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Book Review: The Magic of Market Design

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FOR many economists and executives, free enterprise is an article of faith. Dismantle trade barriers, demolish monopolies, privatize public utilities, and the resulting system will be nothing short of heaven on earth, thanks to Adam Smith’s proverbial invisible hand. Unfortunately, whenever trouble arises in this paradigmatic paradise, free marketeers are quick to judge and pin the blame on the usual suspects: big government and its supposed malicious intent to intervene in the hallowed marketplace.

This, all too often, is the knee-jerk reaction of free-marketeers the world over, especially when their faith is put to the test. While it is not easy to dispute their unswerving faith in the free enterprise, especially after another religion—that of the centrally-planned economy—has been debunked, it is nevertheless difficult for them to recognize that unfettered markets do not automatically transform Third World economies into lands of milk and honey.

Fortunately, John McMillan in Reinventing The Bazaar: A Natural History Of Markets, explains this point thoroughly. Through studies, stories, and anecdotes, he recognizes that the market, left alone and unchecked, is not exactly the perfect solution to the grinding poverty and the ever-increasing income gap between the rich and the poor in countries around the world.

“The collapse of central planning is sometimes held up as proof that the government should stay right out of the economy,” McMillan writes. “This is a non sequitur. Observing that something is not black, we are not impelled to infer that it must be white. That governments often fail does not prove the ideal state is the minimal state. To frame the choice as planning versus completely free markets is oversimple. Public goods, offering widespread benefits, must be produced by the state or at least funded by it.” To prove this thesis, McMillan examines markets around the world and throughout history—the Makola marketplace in Ghana, California’s electricity market, prisoner-of-war camp markets during World War II, the highly-complex auction of spectrum rights in the American telecommunications industry—and asserts that well-built markets which work smoothly can only be the result of good market design, something that governments can do and do well.

He adds that for any market system to work well, it has to possess five prerequisites: trust in trading partners, secure property rights, free flow of information, reduction of side-effects of economic transactions for third-parties, and the existence of competition; exactly the very things decent government can provide and enforce. At the same time, McMillan distinguishes between similar market systems and analyzes why one succeeded and the other did not. This is best exemplified by Russia, which went through “shock therapy” in its transition to capitalism, and
China, which undertook the more gradual approach.

The difference, he says, lies in the manner by which government performed its role. In Russia, immediately after privatization, the state continued to bail out and subsidize its industries, many of which were monopolies. Thus, industries were not forced to improve their operations because there was no competition at all.

But in China, the communist party agreed to allow its factories to produce extra output to sell in markets at market-determined prices, on top of their state-required output which are sold at state-fixed prices. According to McMillan, this dual-pricing “avoided the chain-reaction disruption that shock therapy generated.”

“Permitting the state-owned firms to sell extra outputs and to buy extra inputs in markets allowed new interfirm relationships to grow around the stable platform of the existing ways of doing business,” he says. Moreover, unlike traditional free-marketeers who insist on absolute global enforcement of intellectual property rights, McMillan, true to form, swings both ways.

“Unconditional assertions about intellectual property are rarely valid. The trick is to find the right balance,” he says. As an example, he points out that in 2000, during the height of, an online service which allowed users to download and exchange music, sales of CDs were higher than ever. This dispelled the widely yet falsely held contention among record companies that online music exchanges would kill their industry.

The same can be said for Microsoft’s global dominance of computer operating system software. Because of software copying, it became widely distributed among PC users and owners, making it the predominant operating system. Later on, since users were already accustomed to the platform, they began to buy legitimate copies. Which explains why Microsoft became the software giant it is now. (It can even be argued that Microsoft Windows 95—produced by a company which strongly disallowed illegal duplication and distribution—was virtually a copy of the pre-OSX Macintosh operating system. However, a lawsuit filed by Apple, which made Macintosh computers, did not prosper.) “Bill Gates owes his fortune to us,” said Dan Sokol, member of Homebrew club, a group of San Francisco Bay Area computer buffs who exchanged ideas about computers and programming in computing’s early days. “If we hadn’t copied the tape, there would never have been an explosion of people using his software.”

But while many may not agree with McMillan’s controversial positions on many issues, his heart, no doubt, lies with the market. “The market system is…the worst form of economy, except for all the others that have been tried from time to time,” he says. “It succeeds precisely because…it admits variety and permits criticism. We should cheer it because it solves some all-but-intractable problems, which have been tackled by none of the alternative forms of economic organization. It generates wealth. It alleviates poverty. But it has its limits. There are things it cannot do. It does not necessarily do even what it is supposed to; it works well only if it is well-designed.”

Originally published, although partially, in the Manila Times

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  1. Thang có kích th??c nh? g?n, không t?n di?n tích, d? dàng di chuy?n và c?t gi?– Có th? s? d?ng ? nh?ng không gian ch?t h?p không có di?n tích.
    – Ph? ki?n c?i thi?n s? d?ng

  2. cintosh operating system. However, a lawsuit filed by Apple, which  made Macintosh computers, did not prosper.) “Bill Gates owes his fortune to us,” said Dan Sokol, member of Homebrew c