Entrepreneurship: The Essence of the Market Process
In the previous chapters we introduced supply and demand analysis for price searcher (monopoly and monopolistically competitive) and price taker (perfect competition) markets. These models assume that suppliers and demanders have the necessary information to assess their costs and benefits. In this equilibrium model, we can imagine that there is a fictional auctioneer who calls out prices and quantities, and settles all offers such that everyone can buy and sell at the same price. Unfortunately, while this model is very simple and relatively useful for understanding general economic realities, it is less useful in navigating the real economic world. The real world has uncertainty and passes through real time, and we require entrepreneurship to navigate these unknown waters.
The “Dating Game”
Imagine a world where you wanted to go on a date with an attractive member of your class. If you are a male, you may want to ask a certain young lady out. Likewise, if you are a female, you may want a particular male to know that you are available (but not too available!). In the perfect information world that supply and demand analyzes, all the difficulties of dating would be gone—he would know whether she would say yes, he and she would understand what all other available options are and are not, and everybody would all settle each weekend’s dates at the same time. The market would always clear, and no one would ever stay home alone on a Friday night (assuming they wanted a date). We would have an equilibrium price and quantity of dates that would be fixed in advance of any dating activity. There would be no strategies necessary—no built up hopes that are dashed, or any unrealized opportunities neglected.
Unfortunately, the real dating game is nothing of that sort. The real world is filled with uncertainty and passes through real time. Do I want to go out with John or Sue? Should I hold out for Bobby or Megan (and risk having no date)? Or should I accept a more certain opportunity, but one with less potential reward? Not only do I face uncertainty with other potential partners’ choices, the process works through real time. What might be a good choice on Tuesday may become a terrible choice by Thursday; but by Saturday night, it could become the most awesome night ever! Or if she says a hurtful word in response to your request, you may never look at her the same way again. You learn, and as you learn, you change.
The process of learning is continual; we constantly learn as time progresses. We grow… and so does everyone else. The Greek philosopher Heraclitus once said, “You can never step into the same river; for new waters are always flowing on to you.” While you may think you are the same person, as time progresses you change. In some cases you are becoming more godly, with more wisdom and increasingly crucified flesh. In other ways, perhaps a sin pattern that you thought wasn’t a problem becomes a consuming reality and crushes you as God forces you to deal with this area of your life. However the process goes, you change. God loves us too much to let us stay the way we are.
As time progresses, we not only learn more about the nature of both man and God, but we also learn about other people and their actions and plans. In the market process, many of the variables we take as a starting point for equilibrium analysis (prices, costs, preferences) are determined only as the result of that process. We often don’t know what the prices are, and we don’t know how much an item will cost. The economic model we’ve been using assumes preferences are given and never need to be created, but that’s not necessarily true. We have incomplete information, and the lack of information is more than that we just need more time to search it out. In many cases the information we need may not be known, but will be created as the market process unfolds. For example, we may decide to undertake a production process, with certain expectations of complementary resource availability. We may want to increase the output of our farm, but are expecting fertilizer to be available at roughly the same price. But as the market process unfolds, we may find fertilizer prices have spiked because fossil fuel prices have risen dramatically (fertilizer is produced in part by fossil fuels).
Everyone’s individual plans are dependent upon a whole series of assumptions about other people’s plans—those plans may or may not “dovetail” in a coordinated fashion. Individual market participant’s plans are said to “dovetail” when they are all mutually compatible (i.e., all parties’ plans are possible to implement). This is always a matter of degree in a world of time and ignorance. For example, if two people both plan on expanding their farms by purchasing a retiring neighbor’s tractor—one of their plans (at least) is not going to be satisfied. Whoever does not purchase the tractor will be forced to adjust his or her plan; either forgo the expanded production or purchase a more expensive alternative tractor. In the real world of the market process, our plans must be continually revised and adjusted to fit the competing realities of a myriad of others’ plans.
Let’s go back to our dating game for a moment. If Bobby decides to ask Amelia out on a date, he may not know that Amelia was also asked out by Matt. Matt and Bobby’s plans are obviously not coordinated, and at least one of them is likely to be frustrated! Competition is a discovery process, as Matt and Bobby compete to discover Amelia’s underlying preferences. Indeed, Matthew and Bobby are not simply going to wait for her preferences to be made clear; rather, they will compete to shape her preferences— hopefully in favor of themselves! Markets are often no different, with firms aggressively trying to create a demand curve for their product. This is especially true in the dynamic markets of the real world, with unceasing innovation and new product introductions. What is the consumer’s preference for a product that has never been seen before? What was the demand curve for an iPad prior to its introduction? These unknowns cannot be solved by a traditional supply and demand analysis in isolation.
There is an equilibrating force in the market that tends to help individual plans work out in a coordinated fashion. As we will see, the market process provides the incentives necessary for someone to stand in the gap for the consumer. The entrepreneur steps in to coordinate plans by fulfilling the following market functions:
- Seeing a problem and stepping up to solve it—The entrepreneur is a problem solver, not just an observer of problems; this individual takes action.
- Appraising implications of changes in the data in the market—The entrepreneur is an appraiser of valuation.
- Seeing an opportunity to take advantage of differences in relative prices between resource prices and output—The entrepreneur is the alert arbitrageur.
- Taking risk by predicting uncertain future demand and positioning to meet it— The entrepreneur is a risk bearer on behalf of consumers.
- Creating new products and processes through innovation, often called creative destruction, where old processes and products are destroyed by competition and replaced by superior methods and goods.
It is worthwhile right up front to point out something that is not on the list of the entrepreneurial functions: providing capital to perform the other functions—problem solver, appraiser, alert arbitrageur, risk bearer, or creative destruction. The entrepreneur may or may not provide capital in the performance of these duties. Many real world entrepreneurs do commit significant amounts of their personal capital in support of these functions, but they don’t have to supply the necessary capital. Venture capitalists will often commit capital in support of good ideas from entrepreneurs, if they are given a large portion of any profits that are made (usually through an equity ownership stake).
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