efficiency, a set of conditions must be formulated in stages. This idea of deriving conditions to ensure that consumer preferences are in balance with the maximum amount of goods and services produced is emphasized by Walras. The theorem indicates that a socialist economy based on public ownership could achieve one of the principal economic benefits of capitalism - a rational price system - and was an important theoretical force behind the development of the concept of

Basic principles

The Lange model suggests three levels of decision-making. The lowest level contains firms and households, the intermediate level contains industrial ministries, and the highest level is the central planning board. The board sets the initial price of consumer goods arbitrarily and informs the producing firms of these prices. The state-owned firms then produce at the level of output where marginal cost equals price, P = MC, so as to minimize the cost of production. At the intermediate level, industrial ministries determine the sectoral expansion of industry. Households decide how to allocate income and how much labor to supply by choosing between work and leisure.

Institutions

The key institutions of the Lange model include the central planning board (CPB), industrial ministries for each economic sector, and state enterprises managed democratically by their employees.

Trial-and-error price adjustments

Because prices are set by the central planning board "artificially" aiming to achieve planned growth objectives, it is unlikely that supply and demand will be in equilibrium at first. To produce the correct amount of goods and services, the Lange model suggests a trial-and-error method. If there is a surplus of a particular good, the central planning board lowers the price of that good. Conversely, if there is a shortage of a good, the board raises the price. This process of price adjustments takes place until equilibrium between supply and demand is achieved.

Central planning board

The central planning board (CPB) has three major functions in the Lange model: First it instructs firms to set price to equal marginal cost, secondly it adjusts prices to attain market-clearing prices for goods and services, and finally, it reinvests the economic profit derived from state enterprises into the economy based on a target rate of growth. The central planning board also distributes social dividends to the population.

Social dividend

Apart from setting prices, the central planning board allocates

s. Because all non-labor factors of production are publicly owned, the rents and profits of these resources belong to the public. The profits would be used to finance a social dividend scheme based on the individuals' share in the income derived from the socially owned capital and natural resources, providing a complementary source of income for workers alongside their salaries and wages.''On the Economic Theory of Socialism'', by Lange, Oskar. 1936. The Review of Economic Studies, Vol. 4, No. 1: "It seems, therefore, convenient to regard the income of consumers as being composed of two parts: one part being the receipts for the labour services performed and the other part being a social dividend constituting the individual's share in the income derived from the capital and the natural resources owned by society."

Advantages

The Lange economic model has a number of theoretical advantages. One advantage is public control over investment. The rate of economic growth would be largely state-determined and a major determinant would be investment ratio. Another advantage argued by Lange was that

externalities In economics, an externality or external cost is an indirect cost or benefit to an uninvolved third party that arises as an effect of another party's (or parties') activity. Externalities can be considered as unpriced goods involved in either co ...

could be better accounted for, thanks to the state's ability to manipulate resource prices. Because the state controls all firms, they could easily factor the cost of an externality into the price of a certain resource. Because decisions are made at higher rather than lower levels, it is argued that these decisions are less likely to have undesirable environmental consequences. Furthermore, because the state uses

marginal cost pricing In economics, the marginal cost is the change in the total cost that arises when the quantity produced is incremented, the cost of producing additional quantity. In some contexts, it refers to an increment of one unit of output, and in others it r ...

and determines entry, Langean socialism can avoid monopolies and the accompanying lack of

allocative efficiency Allocative efficiency is a state of the economy in which production is aligned with consumer preferences; in particular, every good or service is produced up to the point where the last unit provides a marginal benefit to consumers equal to the mar ...

and

x-efficiency X-inefficiency is the divergence of a firm’s observed behavior in practice, influenced by a lack of competitive pressure, from efficient behavior assumed or implied by economic theory. The concept of X-inefficiency was introduced by Harvey Leiben ...

. The model claims to solve another main criticism of

capitalism Capitalism is an economic system based on the private ownership of the means of production and their operation for profit. Central characteristics of capitalism include capital accumulation, competitive markets, price system, priva ...

. Lange believed that his model would reduce cyclical instability because the state would control savings and investment, consequently eliminating a major source of inefficiency, inequality and social instability that arises from violent cyclical shifts under capitalism.

Criticisms

Milton Friedman Milton Friedman (; July 31, 1912 – November 16, 2006) was an American economist and statistician who received the 1976 Nobel Memorial Prize in Economic Sciences for his research on consumption analysis, monetary history and theory and the ...

criticized the Lange model on methodological grounds. According to Friedman, the model rested on "models of imaginary worlds" rather than "generalizations about the real world", making the claims of the model immune to falsification. He also criticized the model on logical grounds by pointing out that any system which posits state ownership of enterprise requires the continuous intervention by force from the state as any time an individual started a private enterprise the state must either shut it down or seize it, or use force to deter individuals from starting private enterprises in the first place.Milton Friedman, 'Lange on Price Flexibility and Employment', ''Essays in Positive Economics''.

References

Literature

* * Kowalik, Tadeusz (1987). "Lange-Lerner mechanism," '' The New Palgrave: A Dictionary of Economics'', v. 3, pp. 129–30. * Roemer, John (1994). ''

A Future for Socialism A, or a, is the first letter and the first vowel of the Latin alphabet, used in the modern English alphabet, the alphabets of other western European languages and others worldwide. Its name in English is ''a'' (pronounced ), plural ''aes' ...

'', Verso Press. * * * * * Lange, O 1937 On the Economic Theory of Socialism II ''The Review of Economic Studies'' V4 N 123-142 * Lange, O 1938 On the Economic Theory of Socialism B Lippincott ed. University of Minnesota Press * Lange, O 1940 Letter to FA Hayek, translated by Thadeusz Kowalik * Lange, O 1942 Economics of ''Socialism Journal of Political Economy'' 50(2):299-303 * Lange, O 1957a Political Economy of Socialism, reprinted in ''Kowalik'' 1994 * Lange, O 1957b. Role of Planning in a socialist economy, reprinted in ''Kowalik'' 1994 * Lange, O 1967 The Computer and the Market in Socialism, Capitalism, and Economic Growth Feinstein Ed. Reprinted in ''Economic Theory and Market Socialism'' T Kowalik ed. Edward Elgar pub. * * * * * Lerner, A 1944 The Economics of Control * * * MacKenzie, DW, 2006 Oscar Lange and the Impossibility of Economic Calculation, Studia Economicze * MacKenzie, DW Social Dividends, Entrepreneurial Discretion, and Bureaucratic Rules * MacKenzie, DW Capital and Income in Democratic Socialism * MacKenzie, DW Trial and Error in the Socialist Calculation Debate * * * {{cite journal , last= Shleifer , first= Andrei , author-link= Andrei Shleifer , author2=Robert W. Vishny , year= 1994 , title= The Politics of Market Socialism , journal=

The Journal of Economic Perspectives The ''Journal of Economic Perspectives'' (JEP) is an economic journal published by the American Economic Association. The journal was established in 1987. It is very broad in its scope. According to its editors its purpose is: #to synthesize and i ...

, volume= 8 , issue= 2 , pages=165–76 , doi = 10.1257/jep.8.2.165 , url= http://nrs.harvard.edu/urn-3:HUL.InstRepos:33077903