without making it necessary for market participants to learn all this detailed information. Instead, the market reveals any lack of coordination resulting from ignorance by market participants of potentially available opportunities through the emergence of price discrepancies. Ignorance of available opportunities then equates to ignorance of price discrepancies. Where this kind of ignorance persists, the opportunity exists for the first discoverers of the price discrepancy to step in and win profits. In doing this they wipe out the price discrepancy itself, and thus remove the lack of coordination that resulted from the limited market knowledge of market participants.
The quest for profits thus serves as a complete substitute for the search for conditions where ignorance exists on the part of market participants of the opportunities available to them. In the quest for profits the latter search has been replaced by a simple search for price discrepancies. Wherever discrepancies exist between prices paid for identical goods, or between prices paid for goods and those paid for everything required for their production, then the imaginary omniscient economist could point out possibilities for reallocation of goods or resources that would benefit all concerned. The market tends to act to achieve precisely this reallocation by offering prizes (profits) for the detection and removal of price discrepancies. It is thus the activity of the entrepreneur in his search for profits that serves as the driving force of the price system, enabling it to solve the problems of coordination outlined in the previous sections of this chapter.
Chapter 3 examines the operation of a market system, with respect to the way it achieves the goals or functions that its participants may seek to fulfill through this means of social organization.
An “economic problem” consists for an individual in ensuring that the resources at his disposal be utilized in the most effective manner possible, from the point of view of his own cherished goals. With some reservations, it is possible to speak of an economic problem facing society in general, and of the “efficiency” with which a form of social organization fulfills the goals set for it.
For a system of social cooperation, efficiency requires the coordination of separate activities. Social cooperation opens up the way to the improved fulfillment of individual wants through division of labor; but division of labor is beneficial only where carried on in a coordinated fashion. Coordination involves (a) the development of a priority system for the satisfaction of wants, (b) some way of determining the method of production to be employed for each adopted project, and (c) a way of assigning rewards to the individuals cooperating jointly in productive activities.
The market simultaneously solves these coordinating problems through the price system. Prices determine the priority with which the various possible products will be produced on the basis of consumer demand working through the entrepreneurial search for profits. The same process guides entrepreneurs to the employment of definite methods of production (those which can achieve a given result at the lowest money cost). At the same time the pricing process assigns prices to the services of those cooperating in production. The driving force in the process is thus the entrepreneurial search for profits, leading to the production of products commanding the highest prices (for given production costs) and to the employment of the resources involving least cost (for a given productive purpose).
SUGGESTED READINGS
Knight, F. H., The Economic Organization, Kelley and Millman Inc., New York, 1951, pp. 3–30.
Mises, L. v., Human Action, Yale University Press, New Haven, Connecticut, 1949, pp. 694–697, 258–323.
In this and the succeeding chapters we discuss the theory of the demand side of the market. Our task will be to explain the way the alternatives presented to each consumer by the market determine the way he spends his income and the quantities of each good that he decides to purchase.
In the present chapter a framework is set forth within which individual consumer demand theory intuitively “fits.” This is the notion of marginal utility. It must be stressed that utility theory provides no explanation in terms of any external observable criteria. It merely provides a logical means of mental orderliness in bringing coherence into a description of individual behavior. It provides a framework by which an internal consistency can be introduced into the explanation of consumer adjustment to changes in market data. The fact that this framework is intuitively and introspectively valid makes it extremely valuable in explaining the actions of market participants.
This chapter provides the conceptual apparatus that is then put to work in Chapter 5 in interpreting individual allocation of income. In Chapter 6 the analysis is extended to cover the demand for particular commodities as expressed by the market as a whole and as it reacts to given changes. The analysis will be built on the basis of understanding the individual demand behavior of which market demand is itself the resultant. In Chapter 7 we apply our analysis to a market process that might develop in an economy where only consumer goods are bought and sold.
The fundamental premise the theory of demand (and, therefore, also market theory in its entirety) is built upon is that men do not consider all their desires to be of equal importance. Each of us wishes to enjoy the services of innumerable types of commodities, to achieve a variety of cherished goals. For the analysis of human action, it is of the first moment that we rank these inclinations and desires as either more or less urgent. Whenever we are forced to choose between the satisfaction of two inclinations, one of them takes precedence over the other.
That men are able to arrange their preferences in order of importance is inherent in the nature of man himself; that men are forced to make such a ranking is imposed by the brute fact of scarcity that places man constantly in the position of being unable to satisfy all his desires. It is this scarcity that thrusts on man the necessity to choose. And it is in the act of choice that man does, in fact, rank the available alternatives. The renounced alternatives, by their very renunciation, are declared less urgent than the alternative that is chosen.
At any given time, a man finds himself possessed of a multitude of desires. He would like to eat, drink, read, walk, or simply sleep. The foundation of the theory of demand is the recognition that all his desires, all the goals he deems worthy of achievement, may be considered as making up a scale of values, arranged in their order of importance. This ordered array is set up, for any number of man’s desires, whenever he is forced to choose between them. When man eats, then he pronounces the goal of eating to be superior on the value scale of this moment to any of the other activities he might have engaged in. When, at another time, he goes on a hike, then it is this form of recreation that has been set aside as more urgently desired at the moment than other forms of activity.1
Acting man, at every moment of his consciousness, is forced to choose among a number of possible courses of action. It is of the essence of action that it aims at encompassing the fulfillment
