How Markets Work: Disequilibrium, Entrepreneurship and Discovery
"This paper presents, in non-technical terms, an 'Austrian' view of how a market economy works. The theory is 'Austrian' in its being derived from insights which matured during the course of the century and a quarter history of the Austrian tradition. These insights came to be articulated with especial clarity and with originality of emphasis in the mid-20th-century contributions, respectively, of two great exponents of the Austrian tradition, Ludwig von Mises and Friedrich Hayek. During the past quarter of a century a number of younger economists working in the Austrian tradition, including the present writer, have contributed to the further crystallisation of the theory of entrepreneurial discovery and of its implications for economic understanding and policy.
Most economists agree that markets 'work' - that, through voluntary exchange transactions agents in a market economy are, without central direction or control, able to participate in an enormously productive system, taking advantage of specialisation and division of labour. Moreover, economists generally agree that the overall social pattern of resource allocation spontaneously so achieved is highly and benignly sensitive to changes in consumer preferences, resource endowment availabilities and known technological possibilities.
These shared doctrines enable economists to understand both the dramatic increase in the standard of living achieved in market societies during the past century and the relative failures (and the recent numerous examples of complete breakdown) of socialist economies, whether in Eastern Europe or elsewhere. Yet there remains a fundamental mystery at the heart of these shared doctrines. Surprisingly, standard economics does not provide a satisfying explanation of exactly why and how markets work. Adam Smith's 'invisible hand' turns out to be an apt metaphor for what remains an analytical black box in economic theory. Economic theory, at least in its mainstream version, explains with great sophistication the operation of a smoothly working market economy in which each agent has somehow already found his place. But it turns out to be virtually silent in explaining the course of events which enables agents, starting from initial absence of coordination, to find their places in the social jig-saw puzzle. So the relatively smooth working of real-world markets remains, after all, a mystery."
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