When a metaphor like “the market” is used to describe something as complex as the institutions and practices associated with the producing and selling of goods in a modern economy, the term will inevitably carry with it the feelings of familiarity and ordinariness associated with the more literal meaning of a market like the one where we buy groceries. Farmers markets which have become so popular in recent years are probably the closest approximation to the village markets which were so central to local economies in the past and which still live in our imaginations thanks to nursery rhymes, songs and stories we heard as kids. Some might want to claim that a shopping mall is the modern equivalent of the village market, but a shopping mall exists on top of a vast network of businesses that have nothing in common with the individuals selling their own produce in an old-fashioned village market.

Adam Smith, who is generally regarded as the father of modern economics, was a moral philosopher and colleague of David Hume. Late in his career he became interested in how nations manage to grow and prosper, partially inspired by the ideas of French physiocrats. He began his analysis by assuming individuals who were each striving to better their own condition through their labor and through barter or trade with others. By comparing the entire economy of an nation to a village market, he was able to conclude that technological progress, division of labor and various forms of infrastructure, made it possible for the total output of everyone’s labor to grow and be distributed in a way that benefited everyone. The idea of a market where supply and demand determine prices became the central tenet in almost all economic theory.

In the mid 20th century mathematicians became interested in modeling Adam Smith’s idea of a market economy and came up with a general equilibrium theory which gave free market theory a stamp of approval from higher mathematics. Not all economists thought the simplified model was adequate for the task of analyzing a modern economy. 

Apparently the math suggests that the nature of money and finance in a modern economy renders the metaphor of a market obsolete.

The textbook definition of a market economy is

An economy in which the what, how, and for whom questions concerning resource allocation are primarily determined by supply and demand in markets. In this form of economic organization, firms, motivated by the desire to maximize profits, buy inputs and produce and sell outputs. Households, armed with their factor incomes, go to markets and determine the demand for commodities. The interaction of firms’ supply and households’ demand then determines the prices and quantities of goods.

What this implies is that the two things driving this theoretical market are the profit motive and the preferences of individuals. Economics makes no attempt to evaluate either. It assumes that the profit motive is a primary element in human interactions, and it professes to be neutral about the relative merit of individual preferences or what impact they may have on society.

The profit motive is often described as the driving force of capitalism or its life blood. It is the aspect of the individual’s self-interested behavior which forms the basis for economic transactions. As an idea the profit motive is subject to extreme interpretations ranging all the way from an almost mystical force which creates society to a moralistic condemnation as a cynical interpretation of human nature which believes “greed is good.” Mainstream economics simply accepts it as an obvious component in the way things work.

In examining the forces determining the supply curve, the fundamental point to grasp is that producers supply commodities for profit and not for fun or charity.

Profits in a market-based economy also serve another function beside lining the pockets of the successful entrepreneur:

Like a farmer using a carrot and a stick to coax a donkey forward, the market system deals out profits and losses to induce firms to produce desired goods efficiently.

This may seem commonplace and obvious, but somewhere along the way something changes as the desire of individuals to better their condition morphs into profit maximization in large businesses or the focus on shareholder value in publicly held corporations. The most obvious problem is that the profits for successful enterprises are not based on all the costs actually incurred in terms of effects on the environment or society. Supply and demand in a market cannot prevent pollution. As it maximizes profits, corporate agriculture is not only destroying the viability of smaller family-owned farms but also depleting aquifers, destroying the top soil in the midwest and polluting water as far away as the Gulf of Mexico where polluted runoff has travelled down the Mississippi to create a “dead zone” in the Gulf the size of New Jersey.

Economics addresses such “externalities” by recognizing the need for regulation. In many cases, though, the harm done to the environment or society by a profitable enterprise is questioned in passionate political debate or is simply viewed as less important than the benefits provided by the enterprise. Moreover large corporations often have enough influence in government to prevent regulations that would damage their bottom line.

Markets are also regarded as a key ingredient of the “capitalist” or “free enterprise” system that has proved so effective in improving the “standard of living” for so many people during the last two centuries. Somehow markets and capitalism are responsible for the industrial revolution and the development of the technology that has so enriched our lives. It is not immediately whether capitalism fosters technology or technology fosters capitalism, but the prevailing belief is that history proves “capitalism works.” It may not be perfect, but it is better than any other economic system known to man. Some might be inclined to note that the last two centuries have also brought us war and genocide on an unprecedented scale, working conditions comparable to slavery for masses of people and environmental destruction that threatens the very possibility of human life on the planet. None of this, however, suggests a better mechanism for allocating resources than the market. Marx and others have tried to imagine an economy without profits, but efforts to supplant the profit motive seem to devolve into oppressive re- education.

A market economy is often presented as the only form of social organization that permits individuals to remain autonomous, and any attempt to limit its functioning may be viewed as a threat to individual “liberty” or “freedom.” Belief in free markets supports the illusion that we can decide how to live our lives without being subject to some authority. Even if it contributes to the concentration of enormous wealth and power in a tiny portion of the population and forces millions to live in dire poverty, we continue to believe a market economy represents the only form of social organization that fosters individual liberty.

Economists tend to present “the market” as a natural eco- system which has spontaneously evolved over the centuries. The implication is often that given its spontaneous evolution it is best left alone to function naturally rather that being subject to “interventions.” The problem with this assumption is, of course, that the market itself is produced by “interventions” – the social customs and legal framework which permit it to function. A truly “free” market has probably never existed and certainly never existed on any scale other than a small primitive community.

Since mainstream economics aspires to be “scientific” it attempts to understand and model the market as though it were a natural phenomenon using abstractions like supply and demand. Some critics insist that the market can never be understood as a “natural” phenomenon because it involves human choice. The market is an institution based on cultural customs and political choices. The givens that economics uses in modeling such as individual preferences are not fixed givens in the way the behavior of molecules may be. They are influenced by trends, fads, advertising, propaganda, education, religious beliefs and other practices. One might say that molecules are influenced by their context as well such as temperature and the presence of other molecules, but the range of possible behaviors for a molecule seems nowhere near as infinite as the range of behaviors possible for a human being.

The market often seems to be conflated with “democracy” as a form of social organization. In a democracy each citizen theoretically has an equal vote in determining public policies. In a market, however, individuals have radically differing numbers of “votes.” The person with more money has more influence over the allocation of resources than his less well-off neighbors, and he is deemed to be entitled to that extra influence due to the fact that he has more money, however he may have come by it. Democracy is theoretically opposed the concentration of power in the hands of a single person or a select group. Revolutions may have eliminated monarchy and an hereditary aristocracy, but market economies foster plutocracy.

Prior to the financial crisis, financial markets were touted as a way of democratizing the market economy. Everyone could become a part-owner of whatever business suited his fancy. Risks and benefits were shared by all. A similar attitude was common in the ‘20s before the crash. Anyone could get rich by being smart. Apparently most people weren’t quite smart enough, and the risks and benefits were not quite equally shared.

Any community or society which recognizes private property and uses money will have some form of market. Perhaps the only real alternative to a market economy is the “gift economy” found in some small primitive societies, but it hardly seems feasible in a large developed economy. Advocates of a society in which all the natural resources, real estate and means of production are owned by “the state” distinguish between “private property” and “personal property” to explain how such a society can still have markets for consumable products. In societies that attempt to control markets too tightly it seems inevitable that “black markets” will emerge. Even in prisons money may take the form of cigarettes in order to permit an orderly market for whatever goods are available. It seems that the whole point of money is to enable markets.

The question then seems to be how to regulate markets and whether there are any limits to the kinds of things sold in markets. There is a more or less universal consensus that human beings are not a suitable “good” to be sold in markets. We don’t want “slavery” or “human trafficking.” There is, of course, a kind of market for children in that a couple wanting to “adopt” can pay money to the right people and acquire a child legally to raise as their own. Economists also like to talk about “labor markets,” but we prefer to think that what is being sold in a labor market is not a person. It is simply – what? – their “services” or some of their time. Wage-earners are not slaves because they can theoretically walk away from the job with the hope of finding another way to earn a living. Whether that hope is groundless will depend on external factors influencing the market.

A market transaction is rarely a negotiation between autonomous individuals on an equal footing. For one thing markets are susceptible to “leverage.” A worker with financial reserves can afford to quit while his colleague might not be able to survive while he looked for a better job. Standard Oil could afford to sell gas at a loss in order to bankrupt the competition and eventually acquire a virtual monopoly in some areas. Amazon could lose millions of dollars for years in order to corner the market in book sales and then expand into virtually every other consumer market. Unions can force employers to improve working conditions or pay higher wages. Economies of scale enable Walmart to attract all the customers away from local mom-and-pop businesses.

There is another way in which economists like to tout the market. It is seen increasingly as an information system enabling individual producers and consumers to optimize the use of their resources and maintaining a balance between supply and demand for every conceivable type of “good.” Just as the stock market seems to be based on the assumption that investors know more about the value of a company than the company’s own managers and accountants, the market at large is seen as an unimpeachable source of knowledge about all kinds of things. The most absurd extreme example of this faith was probably the idea that a futures market in terrorism could be used to help formulate public policy. The Pentagon, in defending the program, said such futures trading had proven effective in predicting other events like oil prices, elections and movie ticket sales.

Research indicates that markets are extremely efficient, effective and timely aggregators of dispersed and even hidden information,” the Defense Department said in a statement. ”Futures markets have proven themselves to be good at predicting such things as elections results; they are often better than expert opinions.

What exactly is this extremely efficient, effective and timely aggregator of dispersed and even hidden information? Is it simply like Ebay where anyone who has something to sell can make it available and set the price based on what others are charging for similar items or even let the buyers establish a price by bidding? The dispersed information which the market reveals is for the most part simply consumer preferences. Sales are a good indication of the “demand” for a product, and watching the effect of raising and lowering prices can enable a seller to find the sweet spot that maximizes his profit. Market research and polls may help anticipate the demand for a product, but actual sales are the only true measure that reflect all the factors involved in the consumers’ decisions.

What is the “demand” that the market reveals. If the price for something goes up and demand for it goes down, does that mean the fewer people really want the product? It means that fewer people can afford the product, but those who would buy it if it were cheaper presumably still would like to have it. So demand is not just an indication of consumer preferences but of consumer preferences tempered by financial resources. That is really the point of market theory, of course, since the measure of the market’s effectiveness or efficiency seems to be the extent to which it maximizes producers’ profits. It is not to maximize consumer satisfaction.

Suppose you did want to maximize consumer satisfaction. Other than redesigning airliner interiors, how would you do it? Is the satisfaction of owning a 200-ft. yacht greater than the satisfaction of feeding and clothing a child? Is the number of people who own cell phones more or less significant than the number of people who receive proper medical care? Do homeless people count as consumers?

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