Friday, September 24, 2010

The Alibi of the Invisible-Hand Myth

M R Venkatesh is quoted in: “Prices soar, policymakers just talk

Adam Smith, one of the founding fathers of economics, spoke of the 'invisible hand of the price mechanism'.
He described how the invisible or hidden hand of the market operated in a competitive market through the pursuit of self-interest to allocate resources in society's best interest.

This remains the central view of all free-market economists.

The price mechanism is a term used to describe the means by which millions of decisions are taken each day by consumers and businesses

This erroneous view would not matter much normally, but it is said as part of a ‘slide-show’ for policy makers on the all too real-life horror of starving peasants and their inability to buy grain, even at subsidized prices in India.

Not surprisingly, there are calls to distribute the grain, which is rotting on the ground, free to the starving poor, but as surprisingly, the officials argue against such an obvious and humanitarian answer. If there was famine, and grain was sent to India by donors in the richer countries, it would be distributed free from the backs of lorries (as we see regularly in similar cases on tv).

However, by associating Adam Smith with a mythical version of his use of the metaphor of “an invisible hand”, which is both nonsense historically and wrong in fact, Indian readers are given evidence of the Smith’s apparent callousness.

Smith never wrote anything about ‘how the invisible or hidden hand of the market operated in a competitive market through the pursuit of self-interest to allocate resources in society's best interest’.
That is wholly made up by modern economists – and cheerfully repeated by corrupt state officials to absolve them of their guilt and by angry socialists to discredit market solutions in pursuit of their own disastrous politics.

To see one source of the modern myth, see Paul Samuelson’s ‘Economics: an introductory analysis’, 1948,p 36 (and its subsequent editions through to the 19th in 2010).



Blogger michael webster said...


Which is the worse myth:

a) an unregulated marketplace will magically through the price mechanism distribute goods optimally, or.

b) markets work by individuals focusing on their self interest.

Salesmen focus on what on what their customer's, possibly unarticulated, self interest is and not their own.

9:14 am  
Blogger Gavin Kennedy said...

I have taught the 'salesman's focus' you articulate, for 35 years, based on Adam Smith's dictum in Chapter 2 of Book I of Wealth Of Nations, so I would deny both a) and b) statements.

In the famous 'Butcher. brewer, baker' quotation, Smith advises that the dinner searcher should appeal not to his own self-interest but to the seller's.

This clear statement of Smith's is nearly always ignored or directly reversed by most modern economists, not a few of whom quote it as 'proof' of the myth of 'an invisible hand'! (e.g, see my debate with David Friedman recently on Lost Legacy).


5:03 pm  
Blogger michael webster said...


I think that the second myth is worse, as it completely obscures the need for interpersonal comparisons of utility.

I think that the "Butcher, brewer, baker" quote is meant to be read as mutual: a buyer must focus on the seller's interests, and a seller on the buyer's interests. (This is will be unremarkable to people in sales.)

But, the standard economic bargaining model, first articulated by Harsanyi, dispenses with any need for serious attempt to articulate the basis of such interpersonal comparisons of utility.

This foundational failure makes a lot of what economists have to say about bargaining, markets, and trades radically incomplete.

8:09 pm  

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