All Commentary
Saturday, September 1, 1990

What Makes a Market?

Ross C. Korves is Economist and Chief Policy Analyst, Economic Research Division, American Farm Bureau Federation.

Economists are quick to talk about markets, as if everyone knew what a market is and why markets exist. We talk about the corn market, the housing market, the insurance market, the baseball card market, and so on. Some people think of physical structures, some think of people shouting and yelling at each other, and others think of a list of little numbers on the business pages of the newspaper.

Recently some of my colleagues and I had lunch with a young economist from the Soviet Union. She had come to the United States to learn more about business institutions and how companies are organized. In the course of the conversation, we got around to the need for a market system within the Soviet Union so that communication can occur between producers and consumers. The prediction of Ludwig von Mises that socialism would fail because of the inability to calculate has come true, and changes are needed if the Soviets are to prosper. Even Communist economists from the Soviet Union see that.

Our guest agreed that markets are needed, but since none exist the government would have to create them. That sounded strange to me. How can a government create markets? We explained that markets develop spontaneously as people interact. As people freely act they sort out what they want and don’t want, and they communicate these ideas back to suppliers. But she didn’t appear to be able to grasp that markets spring up on their own. We mentioned the black market within her own country as an example of people mating a market as the need developed. That didn’t seem to connect. She came back to the point that no markets existed, and the government would have to create them.

After a while, I concluded that the Soviet economist lacked an appreciation for freedom, particularly the freedom for individual consumers to communicate their wishes through a market system. Markets develop as hundreds and thousands of individuals make their wishes known. But Communism is a top-down system. Decisions on what to produce are made at the top, and consumers are forced to live with those decisions. The idea of consumer sovereignty doesn’t exist. The more I thought about it, the more it became obvious that their consumers cannot be thought of as making decisions because in the Communist system there is no freedom. Individuals don’t exist of and by themselves. Only the state exists, and people are just part of the larger system.

The freedom to act is fundamental to the development of a market. Some friends of mine are in the property casualty reinsurance business. Having had substantial claims as a result of Hurricane Hugo, they devised a way to calculate the additional coverage that would be needed if a similar catastrophe were to happen in the future. They took their proposal to “the market” and found that the reinsurance industry could easily understand what they were trying to do and quickly established a value on the activity. But without the freedom to act on an idea, and the freedom for others to react, there would be no market for that type of reinsurance.

This “market” that the reinsurer went to doesn’t exist in a physical sense. There is no building. There was no group of people shouting at each other in a large pit. And I didn’t find a listing of prices in The Wall Street Journal the following day. If the government had set out to create this market for reinsurance, there would have been nothing to create. It was all in the heads of the people who sought out the reinsurance and those who responded to that need. There were, eventually, papers to be signed and accounts to be established, but that came after the market was established. If this type of reinsurance becomes popular enough, something about it may eventually be listed daily on the financial pages. To go one step further, if this reinsurance became extremely common, maybe an insurance exchange building would be built to put all thepeople involved in this market in the same place to make market activity easier. A lot of business people and individual buyers would use the market. At that point, undoubtedly, some local, state, or federal government politician or agency would want to regulate the market to protect the participants from their own freedom of association.

I am not sure that the young Soviet economist ever grasped what we tried to explain about markets springing forth from the actions of individuals using their freedom to make choices. But I learned one more time that personal freedom is the basis for markets. Where there is no freedom, there are no markets, regardless of what a government may try to create.