Part I: Why do so few understand it?
The real problem with socialism, whether of the centrally planned or of the “democratic” type, is that it is not a market system. That statement gives me great pleasure and provides me with some appreciated entertainment. It gives me pleasure because it is true and provides entertainment for me because it requires explanation.
Socialists rarely have a solid understanding of the rather straightforward concepts of market economics. They are not the only ones, of course. By definition, socialists are hostile to the notion of free minds and free markets and hardly ever refer to “market economics”. Rather, they characterize the market system as “capitalism,” a term derived from the ideas of Marx’s das Kapital and one that they perceive to be an epithet rather than a simple descriptor. But the market system has some most beneficial characteristics that can be credited for much of the material abundance our planet has to offer.
We should all understand how markets work. Unfortunately, the economics profession has done too little to get the word out to the public on even the most basic aspects of the discipline. I can understand this, of course, since when I as a student learned the first principles of economics, I had no particular feeling for markets. Learning about how they functioned was like trying to get a grasp on the periodic table of elements for a chemistry class. I didn’t come really to perceive the positive characteristics of markets until some years later when I was living in a centrally planned economy and experiencing what happens when markets are not employed in the economic system. In hopes that people might be more perceptive than I was as a college student, I proceed on the conviction that a few lines on how the market system functions should be useful.
It was Adam Smith who first perceived the significance of individuals engaging in informal commercial transactions that made it possible for them, their families and their societies to subsist in prosperity. Through time, a number of fairly complex institutions grew up around the efforts of individuals to engage successfully in “the ordinary business of life.” That expression was the definition of the great Victorian economist, Alfred Marshall, of his chosen discipline. That ordinary business is rendered fruitful through the specialization and division of labor that Smith found to be the core of market economics. But the reasons capitalism tends to produce economic growth and wealth also include the positive incentives that are an intrinsic part of the market system. Many people in a given society will be inclined to work hard, study hard, and be creative in order to achieve a secure and financially sound life. We tend to look with suspicion on “materialistic” motives (despite the fact that we all pursue them), but where they are nonexistent, poverty and want prevail. In the centrally planned economies, for example, highly-prized economic equality was achieved admirably. Managers of large business enterprises made scarcely more money than the janitor on the shop floor. So there was a high degree of equality in a society that otherwise produced little more than poverty. Lacking the general social response to the powerful incentives of markets, the economy never could function effectively. Where the government steps in to come down hard on avarice, it also comes down hard on productivity.
So a market economy is really just about producing to satisfy the acquisitive desires of productive people. Life is, of course, much more than just work and income. But once work has assured an acceptable income, we still have time in our lives to pursue the other activities that can make life truly rewarding. Those other things are what we do when we are not at work eliminating poverty. And in a healthy market society there is plenty of room for charitable endeavor, cultural expression, religious participation, civic participation, sports, educational pursuits, and on and on. When the socialist government steps in with its youth (indoctrination) program and other mandated programs, exerting control over all the aspects of life it can manage, society is quite sterile indeed. I have had many experiences, both alone and with my family, in the formerly communist countries of East Europe and the Soviet Union. Marxist socialism was a failure in economic terms and did little better in terms of the social and cultural effects it produced. I write of some of these in my book, Socialism, and can assure the reader that a free society is the only place you want to live.
Part II: But How Do Markets Work?
Seeking to improve their situation in life, many individuals are willing to work hard to produce and enjoy greater wealth. The pursuit of self-interest is to enhance the well-being of all. Smith wrote: “It is not from the benevolence of the butcher, or the baker, that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their self love, and never talk to them of our own necessities but of their advantages. Nobody but a beggar chuses (sic) to depend chiefly upon the benevolence of his fellow-citizens.” This process is not limited to single communities or even to the nation state; it implies international trade and ultimately even economic integration in pursuit of the economic growth it makes possible.
It’s quite simple, really, why a free market works. Individuals must produce or purchase things essential for themselves and their families to subsist. As they discover that they can produce some commodity effectively, they realize that someone might be interested in an exchange of some other vital item for the commodity they are producing. Or someone else might willingly purchase that commodity, thus permitting the purchase of needed goods and services. If no outside parties interfere in the process, an individual offers to passing travelers, say, food for their journey.
The traveler will likely find the offer of a potential trading partner an auspicious one and will be pleased that he got what he purchased at a reasonable price. The seller will likewise probably find the transaction beneficial and agreeable. Neither is forced into the exchange – there is rarely both a big winner and an exploited loser in free transactions – since either buyer or seller is free to walk away if the deal is an unfair one.
Lenin, famed for his total conviction and commitment to Marxism, expressed the contrasting socialist view this way; the only question about each market transaction is “kto kogo?” The translation is “who whom?” a brief sentence equipped with everything but a verb. The question is “who exploits whom,” “who rips off whom?” “who cheats whom?” “who does a number on whom?” and so on. The verb didn’t need to be expressed, since all good Marxists understand exactly what is happening when a member of the bourgeoisie is dealing with someone from the proletariat. (At least the Russians get the who and whom correct grammatically, which is something that
would not likely happen in the United States. Here, journalists appear not to perceive when to use “who” and when “whom”. But enough of the terribly complex linguistics subtleties; my point is that Marx and Lenin were flat-out wrong. Commercial life is not as Marxian pessimism perceives it: there is not an exploited party in every transaction.
Part III: Benefits of Competitive Markets
A great advantage of the market system is that it requires no external controls to function. No government is necessary to manage the day-by-day activities of buyers and sellers, but only to enforce contracts and maintain basic law and order in the production and sales of commodities and services. Markets function with an automaticity that is most beneficial to the social order. To demonstrate how markets function automatically when buyers and sellers transact a purchase, or sale, a chapter early in my book on socialism describes the nature of market supply and demand. Without the use of mathematics, or even of the inevitable supply and demand curves of an introductory college course in economics, the book describes markets in which expansion occurs in response to strong demand for a given good. Market expansion normally causes prices to rise and profits to appear.
The existence of net revenues is a signal for new firms to enter the market and share the profits. The growth in numbers of firms will increase the supply and cause the price to fall to a level where only enough profit is earned, i.e., a “normal” profit, to cover all costs, including a market rate of return to the manager and the owner or stockholder. This market groping for the truly just price is an automatic feature of free entry into the growing market. Symmetrically, an automatic adjustment occurs when the overall market demand is declining.
Where losses in an industry occur, perhaps because demand and the market price are declining, firms will begin to exit the industry. The resultant reduction in supply will cause the price to stabilize; although it could ultimately rise again, no more than a normal profit can be expected in the long term. All this occurs to the general well-being of the firm, its workers, and its consumers.
Market activity is expressive of personal freedom, creative productivity in response to perceived wants, and exchange that benefits both buyer and seller. A successful seller and natural entrepreneur will inevitably organize a few of his neighbors as workers in a firm. Large-scale production and specialization and division of labor may enhance the productivity of the group substantially. And what motivates the members of this fledgling firm? If they are productive and can keep costs down, through greater sales they can generate significant revenues which can become a source of general well-being for all involved.
Part IV: Socialist Pessimism Regarding Markets
At this point the socialist mind perceives only the potential for great evil. What if the capitalist manager can find in his heart no good will for his neighbors as they become his hired helpers? Surely, he will be so money-hungry and money-grabbing that he will pay them only an unjust fraction of the earnings their products or services produce. Surely, in the haste to build an industrial empire he will force his laborers to work long hours in hazardous and environmentally detrimental conditions! When a gay couple enters the establishment to order a wedding cake, this blossoming robber baron will decline on the basis of prejudice to provide the cake. Consumers who get a wedding cake, other bakery goods, or any other commodity will be forced to pay exorbitant amounts. Once established, the producer will obviously form a monopoly by reducing his prices just long enough to drive all of his competitors out of business. Then, of course, the prices will go back up higher than ever to enrich the monopolist. Karl Marx proved, so the Marxists suppose, that all these things are inevitable and must irrevocably persist until the starving workers end the evil in a revolutionary bloodbath. Where Marx went wrong is explained at length on the basis of the analysis of numerous great minds who have rejected Marxism root and branch. Marx went wrong historically in that his predictions never came to pass. And his view of history has helped historians neither reach a realistic understanding of how the world should work nor to make successful predictions about how societies actually function.
But What about Evil Markets and Evil Capitalists?
Socialists will still worry that the conditions mentioned in the previous paragraph will ultimately be realized. They will then attempt to convince all voters that it is time for government to step in and put a stop to the abuses of the capitalists. (“Communists” would, of course, prefer a revolution to a ballot-box victory.) It is true, of course, that some capitalists really are greedy and dishonest. For them, we must have a government to enforce contracts and police efforts to thwart cheating. At the same time, history taught the capitalists over the past century or so that profits can be made without underpaying workers and overcharging consumers. Scholarly and prescient observers (although such cannot be said, perhaps, either of socialists or of governments) gradually discovered that the saving grace of market activity is competition. If monopoly (which is characterized by a single seller) is avoided through good policy, and if monopsony (a market characterized by a single buyer, such as a firm that is the only buyer of labor in a given area) is likewise avoided, workers and buyers will have choices so that their business cannot be monopolized.
If there are free choices, the gay couple seeking a wedding cake can simply purchase elsewhere. In spite of the politically correct views of so many 
contemporaries, the freedom of the bigoted cake baker to choose his transactions partners should be honored as a traditional freedom of the market system. A free society values the freedom of all citizens, both the saints and the bigots. If the prejudiced producer wants to lose the business of the gay cake consumers, his business will be less profitable and his disappointing bottom line will be sufficient punishment. (My book on socialism reviews much of the discussion on liberty that has gone on through the course of the history of socialism’s failure.) Of course, if society’s hatred for haters becomes sufficiently intense, the socialist solution may be preferable. Society will then punish the hater by dispatching him to the guillotine, which will make the world a more loving place. (I discussed the loving and loathing of socialism in a previous blog.)
Where monopoly power threatens the happy outcomes of competitive markets, wise policies can discourage monopoly power. It can do so, for example, by opening markets to new entrants from other geographic regions. Moreover, even anti-trust activities might be helpful in some cases.
If government activism and market interventionism persist long enough, however, markets may reflect anything but the benefits of competitive performance. The U.S. health care system, which is somewhere between Obama and Trump at this writing, is a clear example of the harm that increasing encroachment by bureaucratic forces can wield over time against public welfare.