What the most efficient allocation of resources

Reference no: EM133344166

Friedrich hayek and the Model of Perfect Competition

Friedrich Hayek (1899-1992) was a noted political economist who was awarded the Nobel Prize for Economics in 1974. He was part of the austrian school of economics which placed an emphasis in its analysis on the lack of perfect information. Perfect information on the part of buyers and sellers is one of the assumptions of the perfectly competitive market model. as noted in the main part of the text, the perfectly competitive market model has been cited as being valuable in providing a benchmark against which real world markets may be judged. In judging real world markets against perfect competition, however, there is an implied belief system in place that the outcomes of perfect competition are desirable. this is a normative issue.

Hayek argued that one of the issues with the theory of perfect competition is that its long run conclusions of equilibrium are effectively determined by the assumptions that are made. In other words, economists have assumed equilibrium will be the desirable and appropriate outcome, and looked for the conditions that would have to exist to allow for this outcome to occur. In many respects, that is the way in which many theories of economics developed in the nineteenth century. Economists of that era were dealing with and observing different problems in a different economic setting than the one that exists today.

Hayek's main observations on the perfectly competitive model are based around the information that buyers and sellers possess; that sellers, for example, know the most efficient combination of resources to produce at lowest cost (and by implication, that regulators also can identify this point). Equally, the information that consumers possess is such that they are able to identify the price they are willing to pay based on their knowledge of the product in question and the substitutes that are available. Moreover, Hayek argued that the very elements of what can be understood as 'competition', branding, advertising, differentiating, improving products, improving customer service and so on, are redundant in the model of 'perfect competition'. Hayek suggested that we should not be worried about how closely a market matches to the model of perfect competition in regulating and legislating, but whether there is any competition at all. Hayek argued that competition is a dynamic process and the model of perfect competition assumes away the dynamic process because its assumptions are based on static analysis: the process by which equilibrium is reached, where the outcome is 'static' and at rest.

What is interesting about Hayek's views is that these were originally developed in the late 1940s. Economics today has been subject to heavy criticism that its models are outdated, inaccurate, and fail to predict the real world. reading some articles, you may be forgiven for thinking that just a handful of enlightened individuals have spotted that these models have their limitations, and that the rest of the economics profession is clinging to models like perfect competition like members of the flat Earth society. Should this book even be covering the model of perfect competition and thus perpetuating its 'myth' to a whole generation of future potential economists? Does the way the model has been covered in this chapter mean the reader is brainwashed into believing that the model is always reflective of some aspects of the real world, or as a basis for a critical analysis of how real markets for some products operate? Is the real question one of whether the fundamental belief system at the heart of the model that the outcome is desirable and appropriate?

Question 1. In this chapter, we have used the farming industry as examples of markets where some of the assumptions of perfect competition hold. To what extent do you think this is reasonable for the purposes of analyzing a market? In your answer, select a particular market for an agricultural product to help illustrate your answer.

Question 2. Consider the long run outcome of the model of perfect competition. Do you think that the outcomes are both desirable and appropriate as the basis for judging real world markets? Justify your answer.

Question 3. hayek argued that competition is a dynamic process, but that the model of perfect competition is based on static analysis. Given the information in this chapter, to what extent can it be argued that the model does have a dynamic element and that there is an incentive for sellers to 'compete'?

Question 4. Can sellers and regulators ever 'know' what the most efficient allocation of resources is i.e. where the point of minimum ATC lies in their industry?

Question 5. 'There is little value and relevance in the model of perfect competition, and as a consequence it should be removed from undergraduate economics curriclula.' To what extent do you agree with this statement?

Reference no: EM133344166

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