The micro side of Free Market Economics

The following is part of an Edward Elgar blog post of mine put up under the title, “Free Markets, Say’s Law and the Failure of Keynesian Economics” which discusses my Free Market Economics text. I have focused in this excerpt on the microeconomics side which I normally don’t mention since macro is the major issue of the moment. There is plenty about micro I have problems with as well.

But the book does more than recast macroeconomics in its classical form. The microeconomic sections of the book also provide a different perspective on the nature of the market, the role of the entrepreneur and the unparalleled importance of uncertainty whose significance in economic analysis cannot be exaggerated. The text wages a battle against the other major innovation of the 1930s, the diagrams associated with marginal revenue and marginal cost. Anyone who has done economic theory has been dragged through a set of diagrams that show how the price of individual products are determined according to where the additional cost of producing one more unit of output is equal to the additional revenue that would be received by producing that one extra unit of output. Maddeningly complex while simultaneously shallow, it will leave an economist almost completely unequipped to deal with the genuine questions an economy poses to policy.

This analysis has distracted economists from focusing on what is most important about entrepreneurial decision making by making it appear that profit maximisation is about getting MR to equal MC. The reality of business, however, is that the future is an absolute unknown; economic decisions are seldom about single products and never about whether one more unit of anything ought to be produced. Instead, virtually all economic decisions are based on conjectures built on the past and projected ahead into the future about which nothing can ever be known for sure, and the more distantly into the future decision makers project, the less likely they are to get right.

This, then, is how marginal analysis needs to be explained. Decision making occurs as the expected costs associated with some decision (their marginal cost) are weighed against the expected return (their marginal revenue). Such decisions have nothing to do with deciding whether to produce one more unit of output. It is about making decisions that often put millions on the line and involve years of pre-planning. The free market succeeds because there are many different projections being made by people who venture their own money and who therefore have the most intense interest imaginable in getting it right, and then correcting their errors when things go wrong, as they inevitably do. That is what marginal analysis is actually about or at least should be.

Book price: I only own a hardback version because it was sent to me by the publisher. The hardbacks are for libraries. This is from the link to the Elgar website.

Free Market Economics: An Introduction for the General Reader

Steven Kates, School of Economics, Finance and Marketing, RMIT University, Melbourne, Australia

2011 352 pp Hardback 978 1 84542 322 3
2011 Paperback 978 0 85793 244 0
Hardback £95.00 on-line price £85.50

Paperback £29.95 on-line price £23.96

£24 is about $40. I know it doesn’t have the production values of Mankiw or the latest Baumol but it’s nothing like as expensive either. And you may take my word for it, I am not in it for the money. Just buy the book and I will buy you a coffee and then we’re square.

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20 Responses to The micro side of Free Market Economics

  1. Token

    Great summary Steve K.

    Maddeningly complex while simultaneously shallow, it will leave an economist almost completely unequipped to deal with the genuine questions an economy poses to policy.

  2. Skuter

    Interesting post Steve. I think that on the production side, marginalism is next to useless. On this we agree, but what about marginal analysis on the consumer side? Surely marginal utility (at least Menger’s subjectivist version) has some value in explaining consumer behaviour (not necessarily as a strict equality though)?
    I would be interested in reading at a more advanced level, exactly what theory of value you employ…

  3. Max

    Still getting smashed by the $160 price for your book on Amazon Steve

  4. Pedro

    Aren’t you making the same mistake as is made in critizing the EMH? People ignore that the EMH is broadly correct and fuss about supposed failings in detail. Obviously no business person thinks in terms of producing one more widget and any student who thinks that a real example must have paid someone to hack to school computer to get the tertiary entry score needed for the course.

    “The free market succeeds because there are many different projections being made by people who venture their own money and who therefore have the most intense interest imaginable in getting it right, and then correcting their errors when things go wrong, as they inevitably do. That is what marginal analysis is actually about or at least should be.”

    Those look like two different things to me. Marginal thinking is the process of individual decision making. The market succeeds in increasing efficiency and meeting needs because the best decisions tend to prosper.

  5. .

    I hope you enjoy my money, Dr Kates. Your book better be good.

  6. Max

    Question to the Educators here.

    If your kids are about to go into High School Econs should you train them independently in the Classical / Mises tradition?

    Or leave them with the (corrupt) syllabus as it stands?

  7. Skuter

    Definitely not option B max, if you want them to understand the real world. If you want them to get good marks on the other hand…

  8. .

    Don’t let them enrol. Make them do history, maths, physics, chemistry…

  9. Steve Kates

    Max – High school economics is worse than useless. I wouldn’t let my own children do it and anyone who has, found it no advantage in doing a first year course, at least so far as my own experience in teaching seems to have shown.

  10. .

    I agree with Dr Kates here. The HSC Economics course will literally send them backwards.

    Better off buying them Schiff’s book, then probably Mises, then maybe Kates book, then if they like, they can do it at university.

  11. Skuter

    I was taking it as a given that Max’s kids were going to study HS econ, but I agree with Steve and dot. Useless garbage…

  12. RMR

    Come over to the business side and have a look at how decisions are really made. If you are looking at how much to produce next week then you will look at your cash profit which takes you down to MC=MR. But if you are looking whether to invest major capital, then next week is irrelevant, you start looking years out to see what your return will be. MC=MR might inform you on what price could be in a few years but that is not what you are thinking about. Of course, this assumes a capital intensive business. For a service business, much of the capital is sweat equity and it is opportunity cost rather than capital cost that you are thinking about. Which comes to the real issue. Business decision making is complex because of all the uncertainties. And the longer out you look the greater the uncertainties. And poor decision making by regulators increases the uncertainty, which increases the risk, which increases the cost of capital. And when the cost of capital increases businesses have to focus on the short term because they can’t afford to invest for the long term because they won’t get the required return on capital. If you don’t understand uncertainty and risk you won’t be managing a business for long.

  13. Jim Rose

    I have seen hardback economics books costing $300 to $500!!

    Economics textbooks of up to $200 are common but you can rent e-versions for reasonable prices for a semester.

    The usual explanation of hardback and then softback is price discrimination. The hardback is for diehard fans.

    Coase’s latest book is $85 in hardback. I am not that interested in china.

    Price discrimination is good because it increases the rewards for invention

  14. NoFixedAddress

    @RMR 5 Dec 12 at 5:17 pm

    Obviously you are from the dark side of the Australian economic Juggernaut…

    And poor decision making by regulators increases the uncertainty, which increases the risk, which increases the cost of capital.

    In the 70′s, 80′s and up until the middle 90′s you could do 3 to 5 year projections…

    I feel sorry for you folk since..

  15. NoFixedAddress

    Steve,

    The coffee is at your place of coffee or mine….

  16. Steve Kates

    Well if you are at NoFixedAddress it better be at mine.

  17. Milton von Smith

    So Edward Elgar does not worry about the cost of producing additional units of your book when it sells them? Are you saying that if that cost exceeded the price, they would sell it anyway? Doesn’t sound like a great business model to me.

  18. Steve Kates

    But if it cost them $5 to produce and send you a copy do you think they would send you one if you offered them $10. And if not, why not?

  19. Justabunchoftheories

    Steve, I finished reading your book a month or two ago after it was recommended by Skuter. I just wanted to say thank you. As an economist it was revealing in more ways than I can say. Particularly the history of economic thought before and after the Keynesian revolution. Supply side economics makes perfect sense to me now, specifically the notion that you cannot demand unless you have supplied. I remember this concept being given a paragraph or two in my second year textbook and then simply dismissed. It is no surprise than that we graduated without any understanding of it. Most of all though, I think your book demonstrates how misguided global economic policy is at the moment, with its tax and borrow to stimulate AD by pump priming G approach. If increased standards of living through economic growth through higher income levels are only achieved by more value-adding production, we are in serious trouble with the current accepted economic policy approach. Unfortunately, it is this same approach that is predominate in most sectors of society (academia, the media, the bureaucracy, etc.). I have already recommended this book to current undergraduates in the hope that they get as much from it as I did and potentially, more from their university education. Thanks again.

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