Failures of the 'Invisible Hand'

Abstract

The introduction of an economics textbook by Manikiw quotes Adam Smith regarding the invisible hand and deduces the following claims: 1. Participants in market economies are motivated by self-interest. (SI) 2. Decentralized market economies work very well, and maximize the welfare of society as a whole. (FM: free markets) 3. The reason for excellent functioning of decentralized market economies is that all participants are motivated by self-interest. This self-interest works better than love and kindness in terms of promoting social welfare. (GG: greed is good) 4. The principles listed above were summarized in the concept of the “Invisible Hand” by Adam Smith. (AS) Manikiw writes that these ideas remain central to modern economics. This paper proves that all four of these central claims are wrong.

Keywords: invisible hand, market economy, traditional society, East Asian financial crisis, trade barriers

JEL Classification: A13, B41