Wednesday, September 30, 2009

Supply and Demand

Don Boudreaux at Cafe Hayek provides a free education to a protectionist:
In a letter appearing in Sunday’s Washington Times, protectionist William Hawkins accuses Adam Smith of being “dreadfully wrong” to insist that the ultimate goal of economic activity is consumption rather than production.

Alas, the dreadfully wrong one is Hawkins. He confuses means with ends. Flour, sugar, apples, an oven, and labor are necessary ingredients for baking an apple pie, but these means are valuable in this use only if someone wants to consume the pie. If no one wants to eat apple pie, then using these ingredients to produce the pie would be wasteful.

Adam Smith correctly understood that the desire to consume is what justifies production, and not vice-versa.
I wonder if the language lends itself to this sort of misunderstanding. An economy grows when productivity increases, but if the added capacity only goes to fill warehouses, then the gross national product (GNP) will eventually have to fall... until those warehoused goods are consumed. I would say that production must be informed by consumption. It is the consumption of goods and services at some rate and at a mutually agreed price that conveys to the producer whether more (or less) goods and services can profitably be produced.

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