I recently remembered a profound truth about the free market and the prices that sit at its center. Unfortunately, this truth is often ignored by both critics of the market economy and economists like me. This simple truth is that the price system works thanks and only thanks to a set of institutions that promote cooperation between us.
As an economist, I’m used to arguing that free markets, though imperfect, are a better alternative to government intervention. It’s more like this:
The free market price system, together with the competition of sellers for customers and of consumers for bargains, plays a vital role in collecting and processing information about our economy dispersed among millions of buyers and of sellers. The resulting prices are a measure of the value people place on goods and services.
In a well-functioning competitive market, the argument goes, these critical price “ratios” tell us the most advantageous ways to use finished goods and services, intermediate goods, raw materials and, above all, time and human talent, and drive entrepreneurs to produce what we most intensely want as efficiently as possible. In economic terms, prices convey information about shortages and incremental substitutions that create wealth.
It’s a mind-boggling system where, as French political scientist Frédéric Bastiat reminded us decades ago, although no one predicts it, “Paris is fed daily.”
Enter Samuel Gregg and his wonderful new book, “The Next American Economy”. Gregg’s case for the free market goes beyond the classic economic argument.
He writes that “the case for free markets involves rooting such an economy in what some of its most influential founders believed to be America’s political destiny; that is, a modern commercial republic. He adds that “politically, this ideal embodies the idea of an autonomous state in which the governed are regularly consulted; in which the use of state power is limited by strong commitments to constitutionalism, the rule of law and private property rights; and these citizens consciously adopt the specific habits and disciplines necessary to support such a republic.
Yes! I like to think I’m a great defender of the markets, but every time I omit these last points I sabotage my own case. On the one hand, terms like “competitive markets” sound like a heartless process. But the most important aspect of this competitive process is cooperation.
Indeed, massive cooperation is happening daily across the globe. Consider, say, the shirt you’re wearing. It is possibly made of cotton from Texas and thread from Canada, sewn in Vietnam and shipped in an assembled vehicle in Japan.
Imagine the trust established in such a cooperative system. It is partly the product, as Gregg explains, of the existence of property rights: the exclusive authority to determine how a resource is used. Will you sell your working time to Apple or John Deere? Are you going to spend your earnings on a Toyota or a Harley? All of this is based on the rule of law, which gives everyone the security of their property rights. The law must be clear, well known and stable.
No serious free marketer believes markets are perfect. We are not utopians. Unfortunately, perfect markets and perfect competition are often the starting point of economics textbooks. This rosy starting point leads many to conclude that when conditions aren’t perfect, the best course of action for correction is government intervention. It’s wrong.
Not only is government itself flawed, as anyone can see, but the market is a process for finding and correcting mistakes. A market imperfection is an opportunity for entrepreneurs to profit. As Arnold Kling recently wrote: “Markets fail. Use markets. Indeed, adds Kling, “entrepreneurial innovation and creative destruction tend to solve economic problems, including market failures.”
This is not to say that the government plays no role outside of protecting property rights. But it does mean that confidence in government intervention must be tempered by an acknowledgment of government’s own failings, including a tendency to favor one group of people over another and an inability to adapt when policies fail or fail. that circumstances change.
Ultimately, when we say “free market,” it’s shorthand for a combination of institutions that allow people to cooperate, tolerate each other, live peacefully, and thrive. As Gregg reminds us, all of these are an essential part of what George Washington envisioned for the new nation he led and described as “a great, respectable, and trading nation.”
Véronique de Rugy is the George Gibbs Chair in Political Economy and Senior Fellow at the Mercatus Center at George Mason University.