Self-Interest is the Origin of the Free Market
It makes people come together to exchange goods and services.
A market is a forum where people exchange goods and services. A market can either be a free market, where exchanges are entirely voluntary, or a regulated market, with different kinds of regulated markets being possible. Note that a free market is not completely devoid of regulations, as there are still some basic laws that must be obeyed. But these laws are non-intrusive and only serve to protect the rights of the participants in the market, without interfering with the market process. Before we start looking at how the free market works, I think it is important that we try to understand why markets exist in the first place. Once we understand this, it should be clear that amongst the different kinds of markets, the free market is the one that leaves the participants most satisfied with the outcome of their exchanges.
Humans act rationally, and by that I mean they generally act in their own self-interest. All market participants act in their self-interest, as they hope to gain in some shape or form from the exchanges that they make in the market. As Adam Smith said:
“It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest.”
This quote, of course, refers to the producer or seller in an exchange, acting in their own self-interest because they expect to gain from the transaction. But there is a reciprocity in all transactions in the market. The buyer is also acting in her self interest and also gains from the transaction. The buyer could choose to produce whatever goods she wants by her own effort. However, the seller is most likely much more efficient at producing this good, so it is less costly and takes less time and effort to simply procure the good from the seller. The buyer may offer her own produce, or money, in exchange for what she wants. Her need for the seller’s good is greater than her need for what she is giving up, so in terms of subjective value, she is gaining by making the transaction. Likewise, for the seller, he may be skilled at producing a particular good; so skilled that he can produce more than he personally needs and at low cost. It is in his interest to exchange the excess goods that he produces for goods that he is less skilled at making, and which others can provide.
Self Interest Creates the Market
What happens, therefore, is that the self-interests of both producers and consumers drive them to discover each other and engage in exchanges in order to increase their intrinsic satisfaction with the goods or resources that they own. In other words, self-interest is actually what creates the market in the first place. This desire to increase the intrinsic satisfaction with one’s possessions is the foundation of what is known as the profit motive. But the profit motive is an artefact of the money-driven economy we have now, which is caused by our viewing the economy from the perspective of the purchasing paradigm. In the bartering paradigm, the economy is resource-driven, and so the profit motive would be replaced by a desire to acquire more resources rather than money. For a background on these two paradigms, read my previous article.
The cost to the buyer, i.e., the subjective value of the money or resource she gives to the seller, is less than the subjective value of good she receives from the seller. Similarly for the seller, the subjective value of the money or resource he receives from the buyer is greater than the subjective value of the good he gives to her. For both buyer and seller, they seek to maximise the difference in subjective value between what they received and what they gave up in the exchange. In a free market, where there is no price-fixing, no additional costs such as taxation, and the exchange is completely voluntary, that difference is greatest, thus maximising the increase in subjective wealth of both buyer and seller.
Distortions in the market can cause a potential buyer to choose not to engage in an exchange because the cost of what they want is too high compared to what they are prepared to give up. Thus it will not be in their self-interest to exchange what they have for what they need. Distortions can come about for several reasons, including price-fixing and taxation, which you might find in a regulated market. Taxation itself can be thought of as an exchange between the government and the public, where the government provides public services in exchange for taxes. In general, members of the public do not enter into that exchange voluntarily. While the public gets some benefit in terms of public services provided by the government, the subjective value of these services to individuals is not as great as that of private goods and services. Therefore paying taxes does not increase the intrinsic satisfaction of the members of the public by the same proportion as purchasing a private good. In fact, it may even decrease their subjective wealth.
Selfishness
It is important to note that self-interest is not the same as selfishness. In fact, they are very different. Humans are creatures with needs and wants which require the help of others to obtain. Being selfish means not considering the needs of others, so such a person may not want to provide goods or services to others. Similarly, the selfish person may not want to purchase goods or services from others. Thus they would need to provide for all their needs and wants themselves, which is impractical. Thus the cost of making everything yourself, instead of buying from others who are more efficient, may to too high for the corresponding increase in subjective wealth, so even the selfish person may find himself needing to participate in the market. Self-interest, on the other hand, leads people to produce goods and services that other people want thus catering to the needs of others.
We can now state what the purpose of the market is. It is to satisfy the economic self-interests of the participants, thereby increasing the intrinsic satisfaction of all. When all exchanges on the market are entered into voluntarily by individuals acting in their own self-interests, the increase in total subjective wealth is greatest. It is not just a matter of them entering into the exchange voluntarily, but also not being unduly influenced by price distortions. Thus a free market, where all exchanges are voluntary, and prices are set by the laws of supply and demand only, leads to the greatest increase in subjective wealth for all the participants.
