Henry Schultz and Paul
Douglas
ESTIMATING THE KEY RELATIONSHIPS OF
NEOCLASSICAL PRICE THEORY AT CHICAGO IN THE
1920S AND 1930S
Henry Schultz (1893-1938)
(Chicago Faculty 1926-1938)
 “Just as a sailor needs a compass, so the quantitative
worker, if he is to have a deep understanding of his
own work, needs an economic theory. It may not be a
perfect theory, but a theory he must have . . .
Without stretching the metaphor, it may be affirmed
that the pure (mathematical) theory of economics
stands in relation to literary theories as the Sperry
gyroscopic compass does to the ordinary variety of
mariner’s compasses.” (1926)
Schultz on the Theory of Demand, as developed
by Pareto and those who followed him
 “The equations summarizing the interrelations [of
demand for related goods] constitute a category of
laws that is rare in the social sciences: they specify
quantitatively definite relations which must exist
between the variables – if the theory is true. They
enable us to test extent of the agreement between
theory and fact. Probably the most important of
these relations is that given by the Slutsky condition,
which is essentially a test of rationality or
consistency in the marketplace . . . The Slutsky
condition is valid, whether or not utility is
measurable. . . ” (1935)
Schultz on the failure of his tests of demand
theory
 “A very easy way out of the difficulty is to assume
that farmers are not rational economic beings –
which may be true. . . I prefer to believe . . . that the
contradiction in question is an instance of the
treacherous difficulties of inference from time series,
or that some factor has been overlooked, or that the
data are not reliable for the purpose in view.” (1933)
Paul Douglas (1892-1976)
(Chicago Faculty 1920-1948)
 “It has long seemed to me that the inductive, statistical, and
quasi mathematical method must be used if we are ever to
make economics a fruitful and progressive science. The
neoclassical school has constructed a valuable theoretical
scaffolding . . . This is a beginning, but only a beginning. For
in order to make the analysis precise . . . it is plainly necessary
to determine the slopes of the demand and supply curves . . .
There is need for a similar approach to the problems of
distribution. We need to know whether the assumed curves of
diminishing marginal productivity are merely imaginative
myths or whether they are real, and if the latter, what their
slopes are. We need to know more about the supply functions
of the factors and whether the actual processes of distribution
furnish any degree of corroboration to the inductive
tendencies discovered” (1933)
Douglas on his Critics (I)
 It is one of the amusing and at times irritating ironies of the present
state of economic science that many modern statisticians . . . seem
resolved to maintain the innocence of their beloved figures by
keeping them unsullied from intelligent analysis . . .They seem
resolved to do battle to the end against anyone who seeks to use
them as a means of obtaining significant and interpretive results.”
(1934)
 (T)he high priests of “pure” theory never tire of pointing out that
they are dealing with only static conditions . . .when statistical series
dealing with time sequences or even relative distributions in space
are brought forward the armchair theorists brush these aside on the
ground that they may include either shifting of curves or different
curves. Should we [therefore] abandon all efforts at the inductive
determination of theory and remain in the ivory tower of “pure”
theory? If this is what is done, we may as well abandon all hope of
further developing the science of economics. . . . (1934)
Douglas on his Critics (II)
 [Use of industry level data] is somewhat disconcerting to those who are
accustomed in their a priori reasoning to start with the theory of
production for an individual firm . . . Such theorists probably believe that
we are starting at the wrong end . . . I should be glad to make studies of
individual firms if the necessary data were available. But I am reluctant to
believe that we should stop all our investigations until . . . facts are
forthcoming from a multitude of firms. I personally see no reason why we
cannot approach this problem from either end and study the macrocosm as
well as the microcosm. . . Why should we not study the economy as a whole
as well as speculate about the individual firm, particularly since knowledge
of the former throws a great deal of light on the problems of the latter?
(1947)
 Criticisms of the production function of the type advanced by the users of
confluence analysis such as Dr. Mendershausen are in our judgment
essentially sterile. Recent discussion along this line shows that this group
will reject any analysis which does not show every conceivable point on a
production surface. But enormous quantities of labor are seldom wedded to
minute quantities of capital, any more than giants and pygmies are often
mated in real life. (1942)
The “Empirical Tradition” of H. Schultz and P. Douglas:
Four Propositions
 Economics, if it is to be a progressive science, must have an important
empirical component.
 Empirical research in economics should be informed and guided by
theory, and the neoclassical theory of value and distribution, expressed
in mathematical form, is a very useful theory for this purpose
 The essential concepts and relationships of neoclassical theory, though
static in nature and in a sense “unreal”, can be identified and measured
in the data generated by the real dynamic economy through the use of
advanced statistical methods. Thus, the development of such methods
is an important task for empirical economists.
 The statistical procedures used to measure these theoretical entities can
also be used to test fundamental assumptions and implications of the
theory, thus providing a means by which economics can satisfy an
important criterion of modern science.