Reading: Lesson 1 – The Marvel of the Market

 

Objectives:

Students will be able to…

• Understand that people respond to incentives and that positive and negative incentives influence behavior in predictable ways
• Identify that institutions, or “rules of the game”, influence the decisions people make
• Recognize that policies not only have immediate, direct impacts on identifiable groups, but also have long-term impacts on less visible groups
• Explain how orders emerge through the actions and interactions of individuals that could never be planned or designed
• Understand why no one person or group of people could possibly obtain the relevant information needed to plan an economy

 

Related Standards:

Standard 4: Incentives – People usually respond predictably to positive and negative incentives.

Standard 10: Institutions – Institutions evolve and are created to help individuals and groups accomplish their goals. Banks, labor unions, markets, corporations, legal systems, and not-for-profit organizations are examples of important institutions. A different kind of institution with clearly-defined and enforced property rights, is essential to a market economy.

 

Lesson 1 – The Marvel of the Market

 

Description:

In this lesson, students explore the themes of Leonard Read’s classic essay I, Pencil. By following the production of an ordinary pencil, Read’s story provides a simple yet elegant account of the wonders made possible by the market process. Through voluntary exchange, people can freely and peacefully cooperate and coordinate to achieve wonders that could never be made possible by deliberate, centralized planning.

Students will watch and discuss a brief video from the Competitive Enterprise Institute adapted from Leonard Read’s essay. Then students will participate in a classroom discussion with the questions provided, followed by reading the I, Pencil story in its entirety.

 

Time Required:

45 min

 

Required Materials:

Internet connection, writing instrument 

 

Prerequisites:

Module 3 – How Can Entrepreneurs Use Economics to Make Better Decisions?

 

6.1.A – Watch the following video and be prepared to answer the questions that follow [25 min]:

Video:(Competitive Enterprise Institute, 6:32 min)

A film from the Competitive Enterprise Institute, adapted from the 1958 essay by Leonard E. Read.

“Leonard E. Read (1898–1983) established the Foundation for Economic Education in 1946. For the next 37 years he served as FEE’s president and labored tirelessly to promote and advance liberty. He was a natural leader who, at a crucial moment in American history, roused the forces defending individual freedom and private property. Read was the author of 29 books and hundreds of essays. “I, Pencil,” his most famous essay, was first published in 1958. Although a few of the manufacturing details and place names have changed, the principles endure.”

 

Teacher Tip: Students may answer questions individually or as a classroom discussion.

Discussion Questions:  I, Pencil

1.  What do you think about the author’s claim that not a single person on the face of the earth has the knowledge required to make an ordinary pencil?

1. A vast and countless number of people had a hand in making the pencil through the contributions of their work and knowledge. The pencil is the result of a long line of individual contributions the author calls the pencil’s family tree.
2. Each member of this family tree supplies only a small amount of the necessary knowledge it takes to make a pencil.
3. “There isn't a single person in all these millions, including the president of the pencil company, who contributes more than a tiny, infinitesimal bit of know-how.”
4. The knowledge individuals have about the many processes required to make a pencil today builds upon the knowledge discovered by and passed down from those who have come before us. A pencil is the result of a symphony of human activity that spans the globe, and even spans across time.  

 

2.  Even if you did have the knowledge to make a pencil, would you spend your time doing so? Why or why not?

1. The opportunity cost of independently making your own pencil is very high. It would take an incredible amount of time and money just to get the necessary materials. Additionally, you would have to produce the tools and equipment necessary to obtain and transport the materials.
2. The wood comes from cedar trees in the Pacific Northwest. The metals that combine to form the ferule are mined from all different parts of the world. The ingredients for the rubber are sourced from across the globe as well. The graphite is mined in China and Sri Lanka.
3. Even if you knew exactly how to build a pencil it could take a single individual an entire lifetime to build one like you might find at your local store for less than a quarter. If you were to spend all of your time devoted to building a pencil from scratch, you would not have time for any of the other things you enjoy.

 

3.  How is it possible that you can buy a pencil for less than a quarter from your local store when it requires resources from around the globe and inputs from countless people to create?

1. We are all the “ignorant beneficiaries” of the intricacy and brilliance of the market process. In other words, without even knowing how or why, we all benefit immensely from specialization, division of labor, and gains from trade.
2. The market process allows us to focus on the things we are comparatively good at doing and then trading with others for the things we want and need. When we buy a pencil we are essentially trading a few minutes (or even seconds) of our time for all the minute fractions of time contributed by those who played a role in producing the pencil.  
3. Note: Adam Smith attributes the main cause of prosperity to increasing division of labor. In his famous example of manufacturing pins, Smith asserts that ten workers could produce thousands of pins per day if labor is divided into specialized tasks. In contrast, Smith explains that a worker would be lucky to produce even one pin per day if he or she is working independently.
4. Free markets of voluntary exchange permit for increased division of labor and specialization between large numbers of individuals who engage in trade.

 

4.  It takes an incredible amount of cooperation between people from around the world with very different wants and needs to make the story of I, Pencil possible.  Some of these people may not even like each other if they ever met. How is this cooperation made possible?

1. Free markets encourage and promote cooperation, peace, and harmony. It is advantageous for people to trade with one another for mutual benefit. People have good reasons to endorse common rules regarding social interactions that tend to promote prosperity. For this reason, as people interact voluntarily in the market, systems of order and cooperation emerge.
2. Language and culture are two important examples of the voluntary arrangements of cooperation in society that emerge as individuals interact with one another. Economist call these emergent systems “spontaneous orders” because they emerge without any central plan or deliberate design. Another important example of spontaneous orders that emerge as people interact freely over time are prices in the market.
3. A freely functioning system of market prices both reflects and encourages social cooperation.
4. Stable, enforceable rules also encourage cooperation. Chief among these is protection of private property.

 

5.  What is the “invisible hand” that is referenced in story of I, Pencil?

1. This is referenced in the story: “There is a fact still more astounding: the absence of a master mind, of anyone dictating or forcibly directing these countless actions which bring me into being. No trace of such a person can be found. Instead, we find the Invisible Hand at work.”
2. Adam Smith’s ‘invisible hand’ guides each of the thousands—perhaps even millions—of individuals to coordinate their behavior to produce our pencils. The invisible hand is not a thing, but a metaphor for the process from which order emerges without anyone designing the outcome ahead of time.
3. “For, if one is aware that these know-hows will naturally, yes, automatically, arrange themselves into creative and productive patterns in response to human necessity and demand—that is, in the absence of governmental or any other coercive masterminding.

 

6.  How are all of the countless people involved in the pencil’s family tree able to effectively coordinate where and when resources are needed if there is no central economic planner or mastermind directing the effort?

1. It is a functioning price system that allows for economic coordination to take place. Prices for the factors required in the production of a pencil emerge as buyers and sellers freely interact in the market. These prices reflect tiny bits of local knowledge in a complex and ever-changing market. Prices also incentivize buyers and sellers to economize resources and efficiently direct resources toward their highest and best use for serving the needs of consumers.  We can say that prices are incentives wrapped in knowledge.
2. Although there is no mastermind responsible for the entire production of a pencil, we can imagine that the entrepreneurs and employees at each stage of the process have individual plans about what they need to buy and sell for their business to remain profitable. The question is not whether or not there should be a plan. The question is who should do the planning. Should plans be made by some central mastermind? Or, should planning be left to individuals with specific, local knowledge of their needs and the situational factors that impact their decision?

 

7. If there was a central planner in full control of pencil production, what do you think would be the result? Why?

1. If there were a single person, board, or committee in full control of pencil production it is not likely that a pencil would ever get produced as effectively and inexpensively as it is today in the market. It is impossible for the central planner to access the local knowledge possessed by the millions of individuals in the pencil’s family tree. Each person has unique knowledge of his or her needs amidst constantly changing circumstances. Prices in the market economy result from this local knowledge; knowledge that can never be replicated by a central planner without market prices. This is why Nobel prize-winning economist F. A. Hayek called attempts at economic central planning as the “pretense of knowledge.”
2. The key to economic coordination is a functioning price system. To the extent that market prices are rejected or inhibited from emerging is the extent to which economic chaos can be expected.
3. Furthermore, it is unlikely we would experience many innovations as entrepreneurs compete to better serve their customers.

 

8. Many of the people involved with the creation of the pencil have no desire for the pencil itself. Some may have never seen a pencil. Others may not even know they are contributing to the creation of a pencil.  If they don’t want the actual pencil, why do the people in the pencil’s complex family tree work to create a pencil? What else might they want instead?

1. Most people working in myriad of processes required to ultimately make a pencil care little that the end result is a pencil. They are working for their self-interested goals. They want to earn a profit for their labor in order to afford to obtain the things they want and need.
2. Leonard Read eloquently writes, “Millions of human beings have had a hand in the creation of a pencil. Each of these millions sees that he can thus exchange his tiny know-how for the goods and services he needs or wants.”

9.  Why do you think the author chooses a pencil as the object around which to focus his story?  Does this story reflect how the world actually works? Would the same lesson apply to more complex products like cars, airplanes, or smartphones?

1. A pencil is a common, familiar, and seemingly simple object. Yet, the processes involved in creating this basic product quickly expands into a remarkably complex web inputs.
2. The same factors apply for producing the more complex things we want and need like food, health care, education, and entertainment.

 

 

6.1.B –  Read the following story in its entirety [20 min]:

Article: I, Pencil: My Family Tree - Leonard Reed (FEE.org)

“Not a single person in the world knows all the processes required to make a pencil and yet voluntary exchange enables hundreds of people to cooperate together in their production without any central direction.”

 

Lesson Recap

• Even a seemingly simple product like a pencil is the result of a symphony of human activity that spans the globe, and even spans across time.

 

• Even if you did have the knowledge to make a pencil, the opportunity cost of doing so is very high.

 

• We all benefit immensely from specialization, division of labor, and gains from trade, sometimes not even realizing it.

 

• A functioning price system allows for economic coordination to take place in a complex economy. Prices for the factors required in the production of a pencil emerge as buyers and sellers act on their localized knowledge through market exchanges.

 

• A freely functioning system of market prices both reflects and encourages social cooperation.

 

• It is impossible for the central planner to access the local knowledge possessed by the millions of individuals in the pencil’s family tree.

 

• Specialization allows for individuals to focus on a specific trade they are best at doing which increases efficiency, saves time, and increases overall wealth.

 

• Stable, enforceable rules also encourage cooperation. Chief among these is protection of private property.

 

 

Additional Resources

Video:(Competitive Enterprise Institute, 3:25 min)

 Through markets, when you buy a pencil you are helping people do things they value.  We are connected to people in distant places in ways that are unimaginable.

-       Art Carden, Assistant Professor of Economics at Samford University;

-       Deirdre McCloskey, Distinguished Professor of Economics, History, English and Communications at the University of Illinois at Chicago

-       Lawrence W. Reed, President of the Foundation for Economic Education

-       Walter E. Williams, John M. Olin Distinguished Professor of Economics at George Mason University

-       Other videos in the Extended Commentary series:

Video: 

Video: 

Video: 

 

 

Video: (Free to Choose Network, 2:25 min)

“Milton Friedman discusses the market forces involved in creating a single pencil.”

 

Video:  Thomas Thwaites: How I built a toaster — from scratch (TED.com, 10:48 min)

“It takes an entire civilization to build a toaster. Designer Thomas Thwaites found out the hard way, by attempting to build one from scratch: mining ore for steel, deriving plastic from oil ... it's frankly amazing he got as far as he got. A parable of our interconnected society, for designers and consumers alike.”

 

Article: Henry Ford and the Triumph of the Auto Industry by Burton Folsom (FEE.org)

“What was remarkable was that Ford grasped the implications of a horseless carriage and had the vision, perseverance, and ability to make cars for the multitude of Americans. Many experts scoffed at the car. Woodrow Wilson called it the “new symbol of wealth’s arrogance.” But Ford dreamed of improving its quality, cutting its price, and selling millions of them to average Americans all over the country.”

 

Video:by Chris Coyne (The Independent Institute, 44:32 min)

“Chris Coyne discusses institutions, spontaneous order, and the market process. Each individual pursues their ends, whatever those are, to the best of their ability. In other words they utilize the means that they know, that they think are the best to achieve their end.”

 

Article: Rinkonomics: A Window on Spontaneous Order by Daniel B. Klein (The Library of Economics and Liberty)

“The key to social order…is this coincidence of interest. I do not intend to promote your interest. I am not necessarily even aware of it. Still, by looking out for myself I am to that extent also looking out for you. My actions promote your interest.”

 

Article: The Reality of Markets by Russell Roberts (The Library of Economics and Liberty)

“There is a third category of experience – phenomena that are the product of human action and not human design.”