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Fellows with Friedman

The Invisible Hand

John Taylor

 Markets, incentives, and a carefully delineated role for government are the main pillars of basic economics courses and texts, including the introductory course I’ve taught college students for years and my textbook Principles of Economics. In a market economy, most decisions about what to produce, how to produce it, and for whom it is produced are made by individuals, firms, and organizations interacting in markets. Prices in those markets signal what goods and services people want, and the prices create incentives to produce those goods and services.

The principles of economic freedom are also those of economic success.

For instance, a greater demand for healthy foods increases their price and thereby gives firms the incentive to produce more healthy foods. The higher price also provides incentives to people to invent new healthier (and perhaps even tastier) foods and to create firms to sell the new products.

The higher wages paid for skilled labor offer people the incentive to become skilled, whether by staying in school or by learning on the job. As they respond to these incentives, people who become more skilled are frequently led by Adam Smith’s “invisible hand to promote” the interests of society through more effective medicines, more entertaining movies, or more efficient search engines. When greater economic freedom increases opportunities to trade at home and abroad, the existing incentives expand and economic prosperity increases. Lower income tax rates increase incentives by raising the benefits (higher incomes) one gets from investing in education or a start-up business.

To learn more, read “Jumpstart the Economy!,” available here.

Russ Roberts

 Who coordinates the competition for flour between pizza lovers and the lovers of bagels on Super Bowl Sunday? There is no coordinator. There is no one you have to lobby to make sure that croissants or baguettes or bagels are available the week before or the week after or the day of the Super Bowl. You don’t have to call ahead. It’s all there waiting for you.

Our plans fit together without anyone coordinating them from the top down. The process is unmanaged. Yet it turns out fairly well.

This process works so well, we do not notice it.

And we do not notice the bakers who rise early every morning to make sure we have fresh bread. They get satisfaction from providing bread to strangers, but that is not usually enough to get people up at 4 a.m. Something else is going on, something more powerful than a memo decreeing that the bakers rise early. The bakers rise early almost everywhere as if there were someone in charge orchestrating their mornings. But there is no conductor of that harmony.

This order emerges from the bottom up and not the top down.

Order that involves incredible coordination across millions of individuals, most of whom are strangers to each other without direct communication.

The process is held together by a series of feedback loops—profit and loss and prices and competition.

Understanding those feedback loops—what sustains them and what can destroy them—can take a semester or longer.

Understanding and appreciating emergent order, and understanding when it works well and when it doesn’t—and it does not always work well—is for me, the essence of economics and the deepest idea that we economists can contribute to helping normal human beings understand the world around us.

To learn more, read “An Introduction to It’s a Wonderful Loaf,” available here.

Richard Epstein

The genius of Adam Smith, whose musings on the invisible hand are too often derided, was to realize that private markets (supported, to be sure, by suitable public infrastructure) will do better than a command-and-control system in satisfying the individual’s wants and needs.

Ordinary businesspeople speak of win/win transactions. In doing so, they show an intuitive understanding that statements about groups must be transformed into statements about the individuals that compose them. That common expression, “win/win,” is the distillation of sound economic theory, for the more win/win transactions a society can generate for its people, the greater its economic prosperity. Such transactions generate gains to all parties involved in the bargain.

The great advantage of competition in markets is that it exhausts all gains from trade, thus allowing individuals to attain higher levels of welfare. These win/win propositions may not reach the perfect endpoint, but they will avoid the woes that are now consuming once-prosperous economies.

To learn more, read “Social Justice and Empty Pockets,” available here.