The Best Book on the Market - Eamonn Butler - ebook

The Best Book on the Market ebook

Eamonn Butler

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The free market makes the world go around. Maybe it's time we all tried to understand it a little better. Luckily Eamonn Butler is the ideal teacher to get us all up to speed. Markets are everywhere. But how many of us understand how they work, and why? What does a 'free market' really mean? Do free markets actually exist? Should we have more or less of them? Most of all - do we really need to know all this? Answer: Yes we do. MAKING ECONOMICS SIMPLE SO THAT EVEN POLITICIANS CAN UNDERSTAND IT If any mention of free markets sends your mind screaming back to your musty old school economics textbook, think again. The Best Book on the Market will keep you gripped, intrigued and well informed. Abandoning complicated mumbo-jumbo, Eamonn Butler, Director of the UK's leading free market think-tank, demystifies the world of markets, competition, monopolies and cartels, prices and overspills. Using examples from our everyday lives Dr Butler explains how the markets we have, and the many more we need, can work to create a richer, freer and more peaceful world. STOP WORRYING AND LOVE THE FREE ECONOMY He delves into the morality of markets and interrogates important issues such as why feckless rock-stars are paid much more than worthy nurses; whether we should worry about people trading in arms, water, healthcare etc; whether black markets are immoral; and questions of equality; sweatshops, and fair trade. "This book is about the free market and how unfree it can be when there is a lack of belief in freedom itself. Eamonn Butler presents solid arguments against government attempts to 'perfect' the markets by regulation, controls, subsidies, or by adopting measures which obstruct competition and private ownership." Václav Klaus, President of the Czech Republic "Vividly and simply explains competition, entrepreneurship and prices". John Blundell, Director, Institute of Economic Affairs "A great little book that gets to the heart of how and why markets work, in a very engaging and easily understood way". Dan Lewis, Research Director, Economic Research Council "I welcome this witty, lucid explanation of how entrepreneurs and business people make a positive contribution to our lives, and why economists often don't". Andrew Neil , leading journalist and BBC presenter "Anything which educates the public - and politicians - on how the free economy actually works is always welcome. Dr Butler does this in style". Lord Lawson, former UK Chancellor of the Exchequer "Everyone in business would do well to understand the basic principles of markets which Dr Butler clarifies so well in this short book". Allister Heath, Editor of The Business and Associate Editor of The Spectator "This book does great justice to the vibrancy of markets and what makes them tick" Ruth Richardson, former Finance Minister of New Zealand "It's refreshing to see an economist who understands the importance of innovation and entrepreneurship in pushing progress forward, and who can explain it in straightforward language." Trevor Baylis OBE (inventor of the wind-up radio) "I'm glad to see that Dr Butler stresses the role of innovators - and the importance of market structures that encourage innovation." Sir Clive Sinclair (inventor) "Dr Butler's book is a welcome and very readable contribution on the mechanisms and morality of the free economy." Sir John Major KG CH (former UK Prime Minister) "'Market' is one of the first six-letter words that every English-speaking child learns: as in 'This - little - piggy - went - to - market'". Geoffrey Howe, former UK Chancellor of the Exchequer

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Table of Contents
Title Page
Copyright Page
Acknowledgements
Epigraph
CHAPTER ONE - The Amazing World of Markets
A TRIP TO THE MARKET
NO WORDS, BUT MUTUAL BENEFIT
MARKETS ARE EVERYWHERE
NOBODY’S PERFECT
TIME, PLACE AND TRUST
WHO? WHAT? WHERE? WHY?
UNORGANIZED ORDER
MARKETS ARE A FORCE FOR GOOD
GETTING RESOURCES TO THEIR BEST USE
CHAPTER TWO - How Specialization and Exchange Make Us Rich
MARKETS WEREN’T BORN YESTERDAY
MONEY MAKES THE WORLD GO OBLONG
EXCHANGE IS NATURAL
WHY WE EXCHANGE SO MUCH
COLLABORATION THROUGH . . . DISAGREEMENT
SPECIALIZATION AND EFFICIENCY
THE HUGE PRODUCTIVE POWER OF SPECIALIZATION
SPECIALIZATION MAKES YOU SLICKER
CAPITAL ACCUMULATION
THE SPIRALLING SUCCESS OF SPECIALIZATION
CHAPTER THREE - The Instant Messaging System of Price
PRICE IS AN INSTRUCTION AS WELL AS A FACT
BUYERS, SELLERS AND MARKET PRICES
X MARKS THE (PERFECT) SPOT
NOW THE BAD NEWS
THE IMPOSSIBILITY OF PERFECT INFORMATION
THE MARKET IS A DISCOVERY PROCESS
HELP ME, INFORMATION
THE INSTANT MESSAGING OF PRICE
OUR UNINTENDED GENIUS
PRICE ELIMINATES WASTE
MARKETS ARE ONLY HUMAN
IT’S HARD TO FIND GOOD STUFF
THE COSTS OF DOING A DEAL
CHAPTER FOUR - Killing the Messenger
ZEN AND THE ART OF PRICE MAINTENANCE
SOLDERING UP THE PRICE MECHANISM
WAGE AND PRICE CONTROLS
CONTROLS MESS UP THE MARKET
DISTORTING PRICE THROUGH SUBSIDY
THAT OL’ BLACK MARKET
INFLATION
I GET HIGH PRICES (WITH A LITTLE HELP FROM THE STATE)
PATENTS AND COPYRIGHT
OCCUPATIONAL LICENSURE: THEN . . .
. . . AND NOW
CHAPTER FIVE - The Driving Force of Competition
KEEPING IT IN THE FAMILY
THE JOY OF VOLUNTARY EXCHANGE
COMPETITION SPEEDS THE BENEFIT
COMPETITION ON QUALITY
WHY PRICES AREN’T UNIFORM
IMPERFECT INFORMATION AND PRICES
HOW SPECULATORS BENEFIT SOCIETY
WHY MARKETS NEED ENTREPRENEURS
CREATIVE DESTRUCTION
PERFECT NONSENSE
CHAPTER SIX - The Rules of the Market
HONESTY REALLY IS THE BEST POLICY
EXCHANGE IS BUILT ON TRUST
BRANDS COMMUNICATE TRUST
LONGEVITY, SOLIDITY AND ENDORSEMENT
IN GOD WE TRUST - OTHERS PAY CASH
SETTING AND ENFORCING THE RULES
THE UNWRITTEN RULES
PROPERTY INCLUDES HUMAN EFFORT
PROPERTY SECURITY IS VITAL TO MARKETS
PROPERTY RIGHTS ARE DETERMINED BY LAW AND CONVENTION
THE CHOICE OF RULES DETERMINES THE OUTCOME
THE DESIGN OF AUCTIONS
MARKETS DON’T JUST HAPPEN
CHAPTER SEVEN - Market Failure (and Government Failure)
BUBBLES, BOOMS, DOWNTURNS AND DEPRESSIONS
MARKETS STRUGGLE WITH HUMAN PSYCHOLOGY
TIME AND SPEED
INFORMATION ASYMMETRY
POLITICAL FAILURE
THE INCONVENIENT REALITY
A MARKET IN EMISSIONS
A PRICE ON CONGESTION
WATER RIGHTS
TRADABLE FISHING RIGHTS
OVER-FISHING
A SHOOTING MARKET SAVES GAME
CHAPTER EIGHT - The Morality of the Market
HARNESSING SELF-INTEREST
SELF-INTEREST AND GREED
HARMONY VERSUS POLITICS
UNFAIRNESS AND INEQUALITY
TRAFFICKING AND EXPLOITATION
THE DOMINATION OF BIG BUSINESS
LIMITS TO MARKET DOMINATION
THE MORAL SUPERIORITY OF MARKETS
CHAPTER NINE - How to Grow a Market
ECONOMIC ACHIEVEMENT GETS REAL
THE TRIUMPH OF THE MARKET?
HANDBAGGING THE STATE
RECIPE FOR A SUCCESSFUL MARKET
GROWING MARKETS OVER THE NET
THE QUESTION OF ONLINE TRUST
THE SLOW GROWTH OF THE MARKET IN CHINA
THE ONLY REAL WAY TO WEALTH
Index
Copyright © 2008 by Eamonn Butler
First published in 2008 by Capstone Publishing Ltd. (a Wiley Company)
The Atrium, Southern Gate, Chichester PO19 8SQ, UK
www.wileyeurope.com
Email (for orders and customer service enquires): [email protected]
The right of Eamonn Butler to be identified as the author of this book has been asserted in accordance with the Copyright, Designs and Patents Act 1988
All Rights Reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning or otherwise, except under the terms of the Copyright, Designs and Patents Act 1988 or under the terms of a licence issued by the Copyright Licensing Agency Ltd, 90 Tottenham Court Road, London W1T 4LP, UK, without the permission in writing of the Publisher. Requests to the Publisher should be addressed to the Permissions Department, John Wiley & Sons Ltd, The Atrium, Southern Gate, Chichester, West Sussex PO19 8SQ, England, or emailed to [email protected], or faxed to (+44) 1243 770571.
Designations used by companies to distinguish their products are often claimed as trademarks. All brand names and product names used in this book are trade names, service marks, trademarks or registered trademarks of their respective owners. The Publisher is not associated with any product or vendor mentioned in this book.
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Wiley also publishes its books in a variety of electronic formats. Some content that appears in print may not be available in electronic books.
Library of Congress Cataloging-in-Publication Data
Butler, Eamonn.
The best little book on the market : how to stop worrying and love the free economy / Eamonn Butler.
p. cm.
Includes index.
eISBN : 978-1-906-46599-5
1. Free enterprise. 2. Entrepreneurship. 3. Competition. I. Title.
HB95.B88 2008
330.12′2 - dc22
2008007650
A catalogue record for this book is available from the British Library.
Typeset by SNP Best-set Typesetter Ltd., Hong Kong Printed and bound in TJ International, Padstow, Cornwall
Substantial discounts on bulk quantities of Capstone Books are available to corporations, professional associations and other organizations. For details telephone John Wiley & Sons on (+44) 1243 770441, fax (+44) 1243 770571 or email [email protected]
Acknowledgements
My thanks go to Anthony Haynes, for suggesting this project; to Christine Butler for her patience during its execution; and to Madsen Pirie and Cosmo Butler for their helpful suggestions on the text.
‘Market’ is one of the first six words that every English-speaking child learns: as in ‘This - little - piggy - went - to - market.’
- Former UK Chancellor of the Exchequer Lord (Geoffrey) Howe
CHAPTER ONE
The Amazing World of Markets

A TRIP TO THE MARKET

Few Westerners visit the dusty industrial city of Lanzhou, on China’s Yellow River. Even fewer venture up the narrow dirt road that I am on today - which is home to one of the city’s street markets. It is lined with stalls, their thin wooden poles supporting roofs and walls of dingy fabric. From beside one of them, a small boy stares at me in amazement, then runs in excitedly to report this strange sight to his mother.
She sits, by a spring balance twice her age, in the cramped space that remains behind all her stock: sacks of rice, grain, sunflower seeds and nuts, and above them a rickety shelf crowded with bags full of brightly-coloured spices - which prospective customers are sniffing and tasting, before checking out the next dry-goods stall.
Plastic baths of water, full of live fish, jut into my path.
The boy still stares, still goggle-eyed. But I press on purposefully. The next stall is piled high with melons, bananas, pomegranates, limes, ginger, leeks, potatoes, beans, maize, cauliflowers and strange vegetables. The stallholder, a young woman with long black hair, is scrubbing one such vegetable over an enamel bowl full of water.
A bell rings behind me. I move smartly out of the way of a bicycle pulling a steaming brazier, the size of an oil drum, from which its owner sells hot soup.
I walk on. Plastic baths of water, full of live fish, jut into my path. Next, there’s a stall with wooden cages full of live chickens, ducks and pigeons. Then more fish, this time in steel pans. Then someone selling underwear. Next, a hardware stall with countless woks, earthenware jars, glasses, rice-bowls in tottering stacks, brushes of all shapes and colours, dustpans, buckets and more. A second bell heralds another bicycle, this one carrying a precarious pile of squashed-up cardboard boxes that someone is taking for recycling, all bearing Chinese lettering in garish colours. Meanwhile, smoke drifts across from a stall with hot food (it’s best not to ask what) sizzling on a gas stove that is well past pension age. Another stall offers cakes of various sizes and colours, nestling incongruously alongside sausages, hens’ feet, rolled meat, fishcakes and balls of - well, again, I am not really sure that I want to know.

NO WORDS, BUT MUTUAL BENEFIT

I have reached my goal: a tiny wooden kiosk with no door and a large unglazed window. Inside sits a young, attractive girl in a red shirt, the street market’s only seamstress. She has no sewing machine - though one day, perhaps, she will have saved enough to buy one - but she stitches by hand with great precision.
We cannot speak each other’s language, but I hand her the slacks that I am holding, and show her how the hems have come adrift. She grasps my meaning immediately, and nods exaggeratedly - as if to make plain, even to someone unlucky enough not to be born Chinese, that she understands. I want to know the price: so I point to my palm with a puzzled expression on my face. She holds up five fingers, which I guess means five Yuan. That’s probably way over the going rate, but to me it’s a tiny sum and I would much rather pay it than waste time looking for another seamstress.
Barefoot children gather to stare at this strange creature.
I nod. The slacks are plucked from my hand, out comes the needle and - worryingly - some rather garish pink thread. I stand outside - there is no room for two in her small workspace - and look around as I wait. Further from the main thoroughfare, the stalls give way to people selling fruit, vegetables, oil, rice - even underwear - from carts. Further still, vendors sit on the ground, their goods spread out on a simple sheet.
Barefoot children gather to stare at this strange creature that has landed among them. But within minutes, my hems are neatly stitched, without a speck of pink thread to be seen. I gladly pay the agreed fee, and leave with much mutual smiling and nodding. I seem to have made her day - though I hope it’s because I’m exotic, not because I have overpaid. And she has made mine: I can now attend my evening banquet without safety pins in my hems.
I have learned a lot, too.

MARKETS ARE EVERYWHERE

For one thing, I have confirmed my belief that markets are everywhere. China is still supposed to be a communist country, but even here I have found markets just like those in Europe or America. The goods on sale may be far stranger (and the vendors perhaps less strange: there are few sights more colourful than a stallholder in London’s Petticoat Lane market in full cry). But otherwise they are no different - a huge variety of goods and sellers, from which a throng of customers somehow make choices.
Choice defines markets, even in an authoritarian country like China. The girl in the red shirt was not forced to mend my hems; nor was I forced to accept her price. Either of us could have vetoed the bargain - she deciding to wait for another customer and me looking for a repair somewhere else. You can’t call something a market unless both sides can simply walk away.
There are few sights more colourful than a Petticoat Lane stallholder in full cry.
But we didn’t walk away, because there was mutual benefit in this exchange. To me, five Yuan was a small sacrifice for the benefit of looking smart. To her, it was a good reward for a few minutes’ work. In this way, as we will see in Chapter 2, the market brings about a calm cooperation between people who specialize in different things that they are good at - she on her skill with a needle, for example, and I on my economics.
Indeed, the greater our differences - like my uselessness at sewing and the fact that, on my travels, I lacked the simple specialist tools for the job - the easier is it for us to cooperate. We did not need to debate how important my repair was, or have a public vote on whether it should be done. We did not need everyone to agree that the repair would benefit society. In fact it was our very disagreement about things - she valued my money more than her time, I valued her skill more than my money - that brought us together. All we had to agree on was price. Beats politics as a way to get things done, doesn’t it?

NOBODY’S PERFECT

Markets are human. They’re never perfect. If you own an economics textbook, you should rip out the section on ‘perfect competition’ - the one that describes the perfect balance that prevails in markets when vast numbers of individual producers sell identical goods to vast numbers of individual buyers, all of them completely aware of every price paid in every transaction. That’s not ‘just a theoretical abstraction’ - that’s just plain daft. As Chapter 2 explains, it’s their very imperfections and imbalances that make markets work.
I’m sure there are indeed vast numbers - millions - of individual seamstresses in China. But a stranger like me would have a hard job finding them, never mind comparing them all. As Chapter 3 shows, such information is the grit in the market oyster. Information isn’t free and perfect. Buyers have to spend time and energy seeking out the sellers they prefer, and sellers have to spend time and energy attracting buyers. If all buyers were perfectly informed, advertising executives would all be out of work. (And we wouldn’t want that, would we?)
It’s their imperfections and imbalances that make marketswork.
I too had to spend some effort in looking for someone to do my repair. In my case this search cost (as economic jargonauts call it) was pretty minor, but if you were buying something expensive - like a house or a car - you would want to look around more widely, and spend quite a lot of time and care on your selection.
You’d probably want to spend time drawing up a contract, too, just as I had to spend some effort explaining what I wanted and finding out the price. These are called transaction costs. Without them, lawyers would be out of work too (but that’s life, sadly - things are never perfect).

TIME, PLACE AND TRUST

So I worked on the basis of incomplete information. I knew there was a group of older needlewomen who squatted on a street corner a few blocks away. But I had walked enough, and it didn’t seem worth bothering to check them out. Anyway, I had more trust in my red-shirted friend: the fact that she could invest in her own little kiosk suggested that the quality of her work attracted a stream of loyal customers.
These differences of time, place and trust (detailed in Chapter 6) all affected my choice. But it’s these differences that drive markets. To me, these sellers were not identical. There were even differences in the spices on sale in the market, which discerning customers sniffed and tasted, before crossing over to check those on other stalls. Perhaps some were fresher, others cheaper. Or perhaps some stallholders had a more useful selection.
With such choosy customers, sellers face the constant threat of losing trade to other sellers - which makes them strive to deliver the range, quality and price that people actually want. The competition (as Chapter 5 will show) doesn’t have to be ‘perfect’ - having even two similar traders within striking range of each other is enough to keep them sharp. Sometimes the mere threat of competition is enough.

WHO? WHAT? WHERE? WHY?

This all means that markets are a continuous voyage of discovery for both buyers and sellers. Buyers are constantly tasting the spices, smelling the soup, squeezing the melons, tapping the glassware, checking the prices, and deciding which sellers they trust. Sellers are always adjusting their prices in response to how much customers are prepared to pay, and what competitors are charging. There is nothing static about this: when you see the word ‘equilibrium’ in your economics textbook, take a marker pen and blot it out.
When you see the word ‘equilibrium’ in your economics textbook, take a marker pen and blot it out.
Yet the fact that some traders stay in business year upon year suggests that they are doing something right, and that customers are willing to pay for what they produce, rather than just looking, sniffing, tapping and moving on. Somehow, this discovery process matches up supply and demand - telling sellers what to produce in order to satisfy the constantly changing, and highly personal, demands of their customers.
The entrepreneur always searches for change, responds to it, and exploits it as an opportunity.
- Management guru Peter F Drucker
Getting that right demands a bit of flair. You need to guess what buyers might go for, and give it a try. You have to be a bit of an entrepreneur - take a chance, invest your time and money in something new that might work, or might not - like those clever cyclists who pedal soup to their customers, or calculate that someone will actually pay hard cash for used cardboard boxes.

UNORGANIZED ORDER

Markets might look like chaotic places - my Lanzhou street market is a river of people, with noise, smoke and clutter - but they are not. There’s certainly no central, controlling authority. People here aren’t told what to sell or what price to sell it at (a subject for Chapter 4). Rather, they just gather together and hope they are offering attractive goods at attractive prices. The market doesn’t succeed because some authority directs it. It succeeds because its participants follow a set of rules that have worked for centuries.
Consider property rights, for example. The stallholders’ goods (or services, like the time and skill of my seamstress) are theirs. My cash is mine. If they succeed in attracting lots of customers, they get to keep the proceeds. If I don’t pay, or they swindle me, that breaks the rules. For markets to work, people’s property has to be secure.
If I don’t pay, or they swindle me, that’s against the rules.
These rules are so natural to us that most everyday transactions don’t require legal documents or contracts. They are done on trust. The customers who buy the strange vegetables or the hen’s feet in the market simply expect them to be wholesome (well, as wholesome as hen’s feet can be): if not, they might demand a refund, or vow never to return to that stallholder again. Likewise, seamstresses trust that when they’ve handed back your repair, you won’t just run off without paying. Those are the rules.
But life isn’t perfect. Sometimes, people’s property is harmed by what others do. The underwear seller’s stock would be devalued, for example, if the smoke and smell from the food stall drifted on to it. And the general human congestion in this narrow street means it can take some time to get to the stall you’re looking for. These externalities (in the jargon) can be hard to deal with, but as we’ll see in Chapter 7, the market often finds ways to do so. In Lanzhou, the food and the clothes sellers seem to have done it simply by making sure that they are some distance apart.

MARKETS ARE A FORCE FOR GOOD

It seems strange that this system - with no overall directing authority, where people come to sell or to buy, purely with their own interests in mind - actually works so well. But it does, precisely because it enables different people with different purposes and opinions to cooperate peacefully, and because it steers resources quickly and efficiently to where people need them.
Certainly, the market has to answer moral concerns (see Chapter 8) such as the fact that it doesn’t leave people perfectly equal. My seamstress is much poorer than I am, for example. And yet, thanks to the market system, she and other people in China are catching up fast, their standard of living doubling every five years. The market system is the most powerful anti-poverty device, and the best wealth-creator, on the planet. That is why you find markets (almost) everywhere.