Market Failure: The Back of the Invisible Hand

The myth: The mysterious “invisible hand” of the free market will “make everyone better off.” Practical experience tells us otherwise…

June 20, 2007 (crisispapers.org ) – The concept of "the invisible hand," cherished by self-designated "conservatives," has its origin in Adam Smith’s Wealth of Nations.

[The individual] neither intends to promote the public interest, nor knows how much he is promoting it… [H]e intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention.

An unyielding faith in the infallible beneficence of "the invisible hand," leads to "market absolutism" – the doctrine that whatever government attempts, privatization and the free-market can do better.

What market absolutists (unlike Smith) fail to notice, is that not all workings of "the invisible hand" are beneficial.  Some unintended consequences of market activity are harmful — "the back of the invisible hand."  Economists call these "market failures."

One cannot enroll in an Introduction to Economics class, without encountering the concept of “market failure” – the acknowledgment that a totally unconstrained and unregulated free market can, at times, have socially undesirable consequences (as I will exemplify below).  It is one of the most obvious and incontrovertible facts of economics. Almost all of us are aware of market failures, whether or not we have ever studied economics.

Some students of Econ. 101 choose to major in Economics, and a few of these earn doctorates in the field. Those scholars who go on to work for The Heritage Foundation, The American Enterprise Institute, The Cato Institute, and other such "conservative think-tanks" somehow manage to completely forget about “market failures.”  The free unregulated market, they tell us, always brings about the socially optimum result.  Some examples (with my italics):

  • “In the free market, the individual would have to produce a good that the other person desired in order to receive a good in return. Adam Smith's "invisible hand" of the market guides all participants in society to promote the best wishes of everyone else by pursuing his own wants and desires.” (Jacob Halbrooks)
     

  •  “[T]he free market allows more people to satisfy more of their desires, and ultimately to enjoy a higher standard of living than any other social system... We need simply to remember to let the market process work in its apparent magic and not let the government clumsily intervene in it so deeply that it grinds to a halt." (David Boaz, Libertarianism, a Primer, p. 40, 185.)
     

  • "A free market [co-ordinates] the activity of millions of people, each seeking his own interest, in such a way as to make everyone better off... Economic order can emerge as the unintended consequence of the actions of many people, each seeking his own interest." (Milton and Rose Friedman: Free to Choose, pp 13-14).

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