Economics isn’t all about markets
(Introduction to Economics, Lesson 12)
Economists tend to spend a lot of time studying how markets work. It is important to remember, however, that, in most modern societies, markets are not the only way in which resources are allocated. Our world, today, is dominated by the decisions of powerful nation-states. A lot of economic decisions are made, not by the market as such, but by the state. Even the decisions made by the market are often severely constrained and heavily influenced by the state. Markets usually operate firmly in the shadow of the state.
Economists do not confine themselves, therefore, to understanding how markets operate. We also study how governments operate as they allocate and use a sizeable proportion of the resources available to our societies and are hugely influential in how businesses and individuals allocate and use the rest of our available resources. It would be silly to ignore how governments work and how good a job — or otherwise — they do in allocating our precious resources.
Imagine a very primitive society, with no formal leadership and no laws or commonly-accepted rules of behaviour. People do their own thing. They make their own decisions about the scarce resources they have control of. With everyone doing their own thing, however, there is always the potential for disputes and conflict. In a very primitive society, if there is a serious dispute of any kind, then matters might well be settled by force or the threat of force. The people who can bring the most force to bear tend to win the argument over how things are done — and they’re the ones who get to decide how resources are used.
At some point, societies tend to develop some form of government that can make judgements when disputes arise (and thus, perhaps, avoid violence). It can also help organise people in order that they can work together and achieve things through collaboration that they might not be able to achieve individually. People might work together to hunt, to fish or to protect themselves from other tribes or natural dangers.
In its simplest form, this ‘government’ may be a leader who tells everyone else what to do. This leader might become leader simply because they have the fighting skills to force other people to obey them. On the other hand, someone might become leader because other people respect their ability to make wise decisions on behalf of the community. In some societies, someone manages to become leader because others have become convinced that God or ‘a god’ has chosen them to become leader.
Some communities might have a group of elders who make decisions. Some communities might even develop a form of democracy where most members of the community share in some forms of collective decision-making.
Whatever form the government takes, the existence of a ‘government’ generally means that there is now an additional way in which resource decisions are made. Economic decisions are no longer made only by individuals or by groups of individuals freely choosing to act together. The leadership or ‘government’ now has the power to override some of the decisions taken by individuals.
In almost all modern societies, the power of the government ultimately comes from its ability to use force to override individual decisions. Some people might have chosen to follow their leaders, even if no force had been threatened. However, choice doesn’t usually come into it anymore, because nearly all of us — even those of us who live in what we regard as the ‘free world’ — live in a society where we live under the constant threat of government action and government force if we don’t follow government instructions. We may have the option of leaving the country where we live, but, even then, we’d usually have to move to another country and be forcibly subjected to the rules and regulations of that country’s government.
Some countries of the past have gone as far as to operate a ‘command economy’ where the state dictates what will be produced, dictates what prices will be charged and even dictates to people what jobs they must do. You might just be told that you will be working as a cleaner in a certain factory — and that would be it. You would have no choice in the matter — unless, that is, you fancied being worked to death in some labour camp in Siberia!
As individuals, we are clearly capable of making some very bad decisions. But, if we allow the state to make some decisions on our behalf, how confident can we be that the state will make better decisions than if those decisions had been left to individuals?
It does seem very plausible that it is possible to make ourselves better off as a society by allowing the state to make some decisions on our behalf. Furthermore, sometimes, collective decisions may be better than individual ones, regardless of which way a decision actually goes.
It doesn’t seem a great detraction from our freedoms if we allow the state to raise a little money through taxes so that it can intervene to stop people starving in the streets or to provide everyone with basic education, so that everyone can at least read and write.
And, to some extent, the state can essentially provide us with freedoms. How much freedom would we have if the state didn’t protect us from murderers and thieves? How much ‘freedom’ to pick a job would we have if we couldn’t even read? Could we really argue that we would be better off or even just ‘more free’ without basic law-enforcement agencies or without basic educational facilities?
Generally, people accept that by having some sort of state, some sort of basic laws and regulations and by having some level of taxation to pay for basic services, we can all be better off. Markets are very far from perfect — and the state can sometimes improve the situation compared to what we’d have if we just left everyone to do their own thing.
However, if we allow the state to control everything, we’ll be very badly off, because, without the freedom to make our own decisions on anything, we’re pretty sure that would be awful. Even if we were rich, that wouldn’t make up for having no freedom at all. We’d be downright miserable!
Extreme ‘command economies’ don’t tend to make people particularly rich anyway, as they tend to be beset by their own particular economic difficulties.
One of their biggest problems is that they often struggle to match demand and supply and so tend to be beset by problems with surpluses and shortages. The government of a command economy has to make decisions on how much of each product to produce (and what prices to charge and so on) and they often get things wrong, often resulting in severe shortages.
With a market system, shortages and surpluses affect the prices of goods and result in a sort of self-correcting economy. Shortages lead to higher prices — thus encouraging people to produce more. Surpluses lead to falling prices, thus encouraging businesses to cut back on production and perhaps make something else instead. This is the price mechanism in action, signalling what needs to be produced.
In a command economy, people aren’t free to change what they produce. They aren’t free to change the prices they charge. They aren’t free to choose what jobs they do or what businesses they start. Furthermore, the government, responsible as it is for so many production decisions, is often a bit slow to react. Consequently, shortages and surpluses can persist for a long time, which is rather wasteful and very annoying if you have to queue for hours to get something you need. The dying days of the Soviet Union — perhaps history’s most famous command economy — was characterised by massive queues at the shops.
Shortages in official shops are also exacerbated because some of the goods that were supposed to reach official, state-controlled shops and suppliers, find their way, instead, on to the ‘black market.’ People realise they can make extra money by selling shortage goods privately, outside of official channels, for much more than the official state-controlled prices. This leads to even greater shortages in official shops, longer queues and, therefore, even more of an incentive for people to trade goods on the black market.
Another problem is that command economies often struggle to deal with the problems of discontent that stem from people’s lack of freedom. When people don’t want to do what they are told, live where they are told to live and work where they are told to work, the government often resorts to force and oppression to get the population to obey it’s commands. They often end up developing an oppressive — and resource-hungry — policing and internal security system in order to enforce the state’s decisions, enforce the restrictions the state places on individual freedoms and to repress the many people who demand more freedom and what they regard as basic human rights.
In the UK or the US and in many other countries, we tend to think of ourselves as having a lot of freedom. Relative to how things are done in some other countries, this is true, but, when you think about it, the state still imposes huge restrictions on us.
There are many goods and services that you can’t be employed in providing, because the state has made it illegal to provide those goods and services. In many places in the US, for example, you can’t get a job in the gambling industry, because many forms of gambling are illegal there. How ironic that ‘the land of the free’ has such draconian restrictions on how people spend their own money!
Even when a certain business activity is legal, there may be so many licence requirements, regulations, restrictions and such heavy taxes that making a profit is virtually impossible. In effect, the state has made the decision that you can’t do it, even though it is technically legal.
There’s little doubt that both free-market capitalism and state-control have their problems. So, at what point do the disadvantages of state intervention and control start to outweigh the benefits? In which areas of our lives should we allow state control — and which areas of our lives should the state stay the hell out of?
To some extent, these are questions for philosophy and politics to answer, but it is also an Economics question. We have limited, scarce resources. We want to make the best possible use of them. So, when is it best to allow resource decisions to be taken by individuals negotiating with each other in a free market and when is it best to allow the state to make resource decisions on our behalf? These are questions that economists and politicians have grappled with for centuries. We may never all agree on the answers, but these issues remain fundamental to our welfare and to our future success as individuals and as a society.