How the Price System Works
It is naught, it is naught, saith the buyer: but when he is gone his way, then he boasteth (Proverbs 20:14).
An alert reader will think: “Wait a minute. I’ve seen this before.” Indeed you have! And you will see it again: Chapters 16, 17, and 18. There is a valid reason for this. Hazlitt was dealing with the same government policy in each chapter: the policy of keeping prices higher than what the free market would produce.
I began Chapter 13 with this verse. Chapter 13 is on parity prices: agricultural price floors that are set by the government rather than by competitive bidding in an open market. In challenging the legitimacy of all price floors, I invoked the free market’s pricing system. I wrote the following:
Every voluntary exchange involves buying and selling. The person who is called a buyer is a seller of money. He buys goods and services. The person who is called a seller is a buyer of money. He sells something of value to purchase money.
The practice described here by Solomon is familiar. In negotiating, both the buyer of goods and the buyer of money complain that the asking price is too high. It is not a good enough deal. “It is naught, it is naught.” Each hopes that the seller will drop his price. In the case of the buyer of money (seller of goods), he hopes that the buyer of goods (seller of money) will decide to take less for his money. Solomon knew that his listeners and readers would recognize this negotiating technique.
The technique rests on this institutional arrangement: the right to bid. We can see this in markets in which private property is secure (the window). We also see it in markets governed by politics (the stone).
In a society with a small retail market, where there are few rival options nearby, negotiation is basic to sales. In a highly developed economy, there is not much negotiation. We do not negotiate with a check-out clerk when we get to the front of the line at a supermarket. The clerk scans the bar code on the item’s package, and the computer adds it to the list of items we are buying. The negotiation rule here is clear: “Take it or leave it.” It is easy to leave it. Anyone can shop at a different store, or go online to check prices.
Sellers (buyers of money) bid against sellers. Buyers (sellers of money) bid against buyers. Out of this competitive bidding process — a gigantic auction system — come objective prices. There is little ignorance. Face-to-face negotiating is limited to zones of ignorance regarding prices and quality. The better the information about market prices, the narrower the range for price negotiating.
The best way to understand how the price system works is to understand an auction. The free market is a gigantic auction. All over the world, 24 hours a day, this auction is going on. Owners of money bid against each other to buy whatever they want to own or rent. Everyone with some asset to sell is an auctioneer. “Do I hear a higher bid?”
An auction is governed by this rule of asset allocation: high bid wins. So is the free market.
There are also owners of money: the most marketable commodity. We call these people consumers, but they can also be investors.
Buyers of money (sellers of goods and services) want to obtain the highest money price possible, i.e., the obligation to deliver the least quantity of a crop. In contrast, buyers of goods and services (sellers of money) want to obtain more goods or services for whatever they are willing to pay.
There is a third aspect of ownership in a free market: the legal right to bid. This is another way of saying that owners possess the legal right to disown their property, whichever form of property they own: money or whatever money can buy.
(For the rest of my chapter, click the link.)