Fritz Machlup, The Consumption of Capital in Austria (1935)

Machlup’s article interprets Austria’s economic decline through capital consumption: expenditure can sustain present consumption while eroding the productive resources on which future income depends. His empirical and policy argument also answers a criticism of Austrian economics:

THE Austrian theory of economics has often been reproached with over-abstractness and remoteness from real life.

Austria provides a historical application of that theory, connecting capital depreciation with war, inflation, territorial dismemberment, and postwar economic policy. Machlup credits Mises with identifying capital consumption as a phenomenon requiring distinct analysis.

The conceptual starting point is the relationship between physical equipment and economic value:

When capital equipment is physically destroyed — say by war, by fire, by wear and tear — its value is gone simultaneously.

The reverse sequence is also possible. Equipment can lose economic value before physically deteriorating: changed demand or costs can make maintenance unprofitable, so eventual dilapidation follows an initial economic loss. Machlup distinguishes this process from falling reproduction costs, which can reduce monetary valuations without implying physical depletion. Maintaining capital therefore requires more than preserving machinery; saving must offset depreciation, including unexpected losses caused by structural change.

The empirical core draws on Oskar Morgenstern’s investigation of Austrian corporations listed in Vienna. Comparing 1913 capital values plus subsequent investment with 1930 valuations produces an estimated loss of 79 percent, rising to 87 percent after the Credit Anstalt collapse. These figures measure declining corporate capital value, not physical destruction. The comparison excludes corporations that disappeared completely, because territorial changes complicated the distinction between business disappearance and relocation:

This procedure concealed the loss of capital of corporations which disappeared completely, but it was imposed by the fact that some corporations had moved, following the dismemberment of the Austrian monarchy, from Vienna into the capitals of the new nations.

Machlup acknowledges the limitations of market valuations but resists adjusting them merely because they reflect pessimism. Expected recovery should already influence share prices; a correction would substitute the statistician’s judgment for the market’s. New tariff barriers contributed to depreciation but, in his interpretation, cannot explain its entire magnitude.

Capital consumption is not simply an individual act of dissaving. Other people’s saving may offset it, while foreign borrowing can sustain domestic investment. Yet Machlup argues that Austrian capital imports often covered losses, dividends, or replacement needs instead of expanding productive capacity. Gains in newly favored industries likewise do not automatically compensate for losses elsewhere. Additional saving is necessary, and a shift of expenditure toward consumers’ goods can further depress producers’ industries.

Inflation supplies a central mechanism. Depreciation allowances based on historical prices become insufficient for replacement, while rising inventory prices generate apparent profits that may be spent despite representing no increase in real wealth. Monetary gains can thus conceal shrinking productive resources. This distinction between accounting profit and sustainable income connects the valuation analysis to Machlup’s criticism of taxation, wage bargaining, social charges, and banking practice.

Taxes, he contends, may reduce saving or replacement expenditure rather than consumption, while increased operating costs can leave firms producing at a loss. Continued operation remains possible when immediate closure would be still more costly. Banks may support dividends to protect industrial holdings, managers may defend their positions, and political concern about unemployment may prolong uneconomic production. His explanation therefore includes private financial incentives as well as public policy.

Increased consumption of several staple goods provides the counterpart to declining capital values. Consumer-goods industries, especially breweries and sugar refineries, retained capital comparatively well. For Machlup, this uneven performance explains how apparent improvements in living standards could coexist with deterioration of the productive base.

The conclusion remains qualified by measurement and attribution problems. Physical capital was not directly measured, independent demand shifts cannot be cleanly separated from capital consumption, and interacting pressures cannot be assigned precise shares of responsibility. The article offers a causal interpretation rather than a quantified decomposition of Austria’s losses. Its central contention is that rising spending, wages, benefits, credit, and consumption do not by themselves demonstrate sustainable prosperity: they may instead conceal the consumption of capital.