21st January 2011
Wealth Creation through Free Markets
(Extract from Breaking Free of Nehru)
No society can call itself free without its markets being almost entirely free. The qualification ‘almost’ is explained later in this section, but let me discuss the main premise first. When we talk of a ‘free’ press, and advocate more of it, we feel a sense of righteousness, even pride, in our ‘forward looking’ position. More of this particular ‘free’ thing is surely better, we assert confidently! Well, it turns out that the same holds for markets.
It is surely reasonable to assume that an average adult is competent enough to determine what is in his or her best interest – unless he or she is seriously challenged intellectually. Such citizens of one or more nations who voluntarily[i]exchange legally permitted goods and services, produced or otherwise sourced by them, with each other, and value these goods and services through the unhindered exercise of their personal judgment, can be said to constitute a market. Markets are thus agglomerations of two or more trading peoples, including organizations of people, at a point in time. They cover a big chunk of our interactions with others.
For a market to form there is no requirement that the buyer and seller should be located next to each other. If, living in Australia, I buy a book from Amazon.com which ships it to me from USA, I become part of the online market. In this online market I am interacting ultimately with some human being somewhere in USA; a person whom I don’t need to see or to know about at all. A market is thus a fairly general concept. We may also refer to markets by what is traded in them, e.g. the labour market where employees hire their labour for a wage, or a grain futures market where people can buy grain from farmers even before the crop is sown. At other times we apply this concept to the place where people assemble to interact with each other, e.g. a shopping centre, a website, or an auction centre. A market in this broader sense is any interface of voluntarily agreed commercial interaction between trading peoples.[ii]
More broadly, even non-commercial interactions can form part of markets. Temples and churches are part of the market for spiritual services, where we receive spiritual services in exchange for our allegiance and monetary contributions. The concept of markets can also be applied within a family, where husbands and wives ‘trade’ services between themselves. Every sensible husband knows the consequences of not doing his part of the ‘bargain’ such as trimming the lawn or mending the leaking roof; or even bringing an occasional bunch of flowers for his excellent wife. Wives are known to keep a detailed scorecard. A reader reminded me that consequences also exist for wives who do not keep their share of the bargain! Life’s no joke! There are markets, trades and accounts everywhere!
We can reasonably assume under this non-coercive and loosely defined structure called market that people agree to buy something only if they are made better off[iii] by the purchase. Similarly, they do not sell unless they are made better off by the sale, even if it is a so-called ‘distress’ sale. These assumptions are valid only for the particular instantwhen a trade is agreed upon – both the buyer and seller perceive themselves being better off at that moment. If this were not so, it would mean that one of them has deliberately chosen to make himself worse off – which doesn’t make sense. If that happens it may be because the person has been coerced, which means it is no longer part of a market. There is a ‘limiting’ case when trade is agreed to by someone who remains only as well offas before.[iv] This limiting case is only a mathematical curiosity; since why would anyone trade if there was no benefit, either tangible or intangible?
What about people who apparently become better off by choosing to make themselves materially worse off? Charity is a case in point. During a festival at Prayag in the seventh century AD, king Harshavardhan gave away his personal ornaments and wore an old and ordinary garment instead. The traditional definition of what makes a person better off would seem to have been turned on its head in this case. But the principle actually remains valid, for the person is now receiving psychological (in this case spiritual) benefit of equal or greater value in return. One is therefore quite safe in assuming that each trade always makes each party to the trade better off.[v] This is a major assumption, since it underpins all creation of wealth.
What about transactions not deemed to be legal by a society? In my definition of markets, you’ll note that I included only the exchange of legally permitted goods and services. What about drug dealers buying and selling drugs? Is that part of the market? After all, a drug dealer and the drug addict both become ‘better off’ in their own way as a result of the trade. The same applies to prostitution, smuggling, gambling, or trading in beef, alcohol, tobacco, pornography, banned books and so on. These are areas where a government, presumably representing the views of the majority of the people, has declared some of these ‘markets’ as illegal, or otherwise restricted their operation. Without commenting on my personal view on any of these ‘markets’,[vi] let me state that illegal trades do not constitute a market for the purposes of this book because these are not recognized markets. There is no place for lawlessness in a free society. Even if we disagree with restrictions imposed in a free society, citizens cannot disobey the laws, but must work democratically to modify them.
The most important thing about free markets is that they are entirely compatible with our freedom, since our individual choice is given the greatest possible consideration or regard. Even the richest man can’t force me to buy his products or to work in his company unless I choose to. I am king of myself – of my kingdom of one. Each of us participates in markets consciously and as a complete equal of all others in the independence of our decisions. This equality of status which acknowledges people’s dignity is a hallmark of markets. Free markets are truly democratic. Ludwig von Mises described market democracy thus:[vii]
Within the market society the working of the price mechanism makes the consumers supreme. They determine through the prices they pay and through the amount of their purchases both the quantity and quality of production. They determine directly the prices of consumers’ goods, and thereby indirectly the price of all material factors of production and the wages of all hands employed […] In that endless rotating mechanism [i.e. a market society] the entrepreneurs and capitalists are the servants of the consumers. The consumers are the masters, to whose whims the entrepreneurs and capitalists must adjust their investments and methods of production. The market chooses the entrepreneurs and the capitalists and removes them as soon as they prove failures. The market is a democracy in which every penny gives a right to vote and where voting is repeated every day.
[i] Marketing and advertising is not coercion, no matter how ‘distasteful’ it may be. Nor do the so-called ‘hard sell’ tactics of a second hand car dealer or a ‘cold call’ from people who knock on our door, or ring our telephone, amount to coercion, for we can always choose our decisions.
[ii] E.g. when I work as a bureaucrat, hired on behalf of elected political representatives of India, I am renting my time, policy knowledge and skills to the government of the day. If I don’t like what the government pays me, or the way it works, or the way it treats me, I can rent my services elsewhere, say to an Australian State Government. Of course, this particular instance is quite an extreme example, i.e. where labour moves across countries. But the voluntary nature of the employee relationship is to be clearly noted. And some labour markets are genuinely global today, for instance, the market for academic scholars. The best Indians professors always get picked up to teach in the USA, UK, or Australia. Indeed, about 80 per cent of our best economists now work abroad.
[iii] In almost all cases where a transaction is based on exchange of some service in lieu of money, we would be willing to pay a little bit more than what we usually end up paying. That extra bit that we would have paid but did not have to pay is the ‘consumer surplus’ of economics. The richer we get the greater the consumer surplus we receive, as we are asked to pay a ‘market price’ which is usually much less than what we would have been willing to pay.
[iv] This entire argument is called Pareto optimality.
[v] The Edgeworth box commonly found in elementary books of economics is a beautiful illustration of this logical analysis.
[vi] In answering this question I would hark back to fundamentals of the theory of freedom – is there sufficient factual evidence that restrictions placed on people’s freedom will, on balance, preserve or enhance life? Does the product hurt, poison, maim, or kill people? Is the restriction based on an individual’s personal ‘sense of morality’ which is not related to its direct impacts on life?
[vii] In his Omnipotent Government: The Rise of the Total State and Total War, Yale University Press, New Haven, CT, 1944. Copy available at [http://www.mises.org/etexts/mises/og.asp].