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Quotation of the Day…

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… is from page 115 of Matt Ridley’s superb 2010 book, The Rational Optimist [2]:

I repeat: firms are temporary aggregations of people to help them do their producing in such a way as to help others do their consuming.

DBx: Yes. The ultimate economic justification for any firm – as for any productive activity – is to produce outputs for consumption. If a firm is literally producing nothing, then any resources (including labor) used in it are being wasted unless the owners of all of those resources willingly, and personally, bear the costs of ‘using’ their resources in this idling manner.

The situation is not changed simply by arranging for the resources used in a firm to generate physical outputs. Unless those physical outputs satisfy some consumption desires, all such resource use is complete waste. If the resources in the firm ‘produced’ nothing but maggot-and-sawdust pies, this firm would be, economically, in the same category as is a firm that literally generates no physical output.

But producing outputs that do satisfy some consumption desires is not sufficient for the firm’s existence to be economically justified. In order for any firm to be economically justified, the amount of consumption desires that its outputs satisfy must be greater than the amount of consumer desires that the resources used in the firm would have satisfied were these resources used differently.

For example, coercively preventing LeBron James and other NBA employees from earning their livings by playing basketball would result in each of them holding other jobs and producing outputs with some value to consumers. Yet the total value of the consumption desires satisfied by these other uses would be less than is the total value of the consumption desires satisfied by these men playing basketball professionally. Whatever might be the particular species of coercion that prevents people from earning their livings by playing basketball professionally would cause resources to be wasted. Society would, as a result, be less wealthy.

The same conclusion holds if consumers’ desires to watch NBA games were to fall significantly but coercion is used to force consumers to continue to fork over to the NBA the same sums of money that they voluntarily paid to the NBA before their preferences changed. In this case, NBA employees would be no worse off as a result of the change in consumer preferences, but consumers would be worse off – and worse off by an amount greater than is the benefit that this coercion bestows on NBA employees. Proof of the truth of this latter conclusion is found in the fact that, in this example, consumers pay what they pay to the NBA only because they are coerced to do so. (The logic here is the very same that leads you to understand that if I steal your car, there is every reason to believe that you value the car more highly than I do, for otherwise I would have acquired the car from you through voluntary exchange.)

Resources (including labor) that are kept in particular lines of production only because other people are coerced to help keep those resources in those lines of production are net drains on society. They are net drains on fellow human beings (usually fellow citizens, for fellow citizens are generally more easily coerced for such purposes than are foreigners). To the extent that resources (including labor) are kept in ‘productive’ activities that persist only because coercion is used to prevent consumers from spending less on the outputs of the ‘productive’ activities, these activities are not really productive; they are wasteful – which means, economically damaging. These activities might look productive, but they in fact are economically damaging because the coercion that supports them prevents the production of more highly valued outputs.

If the above sounds trivially true, rest assured that it indeed is. It’s not, as they say, rocket science. Yet the world overflows with people who fail to understand this point. You show me a protectionist or industrial-policy proponent who argues that his or her scheme will enrich the economy and I’ll show you someone who doesn’t understand the above-explained reality. I’ll show you someone so feeble of brain that he or she believes that the mere physical transformation of inputs into outputs, when done by resource owners who wish to perform those particular transformations, is sufficient for genuine production to take place. (Or, usually I’ll show you such an economically uninformed person: Some protectionists and industrial-policy advocates are venal apologists for rent-seeking producer interests who have no qualms about living predatorily on their fellow human beings.)

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Pictured above is the 1991 Economics Nobel laureate Ronald Coase [3] (1910-2013), whose pioneering 1937 paper, “The Nature of the Firm [4],” remains to this day at the foundation of all worthwhile work in the economics subdiscipline called “industrial organization.”

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