The ability of free market to recorrect its failures and maintain reasonable equilibrium in the absence of much interventions are called the idea of invisible hand proposed by Adam Smith. In other words, we can say that “Markets are usually a good way to organise economic activity.”
According to Smith, when individuals act in their own interests, such as seeking profit or personal gain, they inadvertently contribute to the overall economic welfare of society. This self-regulating nature of a free market system promotes efficiency and innovation through competition.
The concept of the invisible hand was introduced by the renowned economist Adam Smith in his seminal work, “The Wealth of Nations,” published in 1776. It refers to the unobservable market force that guides individuals pursuing their own self-interest, resulting in collective economic benefits.
List of 10 basic principles of economics
1.People face trade offs.
2.The cost of something is what you give up to get it.
3.Rational people think at the margin.
4.People responds to incentives.
5.Trade can make everyone better off.
6.Markets are usually a good way to organize economic activity.
7.Governments can sometimes improve economic outcomes.
8.The standards of living depends on country’s production.
9.Prices rise when the government prints too much money.
10.Society faces a short run trade offs between inflation and unemployment.
Markets are usually a good way to organize economic activity
You might have listened regarding rocketing or crashing down market prices. Why does it mean? If the market is under the regulations and supervision of governing agency, why does market fails to maintain equilibrium.
And, if the market that is free from regulations, also shows fallouts but in lesser degree? Why this is so? Why do market economies sustain themselves without much interventions? And, how do they ensure smooth functioning without much market failures?
Really, both questions are important for a person who is either unknown or naive to market economy. But, nowadays, we are in the world where market forces determine the nature of economic activities.
Hence, Understanding the invisible hand in market economy is essential to offer market forces free hand with reasonable interventions.
Market economy
Unplanned economic activities, free from interventions, and determined by market forces of demand and supply are called market economy. In such economies, there is hardly pre-planning of economic activities, but directed by forces of demand and supply,
Market forces: The law of demand and supply
If the prices of demanded commodity rises, the given demand starts declining there onwards and vice versa.
But, when the prices of commodity rises, the supply side increases supply to maximize profits until prices decline.
Accordingly, producers and consumers plan theirs economic activities in terms of production of units and purchasing required goods, to achieve business goals.
It means that production of any commodity is clearly determined by the demands of consumers and not by any other entities.
Free market vs command economy
Comparatively, in command economies, or regulated market, it depends on the authority in power to determine which product need most priority than others. Command economies always consider the need of most than demand centric approach.
On the other hand, market economy permit given firms to allocate the available resources in accordance with the ongoing demands in market instead to cling with mere needs. In this ways market corrects it own failure automatically and direct economic activities accordingly.
Great idea of Adam Smith
Great political economists Adam Smith introduced the concept “Invisible hand” in his book 1759 book “The Theory of Moral Sentiments” and later in “An Inquiry into the Nature and Causes of the Wealth of Nations.”
As per his idea, there are certain invisible forces that are capable to guide and determine the economic activities in market economic system. These forces can’t let market failures to become dominant and authority in power should not intervene to correct mechanically.
Similarly, the sixth principle of economics justifies the role of invisible hand in market economy in correcting market failures without interventions. It asserts that market are usually a good way to organise economic activity.
Relations between the idea of invisible hand and Market economy
Often, it is widely claimed that there are certain types of invisible forces in market to ensure healthy functioning equilibrium. The interplay between demand and supply has dramatic outcomes.
Whenever the prices of certain commodity rises, it looks like the market failure is certainty but reverse pattern begins quickly with increased supply. Exactly, this is like sea-saw pattern of rise and fall periodically.
Last words on the idea of invisible hand,
Technically, market forces underpins the idea of market economy. In other words, it always happen in such systems with rise and fall of supply of given commodity.
Nowadays, this is widely acknowledged as well as accepted principle of economics. So, all over the world, economists think that Understanding the phenomenon of invisible hand has great importance in finding the secrets of day-to-day economic operations.
Moreover, the invisible hand highlights how competition breeds innovation and efficiency. A business operating in a competitive environment must consistently improve its offerings or risk losing customers to rivals. This drive for improvement not only advances the business itself but also enhances choices and lowers prices for consumers, illustrating how individual actions can lead to advantageous outcomes for society as a whole.
In conclusion, the invisible hand is a foundational concept in economics that underscores the interconnectedness of individual choices within a free market, demonstrating how self-interest and societal benefit can align harmoniously. Through the lens of supply and demand, it becomes apparent that the actions of individuals significantly shape the economic landscape.