Who is Efficient? B. Summers

To find the answer, we must have a means of comparing a busi nessman's product with the fac tors of production he has used in its creation. That is, we need a standard that applies to goods and services as well as to natural re sources, labor, and capital goods. At first glance, this is a pretty tall order. We usually think of raw materials in terms of tons, labor in terms of hours, capital goods in terms of tools, and products in terms of usefulness. How does one compare usefulness with tons, hours, and tools? Fortunately, in a free market we are not forced into such arbiMr. Summers is a member of the staff of the Foundation for Economic Education. trary decisions. For when the mar ket is free, we need not think in ternlS of natural resources, labor, capital goods, goods and services per se, but rather, we may use prices the market attaches to these items. Is free market pricing the prop er standard to use in judging busi ness efficiency ? We will know the answer when we understand how free market prices come into be ing.

When the market is free, busi nessmen present customers with goods and services, and asking prices for these goods and ser vices. Of course, consumers are not forced to buy from anyone merchant. If they feel that a given merchant's asking price is too high, they take their business else where. Competition a,mong busi nessmen causes them to base their asking prices on their anticipa tions of how consumers will react to these asking prices. Only when 301 302 THE FREEMAN May a customer reacts favorably does an asking price become a selling price. Thus, businessmen are guided by consumers in the formation of prices of consumers' goods. How are prices of the factors of pro duction determined? Businessmen bid among them selves for natural resources, labor, and capital goods. However, here again businessmen are guided by consumers, for their bids are based on their anticipations of customers' reactions to the goods and services these factors will be used to produce. Hence, a given factor of production will go to the businessman who feels he can put that factor to the most valuable use. Valuable to whom? Valuable to the person whose favorable re action the businessman seeks - the consumer.

We have thus found a standard - free market pricing - that ap plies to raw materials, labor, capi tal goods, goods and services. How can this standard be used to judge business efficiency? From the point of view of con sumers - and we are all consumers - the answer is straightforward. Businesses whose expenditures for factors of production are less than their sales of goods and services have made efficient use of factors of production. Businesses whose expenditures exceed their incomes have made inefficient use of these factors. Hence, businesses that earn profits are efficient; busi nesses that lose money are ineffi cient. In a free market we can use prices to test business efficiency. However, as government interven tions take us away from the free market, we lose our simple test, and it becomes more and more difficult to judge efficiency. Government interventions influ ence prices in many ways. Con trols on wages and prices are ob ,vious examples. When wages and prices are set by the government, and not by consumers, business men still seek profits, but such profits are an indication that a firm's governmentally determined revenues exceed its governmental ly determined expenses, not that a firm has efficiently served con sumers.

Other forms of intervention also influence prices. Zoning, tariffs, import quotas, export restrictions, I.C.C. regulations, rent controls, minimum wage laws, union monop oly privileges, and so forth affect business balance sheets in count less ways. The more these balance sheets are affected by the govern ment, the less they are affected by consumers. And the more the gov ernment interferes, the less valid the consumers' test of efficiency becomes.

1975 WHO IS EFFICIENT? 303 The ultimate intervention is government control of an industry. Mail delivery is a good example. Is the Post Office efficient? It loses hundreds of millions of dollars every year. Suppose postal rates were raised to show a profit. We would still have no way of judging Post Office efficiency because con sumers would still have nowhere to turn for lower rates and/or better service. Postal rates are not determined by consumers, but' Total Control rather, are set by bureaucrats backed by a police force standing ready to imprison anyone who challenges the Post Office's legal monopoly. Only in a free market, where businessmen face constant compe tition, can business efficiency be tested, for only in a free market can consumers encourage efficient production with profits and dis courage inefficient production with losses. ~ IDEAS ON LIBERTY BUT WHEN SUCH A STATE of all-around control of business is achieved, the market economy has been replaced by a system of centralized planning, by socialism. It is no longer the consumers, but the government who decides what should be produced and in what quantity and quality. The entrepreneurs are no longer entre preneurs. They have been reduced to the status of shop managers and are bound to obey the orders issued by the government's central board of production management. The workers are bound to work in plants to whom the authorities have assigned them; their wages are determined by authoritarian decrees. The govern ment is supreme. It determines each citizen's income and standard of living. It is totalitarian.

Price control is contrary to purpose if it is limited to some com modities only. It cannot work satisfactorily within a market econ omy. The endeavors to make it work must needs enlarge the sphere of the commodities subj ect to price control until the prices of all commodities and services are regulated by authoritarian decree and the market ceases to work. LUDWIG VON MISES, "Inflation and Price Control"