Tag: exchange

Markets in Everything and not Just in Theory

The main arguments for government intervention center around public goods and collective action problems.  These arguments are weakening.  Far from being the sole domain of bureaucracies, these are the areas with the most opportunity for innovation.  We see more of it every day, and there is more to come.

Scholars in the classical liberal tradition have argued on ethical and efficiency grounds for markets in everything.  Odd as it may at first strike us the commodification of everything from vital organs to votes allows for freer, fairer allocation and coordination and reduces waste.  Many people will debate the desirability and possibility of markets in everything.  These are interesting discussions but the great thing is no one needs to win them.  We can create markets in everything right now.

Consider AirBnB or Uber as a first step.  People have unused resources like a spare room or a car.  Technology reduces transaction costs associated with simultaneous coordination among thousands of people.  We can turn our unused resources into valuable commodities to buy and sell.  Take it a step further and consider what else we could do.  Why not solve collective action problems that plague community projects with Kickstarter or Groupon like mechanisms?  Want a new park in the neighborhood, setup the campaign and don’t break ground until enough people have voluntarily pledged.  Those who don’t will be easily seen and neighbors can try to convince them to join.  No one’s taxes or HOA dues go up across the board or against their will.  No simple majority can force everyone to their preferred allocation of resources.

There is nothing inherently noble about the political means of allocating resources and addressing collective action problems.  In fact, it comes with a whole heap of unique problems.  Opportunity exists all around us to move more and more processes out of arbitrary first-come-first-serve and political machinations and into the dynamic, voluntary marketplace.

In fact, the less of a market you see in a good, service, or industry, the greater the opportunity.  I launched Praxis because higher education had become more and more cartelized.  There’s not enough of a market.  I want to bring higher ed back into a more competitive market.  Health care, transportation, and finance are top candidates for major disruption.  They’ve become stagnant and further and further removed from the open market process.  That creates wedges of opportunity.  From the major to the mundane, technology allows us instant, decentralized communication and reduces transaction costs associated with large groups with diverse desires.  These means we can bring just about anything into the world of free exchange and enjoy all the advantages and flexibility of the price mechanism.

What can you bring to the market?  I’m excited to see what’s next.

Why I Love the Anonymity of the Market

A lot of people say they want to know the person who sells to them.  They want a tight-knit Mayberry-like marketplace where you buy from and sell to your friends and family.  Seems more civil and cozy than the widely dispersed and highly specialized global market, doesn’t it?  I don’t think so.  And I don’t think most people realize that the very anonymity they claim to dislike is one of the more humanizing and freeing aspects of the market.

Trying a new format, I recorded this while driving home from Starbucks.

It Goes Both Ways

People have a tendency to put themselves into one role in the market, and vilify the other.  They think of themselves as consumers, and producers are nasty.  They think of themselves as employees, and employers are greedy.  They think of themselves as sellers, and buyers are stingy.  They think of themselves as borrowers, and lenders are predatory.  To condemn any of these roles in the market is to condemn oneself.  We all play every role at one time or another.

Why is it wrong for the price of gas or groceries to go up, but right for the price of your home or the value of your 401(k) to go up?  You’re the “greedy” seller when you post on Craigslist.  You’re the “stingy” capitalist when you shop for the bank with the highest interest rate.  You’re the one “taking advantage of others” when you take a few extra minutes on lunch break or treat customers rudely.

There needn’t be any bad guy.  The point is, in a market we’re all at once buyers and sellers, producers and consumers, borrowers and lenders.  These are functions, not people, and all market participants play these roles at various times.  None of these roles are more or less noble than the other.  They’re all wonderful, so long as they’re all voluntary.  If they’re voluntary, they only come into being when another person, playing the counterpart, agrees to the exchange.  There are no sellers without buyers, there are just people with stuff they can’t get rid of.

Go easy on the one-sided category judgments.  Next time you’re tempted to condemn a company for taking advantage of employees, for example, consider all the employees that take advantage of the company as well.  Consider that both parties have to agree to work together, and both are aware of the ways in which the  other will try to get the most for the least in the deal.

Was Adam Smith Wrong?

Here’s an article I originally wrote for the Prometheus Institute.

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Disagreeing with a man whose face appears on the necktie of many a freedom-lover is perhaps dangerous, but sound reason can’t be sacrificed on the altar of great men – and Smith was a great man.

Indeed, Adam Smith, in his depiction of the division of labor in a pin factory and his timeless prose on the invisible hand and the self-interest of the butcher, offers some of the greatest explanations and defenses of capitalism ever written, even some 230 years later. I consider Smith a great thinker, and a hero of liberty. That doesn’t mean he was never wrong; particularly when it comes to the question of value.

Smith’s thoughts on the derivation of value in his Wealth of Nations laid the groundwork in this area for later thinkers like David Ricardo (another brilliant mind who was right about many other things) and eventually Karl Marx. In the case of the latter we have clearly seen how bad ideas can have horrific real-world consequences. As John Maynard Keynes famously remarked,

“Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist.”

I might add too the bad ideas of otherwise good economists.

Smith essentially, though somewhat confusedly, argued that the value of any good was ultimately derived from the amount of labor it took to produce. Money or commodity prices reflected only the nominal but never the real value of a good. In this way he described the different prices of different goods as a simple formula:

“If among a nation of hunters, for example, it usually costs twice the labor to kill a beaver which it does to kill a deer, one beaver should naturally exchange for or be worth two deer.” (The Wealth of Nations, Book I, Chapter VI)

Smith elaborated further by describing other costs of producing a good, including the role of the entrepreneur and capitalist and the profits they require. Unlike Marx, Smith never denigrated the role of the capitalist or the profits they earned, but his conception of value resulting from the cost of production (ultimately labor) opened the door for the idea that anything charged or earned above the cost of real inputs is unnecessary; excellent fodder for anyone anxious to obtain power by appealing to an envious middle class.

The problem with Smith’s analysis is not that the cost of production has no link to the value or money price of a good – indeed, the two are closely connected. He merely had the relationship backwards.

In reality, prices reflect the money equivalent of the value a buyer places on a good. That is to say, an individual who wishes to have a good places an entirely subjective value upon that good as compared to other goods, and the difference is typically expressed in terms of money. If in Smith’s example no one cared for beavers, the cost of killing a beaver wouldn’t matter; the beaver would sell for little or nothing. There is no one value of a good, but each individual values each good differently, as compared to other goods. It is the same for Smith’s supposedly changeless measure of value, labor. An hour of the same kind of labor may be valued (or disdained) to different degrees by different people.

It is for this reason that price is merely the reflection of the amount of money an individual was willing to give up to obtain a given good in the most recent exchange.

However, Smith was correct in seeing a relationship between the cost of production and price: Once a producer or entrepreneur has an indicator of what someone was willing to pay for a good, he can speculate how much others will be willing to pay in the future. He may be incorrect, but he will start with an estimate based on past experience and hope to get an equal or higher price. It is the estimated price (which reflects the value others place on the good) that will dictate how much he can spend on production. If a producer expects a good to sell for $1, he will be willing to spend up to $0.99 to produce it. (This is obviously a simplification, as he may be willing to take short term loss if he expects long term gains, he may want more than a $0.01 profit, etc.) In other words, the amount of labor and other costs of production flow from the expected sale price of the good, not the other way around. No one will spend more to produce an item than they believe others will be willing to pay to buy it.

Smith correctly saw that the various costs which go into production must be paid by the sale price of the final good. What he failed to see is that the costs of production do not create the price of the final good or imbue it with some objective value, but that the subjective value that each consumer places on the good sends signals backwards to producers and tells them how much they can expend on production without suffering a loss.

That Smith saw the factors which go into the production of a good as the cause of the price, rather than the effect, may seem like a small error. But economics, like all attempts to study the behavior of human beings, is a subtle science which requires great attention to the correct logical progression of actions. A misunderstanding between cause and effect can be fatal.

A slight adjustment to the angle of a satellite signal can, when extrapolated over thousands of miles, result in a beam nowhere near its target location. Likewise, looking at an economic phenomenon, such as the price of a good, from an even slightly incorrect angle can result in consequences far greater than imagined when spread over time and by different minds in different cultures. I would never single-handedly blame Adam Smith for the horrors of socialism. But his backwards theory of value contributed, over time and space, to a set of ideas which laid the theoretical groundwork for socialism – a philosophy completely contrary to the views of Smith.

I still admire and respect Adam Smith as one of the world’s great minds and a positive force in the battle for liberty. His conclusions and prescriptions were correct, even though his methodology was sometimes flawed. However, the lessons to be gleaned are to never let admiration for a great mind blind you to areas in which they are in error; and that even correct conclusions, if based on incorrect reasoning, can be dangerous.