The Wisdom of Free Markets

In recent years we have witnessed the ultimate consequences of failure to protect the orderly efficiency of free markets. Instead, we have seen the marketplace subverted and overwhelmed by the forces of greed and self-interest.

Regulation of markets is essential, no less than the enforcement of traffic laws on our roads and highways. But, the primary purpose of regulation in a complex economy must be to protect the integrity of free markets from manipulation.

Never has this necessity been more apparent than in the recent damage caused by major financial institutions.

It appears to many of us that the self-serving excesses of powerful financial interests have been aided and abetted by the very agencies and institutions that should be responsible for the integrity of the marketplace.

There are some who suppose that recent economic problems were actually caused by free markets. This could not be further from the truth. Indeed, the destruction of free markets in the United States in recent years has been nearly complete. A crippled national economy is an inevitable consequence of this damage.

Free markets are essential for very practical reasons. While the concept has significant philosophical implications, the economic reality is simple and entirely non-political.

To maintain a productive economy, markets must have the capacity to perform accurate price discovery across an immense complexity of activity. That is, markets must be permitted to respond without interference in determining prices and value based on the dynamic aggregate of economic activity in the real world.

When this function is upset, critical information becomes distorted and economic reality is misrepresented. Further, distortions take on a life of their own, projecting themselves broadly in ways that are insidious and often impossible to recognize.

Under present circumstances it is not possible for firms, especially small and medium-sized enterprises, to assess risk and make expansionary decisions. Confidence has evaporated.

This is significant in part because small and medium-sized enterprises (SMEs) have historically generated virtually all meaningful job growth. Large corporations have, with very few exceptions, been net destroyers of jobs.

There tend to be two primary motives for interfering with free markets. One is the good intentions of those in government and academia who think they know best. The other, which has emerged more recently, is the virtually unlimited cunning and greed of powerful banking and financial interests that now dominate the marketplace with their high-powered computers and manipulative genius.

Whether motivated by good intentions or by greed, the manipulation of markets will inevitably produce imbalances and, ultimately, the massive distortions and dislocations that we are now witnessing.

While it is true that markets can be afflicted by unintentional pathologies, these need to be studied and understood as such by stewards committed to protection rather than control.

Why are well-intentioned planners unable to influence markets effectively? As we discussed last week, the answer lies in the immense complexity of a dynamic economy. It is impossible for the human mind to fully comprehend the vast realm of interactive forces and their aggregate implications. There is simply no way.

The ultimate consequences of market interference can take time to manifest visibly, especially to those who are emotionally invested in doing it. But, as we have seen, the consequences can be quite spectacular.

Those who get hurt the most are those who are most vulnerable rather than those most responsible.

Let’s not to compromise the values of free enterprise in reaction to poor judgment and bad behavior. If we are to rethink our economic future intelligently, we must do so with a rules-based approach founded upon economic principles rather than one motivated by a discretionary human agenda.

And, make no mistake! Neither economic principles nor social stability will prevail without a firm foundation in the honesty, trustworthiness, and personal responsibility of real people. Economic reconstruction will not be possible until integrity is understood and confidence restored.

Those who fail to comprehend this truth need to wake up to the destruction around them – and get real. At this writing many in the financial world remain in denial.

Tom

Next week: Escape From Insanity

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