MARKETS,THE PRICE SYSTEM,AND THE ALLOCATION OF RESOURCES

In Part Two we were concerned mainly with macro-economics—with economic growth, fluctuations, unemployment, the price level, and the big public policy questions they raise. We paid little attention to the individual goods and services that make up g.n.p.—to how many cars and carpets are produced, to the incomes different individuals receive, to the behavior of individual businesses, and the like. Now, in Parts Three and Four we turn to micro-economics—to look at the individual units that make up our economy, at their functioning, at the prices they pay and charge, and at incomes that different individuals receive.

Imagine we are flying over America, looking down at the economy in operation. We would see millions of individual consumers spending their incomes on what they want most. We would see these purchases providing signals to businessmen on where the largest profits could be made, and businessmen responding to those signals by producing what consumers want to buy. We would see competition among sellers forcing prices down toward the lowest possible cost of producing those goods and services.We would observe that each worker generally earns the most by working where he can contribute the most to producing what consumers demand, because that is where businesses can afford to pay him the most. We would see a constantly shifting mix of goods and services being produced, as consumers change their minds as to what they want, and as businessmen try to meet these shifting consumers’ demands.

For the most part, no one guides this vast, interlinked process. Workers’ self-interest in trying to earn a good living, businessmen’s self-interest in trying to earn large profits, consumers’ self-interest in spending their incomes on what they want most—these millions of free choices are meshed together through many interlinked markets, where prices and quantities produced move up and down in response to changing demands and supplies. Viewed from above, Adam Smith wrote, it is as if a beneficent invisible hand were guiding the system so as to allocate our scarce productive resources to yield the most of what we want at the lowest possible costs.

Today’s economy is far from Adam Smith’s competitive ideal. And today a lot of people feel that Adam Smith was too optimistic, that any market-type economy falls short on many scores. They feel that collective (government) action is needed to make it work better, both through government regulation of the economy and through direct government provision of goods and services (such as education, highways, and national defense). We can appreciate the virtues of a private-enterprise market-type economy, and still recognize the strength of these reservations. Indeed, Part Five is devoted entirely to “The Public Sector,” where the government takes over from private markets.

The following chapters take up the main actors in the American market system, beginning with the business firm, then the consumer, and then the interaction of consumer demands and business responses in different markets. Seeing the individual parts and how the individual actors behave is important. But as you go along, don’t lose sight of the big picture of how the whole system fits together. For that’s where we will come out at the end. And it’s against that backdrop that you need to see today’s issues, and to make up your mind on the policy problems we will face in the rapidly changing economy of the 1970’s.

BUSINESS ENTERPRISE IN THE MODERN ECONOMY

In a private-enterprise economy, the businessman is at the center of thc economic process. He- decides what wilLbe produced, and how much of it. He decides how many employees to hire and how much he is willing to pay them. It is he who responds to consumer demands, and pays out most of the incomes. Within the framework of rules established by society, his decisions and policies determine most directly how effectively the private-enterprise economy functions.

In America today, government controls over business operations are numerous—so numerous that some businessmen protest that their traditional freedom is gone. Government produces some goods and services itself, in addition to its controls; and its demands in the market (for missiles, highways, schools, and many thousands of other products) give it important powers over the businesses from which it buys. Labor unions press increasingly for a share in the traditional prerogatives of management. But the businessman, harassed though he may be, remains the organizing agent at the center of our economy.

The purpose of this chapter is to provide a factual background on modern business enterprise, what it is and how it operates.