#3 Markets
How markets are a complex emergent phenomenon that is challenging to engineer.
Econ 101
This post comes under the sub-section Econ 101. Under Econ 101 I try to cover some basic economics concepts that will come handy in public policy discussions. We won't cover economic theory exhaustively, there are many textbooks that can do this better. We will be focussed on developing an economic way of looking at the world.
Emergent Phenomena
Most days I eat what I cook. Weirdly my favourite part about cooking is not the cooking. It is the cleaning that I do afterwards. There are days when I look at the cleaning job I've done and give myself a pat on the back with a sigh. Oh I love those days! I wouldn't call myself a cleanliness freak, but I like it when things are organised.
I also drive to work most days. It's not Delhi or Bangalore, but some mornings the traffic in my town can really get to your nerves. You wonder what that auto guy is doing putting half of himself on the road and half out, you wonder if people can see the difference between the red and green signals, and most of all you wonder if it's the police guy, supposedly directing the traffic, who is making it worse for everyone. I get mad at someone every three days, sometimes it's two!
Think about this, when my kitchen is all dirty, I can get to work and tidy it up. But can I tidy up the traffic? Whose fault are the traffic congestions anyway? Everyone's and no one's. My kitchen is clean or dirty because of my actions. But traffic emerges from the complex interaction of the decisions made by all who drive on the road, no one individual is neither responsible nor can individually do anything much about it. Similarly, if the air from your AC is too cool, you can dial it down. But when it is raining outside, there’s no switch to turn to off, no dial to set to “dry.” Such phenomena like, rain or traffic, are called emergent phenomena .
Social systems are full of such emergent processes. They are different from engineering processes. Designing a car is an engineering problem. The variables are controllable. You know what to do to get what outcome. But social processes are not that simple to design. They are emergent.
Nevertheless, if we look around us, we see a lot of coordination and cooperation happening in social processes without anyone micromanaging it every step of the way. As economist Friedrich Hayek said:
To understand our civilisation, one must appreciate that the extended order resulted not from human design or intention but spontaneously.
Spontaneous Order
Economics is the study of this spontaneous order. When such order emerges through prices, monetary or non-monetary, we call it markets. Markets simply means, decentralised non-organised interactions between buyers and sellers who communicate through the language of prices.
For example, someone wants to sell a piece of land that is fit for growing yellow corn or soybean. Interested buyers will bid for this land based on their plans to grow either of the crops and the possible profits they can make. The owner of the land will sell the land to the highest bidder. Let's say a soybean farmer won the bid and got the land. He was willing to pay for the land based on his calculations of how much he can make in a few months through selling the crops he produce in the land. He makes these calculations based on the price offered to him by soybean wholesalers. These wholesalers offer a particular price based on the price offered to them by retailers. The retailers know how much their customers are willing to pay for soybean.
Do you see how prices are communicating what to buy, what to sell, what to grow, how much to grow, to people in this chain all the way from the retailers to the land owner? Do you see how markets are formed in the process?
There is no central planner involved in these processes. But there are multiple people coordinating and cooperating in bringing the soybean to the customer. It is a decentralised non-organized process. An order emerges spontaneously, with prices being the signal.
Soviet Experiment
When policymakers ignore this spontaneous nature of social order and treat emergent problems as engineering ones, it always leads to unanticipated consequences.
In the early years of the Soviet Union after the revolution, they adopted a strictly centrally planned economy. Instead of allowing markets to emerge spontaneously through buyer-seller interactions, the Soviets went for a system where a central planner fixed prices of goods.
Historian Sheila Fitzpatrick has described how Russian life suffered from the failure to accurately price (and to allow markets to supply) food, clothing, and housing:
With the transition to a centrally planned economy at the end of the 1920s, goods shortages became endemic in the Soviet economy.... A worker from the Urals wrote that to get bread in his town you had to stand in line from 1 or 2 o’clock at night, sometimes earlier, and wait for almost 12 hours.... Bread was not the only thing in short supply. The situation was no better with other basic foodstuffs like meat, milk, butter, and vegetables, not to mention necessities like salt, soap, kerosene, and matches….. Meanwhile, people lived in communal apartments, usually one family to a room, and in dormitories and barracks.... So acute was the housing crisis in Moscow and Leningrad that even the best connections and official status often failed to secure a separate apartment.
How can a central planner know the price of a product when prices emerge through interactions among hundreds of individuals? Even the noblest of intentions of a central planner, doesn't equip her with the knowledge about prices which is a dynamic emergent phenomenon. When policy makers are not cognizant of this, they create shortages and miss-allocation of goods like it was in the Soviet Union.
Learning how and when to intervene in such emergent social processes like markets is the art of policy making. But at the end of the day, it will do us well to remember what Hayek said:
The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design.
Homework
Read this short essay written by economist Leonard E. Read that traces the life cycle of a pencil from its perspective. See how complex interactions of hundreds of people brings a pencil to life.
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