Knowledge And Decisions

In any kind of economic system, inventories are a substitute for knowledge. The two are incrementally traded off for one another according to their respective costs. If a housewife knew exactly what her family was going to eat and in what amounts, neither her refrigerator nor her pantry would have to contain as large or varied an inventory as it does, nor would there be as much “waste” of food as there is. Like so much other retrospective measurement of “waste,” this is based on an implicit standard of prospective omniscience or zero knowledge cost. To trace in retrospect the path of a particular unit of a particular product is often to discover “overcharge” or an “exorbitant” markup for that item considered in isolation. But the whole reason for anyone — housewife or multinational corporation — to maintain an inventory is the cost of prospective knowledge, so that a whole aggregation of items is stocked precisely because no one can know in advance which one will be wanted at a given time, and the costs of stocking items which later turn out to be unwanted are covered by (are part of) the cost charged for the particular items which turn out to be in demand. This is most obvious in areas of greatest uncertainty (highest knowledge cost), notably perishable agricultural products. If one-third of all peaches have to be discarded somewhere on the way from producer to consumer, then the cost of eating 200 peaches is the cost of producing 300 peaches. To trace in retrospect the cost of the particular 200 peaches actually eaten would be to discover a 50 percent “overcharge” even if no one made a cent of profit. Similarly, to ask how much the original farmer was paid per peach compared to how much the consumer paid per peach would be to discover a substantial gap, even if all transportation, storage, and other middleman costs were zero, in addition to a zero profit.

Given that middleman functions serve some economic purpose, and have inherent costs, what is to prevent middlemen from charging more for their services than they cost or are worth? Only what inhibits everyone else performing any kind of function anywhere in the economy or society from doing the same thing. Costs, as noted earlier, are ultimately foregone alternatives. It is these alternatives open to competitors which determine how much any given seller can successfully demand. If some existing seller(s) charged more than enough to cover the costs involved — that is, more than the risks and efforts are worth to alternative producers, those alternative producers will displace him by underpricing him. Sellers are, after all, more concerned with increasing their total profits than with maximizing profits per unit of sale, and whole retail empires have been built on shaving a few cents off the price of various kinds of merchandise. Indeed, the constant efforts to prevent this with “fair trade” laws and the Robinson-Patman Act is some measure of how pervasive the incentives are for price cutting. The desire of businessmen for profits is what drives prices down unless forcibly prevented from engaging in price competition, usually by governmental activity. Even Karl Marx recognized that when one capitalist introduces a cost saving, the others have no choice but to follow.¹³⁹

All prices — whether called wages, profits, interest, fees, or whatever — are constrained only by the competition of other suppliers. Profits are no different in principle, except for being residual and variable rather than contractually fixed. Sometimes profits are regarded as special in representing the “exploitation” of other inputs — notably labor — rather than (or in addition to) the consumer. One reason for believing this is simply an emphasis on the physical production process as the source of economic value, and the exclusion of those not taking part in that physical process from any contribution to the economic end result, so that anything that they receive for their nonexistent “contribution” is exploitation.