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Market management of the essential economy: An essay.

Walter C. Wagner (*)


This essay presents a framework for thinking about public economic policy. The argument is that the prevailing theory of competitive markets serves a useful public purpose but creates problems when made into an ideology. The core theory and philosophy suffers from oversights and illusions. Fundamentalist thinking found in it can be dangerous for the long run well-being of humanity. These insights lead to the conclusion that the fundamental task of an economics for public policy should be to develop a theory of workable markets. [C] 2002 Elsevier Science Inc. All rights reserved.

1. Introduction

I see the sun go around the Earth every day. The evidence is as clear as daylight. Yet it is an illusion.

So it is with the market system. Western type economies have been very successful in creating wealth. Economists think that the market system as modeled by competitive price theory explains this success. This is the illusion that I wish to explore in this essay.

The survival capacity of organized humanity evolved with the coevolution of human nature, technological instruments and social bonding directed by institutionalized rules of community interaction. With this process there emerged the essential economy necessary in doing the work of provisioning for its own survival.

The essential or real economy that has succeeded so admirably has not been described well by main-stream economics. The economy has not been organized by a utopian competitive market system. Nor has it been organized by markets described as imperfect competition in introductory texts.

2. Illusions in the history of economic thought

The illusions and oversights that haunt public economic thinking today have their origins in centuries old thinking.

Mercantilists looked for the source of wealth where they saw individuals become wealthy. Their conclusion:

Wealthy individuals are those who accumulate money.

Accumulate money and you are wealthy.

When you are wealthy you can buy what you want.

Money is the source of wealth.

This is the money illusion. There is real capital equipment and knowledge. It differs substantially from money capital. The distinction between portfolio assets and real assets is important.

Physiocrat Quesnay said, no! Money is not the source of wealth. Cultivating nature is the source of wealth.

Adam Smith in effect said no again. He saw labor as the cause of the wealth of nations. Here Smith brought into focus the basis of modem insights, oversights and illusions in economics. Smith's insights included the following. The division of labor enhances labor's productivity. Division of labor and the propensity to truck, barter and exchange naturally leads to the market exchange system. It is a monetized exchange system.

A major oversight by Smith was his treatment of knowledge and technology. Smith accepted these as given and focused instead on capital accumulation. In his view saving and investment were the explanation of growth. In thus focusing on capital accumulation he missed the opportunity to develop a theory and philosophy of the real or essential economy.

Here is a "Y" in the road of the history of economic thought. It is the Apartheid of knowledge-technology from the explanation of the nature and causes of the wealth of nations. The forces doing the bulk of the work in the essential economy don't get explanatory credit in Smith's theory.

Smith's base line philosophy, Nature knows best, is developed in his Theory of Moral Sentiments. His Wealth of Nations is an application of his nature knows best philosophy. He had the insight that self interest (in the self reliance sense) motivates man in economic affairs. But he committed an oversight by leaving out of his economic theory the other motivations which he discussed in his Theory of Moral Sentiments. Examples of the missing motivations are: curiosity and the quest for knowledge, compassion and sympathetic feelings for others and duty. Because of this oversight he built his economics on the single abstracted sentiment of self-interest.

Smith's insight was his "invisible hand" which is nature's natural laws doing what is best through human nature's self interest. His oversight was to ignore the fact that rules regulated human impulses within an environment of natural laws. For Smith, rather than rules, competition arising from self interest regulates and monitors the economy. Thus Smith perpetuated the illusion that natural laws know best and are automatically beneficnt for mankind.

Public economic ideology today inherits the money illusion of mercantilist logic. It inherits Smith's belief that natural laws know best and are beneficent. It inherits the belief that the cause of the wealth of nations is the competitive market driven by human nature's self interest.

Here I turn to competitive theory's present day version. Competitive price theory is a platonic utopian myth creating a logical illusion. And this competitive market image is the major touchstone or benchmark of what an economy should be and do. It is an illusionary moral should.

In its fundamentalist public ideology form the competitive market image is the benchmark of:

1. Efficiency

2. Justice (equity)

3. Progress

4. Freedom

Note what this illusion is assumed to accomplish automatically. Under constraints of scarcity it rations resources to maximize resource productivity and consumer utility. Furthermore, the rate and quality of progress is determined freely and automatically by consumers maximizing their utility. Hence the illusion that the competitive market is the source of Western economic success.

But there is an oversight. The essential economy, that is, the real economy, which is the major cause of success contains a number of features left out of competitive theory. Cumulative knowledge-technology is one. The contribution from the location of natural resources is another. The creative-cooperative qualities of human nature is a third. And the fourth is the fact that the real economy is shaped by man-made rules and laws and positive government actions.

That said, the price mechanism (as distinct from the competitive theory of it) DOES manage rationing of scarce means by: allocating resources, economizing scarce means in production, distributing claims on the output and economizing (rationing) in consumption.

Even here, however, there is an oversight. All societies face and solve the problem of rationing. Tribalism, feudalism, fascism, communism, and socialism all are forced to economize (ration) scarce means among competing ends. Even nature's ecology rations! The fact that an economy rations or economizes does not automatically provide a justification for its methods or results.

3. The core insight and illusion summarized

Thus, the insight of modem competitive theory is that economizing is inescapable. The illusion is that market managed economizing is maximizing. The prices set in markets need not be accepted as fair exchange measures nor as accurate measures of scarcity. These are illusions from the logical construction of competitive theory.

It is an illusion that there can or does exist a market meeting the logically prescribed conditions of rational self interested maximizers, engaging in equal exchanges (explained by the marginal productivity theory of distribution) in an economy of powerless competitors, with perfect knowledge engaged in perfect competition necessary for prices to be true measures of relative scarcity.

But there is an insight here. Changes in supply or demand in monetized markets do influence prices.

The theory of imperfect competition was developed in response to the obvious gap between theory and the essential economy. But that attempt at realism is another illusion. There is no meaningful imperfect competition because there is no perfect competition from which to depart and become imperfect. Imperfection here is a deviation from the nonexistent logically constructed Platonic perfect utopia myth.

4. Toward a better approach

Market theory carries the message of the importance of economizing efficiency but fails to explain how to achieve it in the world of reality. What, in light of these critiques of competitive theory, do I submit as a more useful touchstone of the nature and causes of the wealth and progress of nations?

The answer is not a one liner! Rethinking economic theory and philosophy must provide a theory and philosophy of the essential economy. It must rethink how the real economy is managed by the monetized market under scarcity. It must provide a moral philosophy by which to judge the effectiveness of the market's management of the essential economy. It must reconstruct theory and philosophy in order to provide practical moral guidance for formulating public policy.

Here I can only illustrate a tiny response to this complex challenge.

The market will continue to play a substantial role in managing the essential economy. This is so because there is no all-knowing wisdom capable of instructing each quasi-autonomous decision that must be made many million times a day in managing a modem economy. The market can and does help set prices that function as cues facilitating economizing under conditions of scarcity.

How are these prices set in ways that facilitate economizing? Workable economies with workable markets do the job. The workable economy is the messy organic whole economic apparatus. It is the organic system the price mechanism plays a substantial role in managing. Here there is not a Platonic perfect or Newtonian mechanistic equilibrium of geometric precision. Here market prices are not cues that lead to maximizing perfection or cause imperfection. However, prices are cues that induce rationing.

If not formed by a competitive or imperfectly competitive market, how are prices formed? Prices are set by:

1. Degrees of custom or tradition (customary markups).

2. Degrees of power derived from: size, advertising, image building, "invisible hand shake", power influencing the rules (collective bargaining, legislation, administrative law).

3. Degrees of flexibility in responses to shifts in supply and demand.

It is these messy prices that manage scarcity for the essential economy. It is this market managing mechanism that requires rethinking.

5. Conclusion

The essential economy -- the knowledge, technology, resource, skills and work ethic that gets things done -- is managed in all advanced industrialized cultures by a monetized market. The most fundamental role of market management is that of rationing scarce means for a multitude of competing as well as mutually supportive alternatives.

The market is a system of rules. Supply and demand operates within these rules. There is no ideal invisible hand or perfect competition or maximum efficiency or ideal equity to be interfered with.

The admonition that external interference in the market necessarily interferes with efficiency and equity is mere illusion. Interference here is not with a Platonic perfectly efficient or just market. Rather it is interference with that which exists.

The messy regulated exchange systems currently in place in the Western nations provide an acceptable workable competition. The community can live with the system and even prosper.

Yet it can be fairly stated that these real world prices do not: establish fair exchanges, result in a satisfactory sharing of the product of the essential economy, meet needs as well as they might, ration with a futurity morality in mind, or adequately utilize human potential for fullest contribution to the progress, wealth and well-being of humanity.

There is room for improvement in the essential economy. Recognizing the opportunities and acting upon them is made difficult and in some cases impossible by the paradigm of competitive price theory. A theory of workable competition is needed. What seems workable is that as we improve our vision of the public good and as costs are imposed to protect our environment and better distribute to meet needs, then price determination can be left to the quasi automatic workable market of workable competition.

(*.) Tel.: + 1-209-465-7334.

E-mail address: (W.C. Wagner).
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Author:Wagner, Walter C.
Publication:The Journal of Socio-Economics
Geographic Code:1USA
Date:Nov 1, 2001
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