Beyond the Market, Part 2: Market Paradoxes

Yesterday, I discussed Robert Neuwirth’s book Stealth of Nations: The Global Rise of the Informal Economy, which emphasizes the activities of “illegal street vendors and unlicensed roadside hawkers.”

I concluded by noting how that brought to mind a few conversations I’d recently had with a friend who was observing how, relative to Asia and Africa, few people actually knew how to hustle in America nowadays.

In my Law, Economics, and Organization seminar, I use an old textbook by Milgrom and Roberts. By “old,” I mean that it was the textbook used to teach economics of organization when I was in college. By “old,” I mean that the book is as old as some of my younger students. But I use it because it’s a classic, and because it covers just about everything one needs to know about law and economics and the economics of organization.

Market Paradoxes

In their book, Milgrom and Roberts highlight a first important paradox of markets (I am paraphrasing):

As economies industrialize, firms play an increasingly important role in the allocation of resources and in the organization of production. As firms grow, and as the number of firms increases, fewer transactions take place on markets. Rather, those transactions take place within the context of hierarchies.

In other words, those transactions are not subject to market forces, and the role of the price signal as an incentive mechanism and a coordination device is dulled. So the first paradox is that the more developed an economy, the less it relies on markets.

In another favorite book of mine, Market Institutions in Sub-Saharan Africa (don’t let the title fool you; the insights apply to most developing countries), Marcel Fafchamps highlights a second paradox of markets (I am paraphrasing once again):

There is more entrepreneurship in developing countries than there is in industrialized countries. There are also more entrepreneurs in developing countries than in industrialized countries. In developing countries, individuals are used to exploiting arbitrage opportunities and to being jacks of all trades.

So the second paradox is that the more developed an economy, the fewer entrepreneurs it has.

Granted, this last paradox is both a cause and a consequence of underdevelopment. If you remember Adam Smith’s pin factory example, you’ll recall that it is the very fact that workers can specialize that leads to better opportunities.

It is always good, however, to keep in mind that those of us who live in industrialized countries — those of us who live in North America and in Europe, especially — are much less in contact with markets than some of us would like to believe.

This brings to mind John Kenneth Galbraith’s discussion in The Affluent Society of the irony inherent in the fact that it is almost always captains of industry, whose firms operate on markets with far less competition than farms and small businesses, who argue most forcefully in favor of the free market.

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2 comments

  1. Gabriel Power

    On the first paradox, Oliver Williamson is good reference too. His work helped answer the apparently simple yet tricky question, Why are firms so popular in developed economies?

  2. Pingback: Beyond the Market, Part 3: A Paradox Discussed « Marc F. Bellemare