A Good Conversation and the Marketplace
Market Prices Help to Establish Trust, Responsibility, and Freedom
OCTOBER 01, 1996 by CANDACE ALLEN
Ms. Allen is a teacher-on-special-assignment in the Education Alliance of Pueblo, Colorado. Dr. Lee is Ramsey Professor of Economics at the University of Georgia.
Everyone appreciates a good conversation. Through conversation people get to know one another, sort out their differences, revel in their similarities, and discover ways to cooperate and compromise to their mutual advantage. The information we obtain through conversation is a major source of human enjoyment and progress.
Not everyone appreciates the free market. Yet there are striking similarities between the marketplace and a good conversation, and, if anything, the benefits from the communication, cooperation, and compromise of the marketplace are even greater than those from a good conversation.
In The Use of Knowledge in Society, F.A. Hayek pointed out that much of the information required for people to communicate with and respond productively to each other is transmitted through market prices. In essence the marketplace is a communication network, allowing people to transmit information on how they can best serve and be served by others, with full assurance that others will hear this information and respond appropriately.
People communicate with each other in the marketplace through the effect their decisions to buy and sell have on prices. The price of a product tells the buying consumer how much other consumers value another unit of that product, and motivates him to increase consumption only if he values an additional unit more than others do.
Communication through market prices is, of course, supplemented by what we typically think of as conversation. People verbally negotiate and advertise to communicate their preferences and their willingness to satisfy the preferences of others. But verbal communication would do little to motivate cooperative behavior without the more compelling supplement of price communication. If you wanted an apartment in New York City, for example, you could try to coax, wheedle, or cajole every landlord in the city, but without communicating through your willingness to pay the market rent, your verbal skills would be of little value. In contemplating the market price, you are receiving information communicated by everyone else interested in New York apartments, and you are considering that information carefully. A market price concisely transmits the information most relevant to a particular decision from everyone with a relevant interest in the decision, and does so in a way that persuades people to behave responsibly.
The correspondence between market activity and conversation extends to the well-established norms of a good conversation. Consider the following:
In a good conversation people communicate with each other honestly. Dishonesty and deception are anathema to the type of conversation people value. The same is true of market communication. Unfortunately, people find occasional advantage in dishonesty when communicating, whether in normal conversation or market exchange. But the advantage realized from deceitful market communication is far less than commonly suggested, and almost certainly less than in most conversations. There is a tendency for people to be more careful with the truth when they have their money at stake than when they don’t.
Could we rely on honest evaluations if goods were allocated on the basis of how much consumers said they valued those goods? Not as much as we can when goods are allocated on the basis of how much consumers are actually willing to pay for them. (Remember the old saying, Put your money where your mouth is?)
There is no advantage in exaggerating the value placed on a product by offering to pay more for it than it is really worth. The advantage is in purchasing a product only up to the point where the marginal unit is honestly worth as much to you as the price paid—i.e., as much as other people are honestly communicating what another unit is worth to them.
The motivation for suppliers to communicate honestly the cost and quality of a product is less clear. Certainly suppliers would like to charge a price that overstates the actual cost and quality of their products. But such dishonesty is made largely feckless by open markets and competition. As long as consumers have alternative suppliers, it pays those suppliers to represent their products honestly and price them competitively. Indeed, many market arrangements and practices are best explained as a way suppliers, in their competition for customers, commit to honest dealing by willingly exposing themselves to losses if they behave dishonestly.
Paying Attention to What Is Said
A good conversation also requires participants who are attentive to, and concerned about, what others are saying. These attributes are observed in those communicating through the marketplace. When suppliers receive information from consumers in the form of prices and profits (or losses), they pay close attention and respond as if they had the same concern for the interests of their customers as they have for their own. When consumers indicate the desire for more of a product through higher prices and positive profits, suppliers work harder and sacrifice more to satisfy that desire. When consumers indicate through lower prices and lost profits that they want less of a product, suppliers either respond to that desire or relinquish resources to those who will. Similarly, when demand for a product increases, consumers communicate to each other through higher prices that the product should be used more sparingly by those who value it less so more is available for those who value it more. And consumers are sensitive to this communication and respond to it as if they place the concerns of others on par with their own.
When a speaker has a captive audience and monopolizes the conversation, his communication is distorted, boring, and less beneficial than it could be. Similarly, in the marketplace when the competition faced by a supplier is restricted, that supplier ignores much of the communication from consumers, communicates distorted information on the cost of the product, and provides a more boring (or lower quality) product than would be provided had the communication been enriched with competition. A major advantage of an open marketplace is that anyone with a better idea to communicate can enter into the conversation. Without government restrictions on entry, a market will be monopolized only when someone contributes a new idea or product that consumers find more valuable than what was previously available, and then only until others mimic and improve on the contribution. Monopoly distortions tend to last only when entry is artificially discouraged and restricted by government action.
Few things destroy a good conversation quicker than participants taking it personally when others express disagreeable views. When parties to a conversation feel that they have to dissemble to avoid aggravating others, or when people become incensed at the honest expressions of others, good conversation dies. A major advantage of communication through the marketplace is that it is impersonal. Lots of disagreeable information is transmitted through the market—your product doesn’t measure up to that of the competition, your costs are too high, the skills you have spent so long to develop are no longer valuable, you have to make do with less of a product because others say it is now worth more to them, and so forth. But this information comes in the form of impersonal prices and is transmitted between people who typically have no personal knowledge of, or interest in, each other. There is little reason for taking such information personally. People tend to concentrate on the information being transmitted through the marketplace rather than on the motives and manners of those transmitting it.
Good conversations are not programmed or scripted. Instead they are characterized by freedom of expression and spontaneous development, so it is impossible to predict where they will lead. An attempt to plan the details of a conversation would reduce the new thoughts and information that emerge and stifle the flexibility needed to respond to them when they do. Such a stilted exchange would compare with a genuine conversation the way central economic planning compares with the economic dynamism of the free market. The failure of socialism provides vivid evidence of the destructiveness of attempts to program and script market communication. The freedom of people to interact through market communication without deliberate guidance is the hallmark of the spontaneous order and economic progress of the marketplace.
Finally, in a good conversation people either speak the same language or have the services of a good translator. The tower of Babel symbolizes the chaos that results without a common language or a means of translating different languages. Most market communication occurs through the common language of prices denominated in a common currency. But not all. Market communication increasingly occurs across national borders with people speaking via different currencies, and the accuracy of that communication requires that the value of one currency be quickly and appropriately translated into the value of others. And, of course, that is exactly what foreign exchange markets do. By allowing people to communicate on the value of different currencies, the foreign exchange market facilitates communication through international markets much as an expert translator facilitates a conversation between people who speak different languages.
The More the Merrier
Recognizing the striking parallels between a good conversation and the interaction that occurs in the marketplace increases our knowledge and appreciation of market economies. But as important as the similarities are, differences obviously exist. Interestingly, some of those differences highlight advantages market communication has over even the best conversations. In the marketplace everyone can communicate at the same time. The rule for a good conversation—Only one person talks at a time—does not apply to conversations through market prices. For example, every day millions of consumers simultaneously convey information on their preferences to suppliers around the world as their purchases influence market prices. Marketplace communication not only allows everyone to talk at the same time, but thrives on a multitude of simultaneous voices. Since everyone can communicate at the same time in the marketplace, as opposed to conventional conversations, the more people involved in market conversations the better, as large numbers facilitate greater specialization and competition.
While marketplace communication has important advantages over standard conversation, we are fully aware that the opposite is also true. Notwithstanding the advantages of impersonal communication, and the risks when communication is taken personally, one would have to be emotionally withdrawn to dismiss the value of personal communication. The joys of friendships and intimate relationships are nourished by personal communication that can never be replaced by the impersonal communication of the marketplace. I love you is difficult to express in mere market terms.
But marketplace communication does more to foster good personal communication than most people realize. It provides each of us with the information and motivation to use our resources responsibly for the benefit of others. This responsibility is a major factor behind the personal freedom associated with market economies. Advocates of limited government commonly, and correctly, observe that freedom is essential to a properly functioning market economy. But we should also recognize that a properly functioning market economy is essential to freedom. In the marketplace we can tolerate freedom because it will be used responsibly when subjected to the discipline of market information and incentives. And economic freedom tends to carry over into noneconomic spheres to include far more freedom of expression and association than can ever exist in a society with a centrally controlled economy. The marketplace not only supplements conversation with the powerful communication of market prices, it helps establish an environment of trust, responsibility, and freedom in which good conversation can flourish.
2. Market prices are seldom, if ever, in perfect equilibrium, and so cannot communicate all the information they would in an idealized marketplace. Some of this “missing” information can be exchanged through verbal communication. See Gerald P. O’Driscoll and Mario Rizzo, The Economics of Time and Ignorance (London: Basil Blackwell, 1985).
4. Investment in brand name and nonsalvageable capital, providing guarantees, and creating competitors are just some of the ways businesses commit to honesty. For a discussion of these arrangements and practices, see Dwight R. Lee and Richard B. McKenzie, How the Marketplace Fosters Business Honesty, Business and Society Review, No. 92, Winter 1995, pp. 5-9.
5. Hayek considers the value of the impersonal forces of the marketplace in The Road to Serfdom when he states: Once it becomes increasingly true, and is generally recognized, that the position of the individual is determined not by impersonal forces, not as a result of the competitive effort of many, but by the deliberate decision of authority, the attitude of the people toward their position in the social order necessarily changes. There will always exist inequalities which will appear unjust to those who suffer from them, disappointments which will appear unmerited, and strokes of misfortune which those hit have not deserved. But when these things occur in a society which is consciously directed, the way in which people will react will be very different from what it is when they are nobody’s conscious choice.
See F. A. Hayek, The Road to Serfdom (Chicago: The University of Chicago Press, 1944), p. 106.
6. Economic freedom is not always associated with other freedoms, as evidenced by the examples of China, Singapore, and Vietnam. But there are reasons for believing that the freedom that arises when a country liberalizes its economy is not easily contained and eventually expands to include political and other freedoms as well. Also, evidence from around the world shows that in the absence of economic freedom there is no hope for other freedoms.