Foundations of the Market Price System

This book on introductory micro-economics was forged as a by-product of some 20 years’ teaching of university economics. Earlier editions appeared under the title The Common Sense of Economics. From its inception in 1974 it has been used as a text in my classes.

Nevertheless, it was also conceived to appeal to the “common sense” of the general audience, as well as to the practical-minded business school student. Indeed, the original title, inspired by Philip Wicksteed’s The Common Sense of Political Economy (1910, 1946), was meant to reflect the book’s underlying methodology as much as to pay homage to that great writer.

Last but not least: This book, being of convenient length, can also serve as a suitable companion to other texts. Although it treats of the standard material, it does so in a truly alternative and complementary fashion, and is only minimally duplicative. Furthermore, it is thoroughly devoid of mathematical impedimenta.

This new edition incorporates extensive editorial changes and the addition of appendixes to Chapters VIII and X, a vastly expanded introduction and other front matter, an index, and a reading list. Thus, it was also a fitting occasion for the change in title to one that is more descriptive of the book’s substance.

Although this is primarily a textbook in the principles of micro-economics, my desire is to give it relevance to a wider audience. Thus, I have reached out beyond the traditional confines of other texts to include non-technical elements which I believe are required for two purposes: to elucidate the ultimate foundations of the subject, and to create links or bridges between human action in the realm of economics and human action in general, particularly in the dimension of subjective motivation and decision-making.

In this connection it is pertinent to note that an ironic strain is intermittently played in this book, starting in Chapter I, precisely because it is so instructive. The irony involves playing off the primitive Robinson Crusoe (the wilderness man of economics), who lives so grimly alone in the bosom of nature, against modern man who lives so much more richly at ease in the advanced modern division of labor. Specifically, the irony is based on the following elements. On the one hand, with respect to the relevance of the basic economic principles of survival and prosperity there is no essential difference between the case of Crusoe and that of modern man (see especially Chapter IV). However, when it comes to being directly aware of the basic natural laws of existence, it is Crusoe who has it over modern man.

The reason is that man living alone in nature’s wilderness learns soon enough the lessons that nature implies for him: the need to work and produce and live by his wits; the need to assume the natural right to do all of these things as well as the right to keep and cherish the fruit of his labors; and, above all, the need to assume the burdens of self-responsibility. It is very much otherwise in the case of modern man ensconced in polities concerned for his cradle-to-grave needs. (On this see Chapter I.)

In virtually every dimension of modern existence, the complexities and sophistication required to sustain and advance civilization have removed man so far from wilderness existence that the direct, clear dictates of nature are obscured from his view. Thus, while we unquestionably live so much better than our primitive ancestors (see Chapter III), too often we don’t really know why! I’m reminded of the very apt line from the poet Goethe:

Ein jeder lebt’s, nicht vielen ist’s bekannt.

(We are all doing it; very few of us understand what we are doing.)

Add to this the obfuscations, deliberate or inadvertent, of those messianic types who would deliver us from all our travails by imposing their illusions, myths and Utopian visions on the rest of us—and it follows that the task of discerning and explaining the true nature of economic existence becomes so much more difficult,1

I have also opted to avoid the tendency of texts to become encyclopedic, overloaded with topics and applications at the expense of in-depth treatment of fundamentals. Instead, the present work restricts itself mainly to topics required to understand the workings of the market-price mechanism; it also provides an in-depth treatment of these same topics, reaching down to the irreducible levels of fundamentals.

For the rest, for the purpose of greater illustration and application of analysis to public issues and policies, I defer for the most part to the numerous useful works devoted especially to this purpose.2 These works, including books of readings, provide ample supplementary materials that illustrate at length how economic theory or principles manifest themselves in practice and how economic analysis can be applied to practical problems.

Before proceeding to the chapter-by-chapter introductions, it is necessary to point out that economic tracts—mainly because of materialist bias—usually omit the very important moral dimension, a dimension that is nevertheless relevant to economic reality—to economics in practice.3 First of all, economics as a social science is fundamentally concerned with exchange—“interpersonal transactions.” Exchange is inherent in every production and trade activity. Thus, the market-price system may be regarded as comprising multitudinous exchange transactions. Since exchange also infuses every interpersonal transaction in society at large, it also constitutes the basic coordinating mechanism of that most complex network of interrelationships called “society.”

Exchange transactions regarded as interpersonal activity necessarily involve the elementary moral question: by what moral principle should exchange between party A and party B be governed?4 Here only two basic principles are relevant: either the principle of nonviolence (non-aggression) or its opposite, violence (aggression). Violence and aggression can be identified simply by such acts as theft, killing and fraud.

From this perspective, the voluntary nature of market exchange transactions precludes violence or aggression, otherwise free exchange or trade would presumably not take place. Voluntary or non-violent mutual exchange respects the right of any party to a potential exchange (say, party A) not to be aggressed against, that is, not to be mugged, slain, or defrauded simply because someone else (say, party B) covets what A possesses. Thus, it is not to be taken for granted that free trade and interpersonal exchange will automatically occur without mutual respect for the moral precept of non-violence. Therefore, any sanction of violence and aggression in interpersonal relations would not only preclude real exchange possibilities but would give free rein to the law of the jungle and barbarism.5

Thus, in this perspective, the study of the social economy and the market-price mechanism involves the moral dimension as well as the economic one. For the purpose of this book it suffices simply to call attention to the matter—to the fact that the omnipresent but taken-for-granted act of voluntary exchange constitutes a moral premise for the free economy and the free society.

Ultimately, all theoretical economic systems boil down in principle to only two: the free-market society and socialism. In that perspective, the present work on the free market-price system may also be regarded as a contribution, albeit introductory, to the study of comparative economic systems.6

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7See Thomas Sowell, Knowledge and Decisions (New York: Basic Books, Inc., 1980) for an elaborate analysis of how—despite the complex structures and environments of the modern division of labor—the free society and its market-price system generate, transmit, and apply “authentic” knowledge in the realms of economics, law, and politics. For an earlier treatment, see Friedrich A. Hayek, The Constitution of Liberty (Chicago: University of Chicago Press, 1960).

8Excellent examples of this type of supplementary work are John C. Goodman and Edwin G. Dolan, Economics of Public Policy: The Micro View (2nd ed., St. Paul: West Publishing Co., 1982), and Walter E. Williams, America: A Minority Viewpoint (Stanford: Hoover Institution Press, 1982).

9A notable exception is the above-mentioned text by Goodman and Dolan which analyzes public issues in terms of moral, political and economic criteria.

10For a philosophical treatment of morality in interpersonal relations, see John Hospers’ Human Conduct (2nd ed., New York: Harcourt Brace Jovanovich, Inc., 1982).

11For a detailed study of these and related issues, see Murray N. Rothbard, The Ethics of Liberty (Atlantic Highlands, N.J.: Humanities Press, 1982).

12For a well-rounded “pluralist” approach to the capitalist system that includes analysis of its “moral-cultural” dimensions, as well as the political and economic, see Michael Novak, The Spirit of Democratic Capitalism (New York: Simon and Schuster, 1982).

• 1See Thomas Sowell, Knowledge and Decisions (New York: Basic Books, Inc., 1980) for an elaborate analysis of how—despite the complex structures and environments of the modern division of labor—the free society and its market-price system generate, transmit, and apply “authentic” knowledge in the realms of economics, law, and politics. For an earlier treatment, see Friedrich A. Hayek, The Constitution of Liberty (Chicago: University of Chicago Press, 1960).
• 2Excellent examples of this type of supplementary work are John C. Goodman and Edwin G. Dolan, Economics of Public Policy: The Micro View (2nd ed., St. Paul: West Publishing Co., 1982), and Walter E. Williams, America: A Minority Viewpoint (Stanford: Hoover Institution Press, 1982).
• 3A notable exception is the above-mentioned text by Goodman and Dolan which analyzes public issues in terms of moral, political and economic criteria.
• 4For a philosophical treatment of morality in interpersonal relations, see John Hospers’ Human Conduct (2nd ed., New York: Harcourt Brace Jovanovich, Inc., 1982).
• 5For a detailed study of these and related issues, see Murray N. Rothbard, The Ethics of Liberty (Atlantic Highlands, N.J.: Humanities Press, 1982).
• 6For a well-rounded “pluralist” approach to the capitalist system that includes analysis of its “moral-cultural” dimensions, as well as the political and economic, see Michael Novak, The Spirit of Democratic Capitalism (New York: Simon and Schuster, 1982).
• 7Add to this the obfuscations, deliberate or inadvertent, of those messianic types who would deliver us from all our travails by imposing their illusions, myths and Utopian visions on the rest of us—and it follows that the task of discerning and explaining the true nature of economic existence becomes so much more difficult,
• 8For the rest, for the purpose of greater illustration and application of analysis to public issues and policies, I defer for the most part to the numerous useful works devoted especially to this purpose. These works, including books of readings, provide ample supplementary materials that illustrate at length how economic theory or principles manifest themselves in practice and how economic analysis can be applied to practical problems.
• 9Before proceeding to the chapter-by-chapter introductions, it is necessary to point out that economic tracts—mainly because of materialist bias—usually omit the very important moral dimension, a dimension that is nevertheless relevant to economic reality—to economics in practice. First of all, economics as a social science is fundamentally concerned with exchange—“interpersonal transactions.” Exchange is inherent in every production and trade activity. Thus, the market-price system may be regarded as comprising multitudinous exchange transactions. Since exchange also infuses every interpersonal transaction in society at large, it also constitutes the basic coordinating mechanism of that most complex network of interrelationships called “society.”
• 10Exchange transactions regarded as interpersonal activity necessarily involve the elementary moral question: by what moral principle should exchange between party A and party B be governed? Here only two basic principles are relevant: either the principle of nonviolence (non-aggression) or its opposite, violence (aggression). Violence and aggression can be identified simply by such acts as theft, killing and fraud.
• 11From this perspective, the voluntary nature of market exchange transactions precludes violence or aggression, otherwise free exchange or trade would presumably not take place. Voluntary or non-violent mutual exchange respects the right of any party to a potential exchange (say, party A) not to be aggressed against, that is, not to be mugged, slain, or defrauded simply because someone else (say, party B) covets what A possesses. Thus, it is not to be taken for granted that free trade and interpersonal exchange will automatically occur without mutual respect for the moral precept of non-violence. Therefore, any sanction of violence and aggression in interpersonal relations would not only preclude real exchange possibilities but would give free rein to the law of the jungle and barbarism.
• 12Ultimately, all theoretical economic systems boil down in principle to only two: the free-market society and socialism. In that perspective, the present work on the free market-price system may also be regarded as a contribution, albeit introductory, to the study of comparative economic systems.