Henry Farrell writes that “Hayek argues that markets are superior because they allow the ‘dispersed bits of incomplete and frequently contradictory knowledge which all the separate individuals possess’ to be aggregated in a useful way.” He then faults Hayek for failing to acknowledge a key limitation of the price mechanism: its tendency to “destroy” knowledge in the process of defining standardized commodities. In attributing to Hayek the view that “markets are superior,” Farrell conspicuously fails to mention: superior to what? This omission allows Farrell to construct a curious straw man of Hayek’s views, suggesting that Hayek championed large-scale commodity markets over smaller-scale markets that employed more local knowledge. Although it’s possible Hayek staked out this position somewhere in his voluminous writings, it’s certainly nowhere to be found in the famous essay Farrell linked to.
That essay, “The Use of Knowledge in Society,” critiques the tendency among economists to treat economic information as “given” to centralized decision-makers. He explains the working of the price system as a counter-example to this “high modernist” conceit. It’s true, of course, that the price mechanism selectively discards some knowledge in the process of aggregating and transmitting other knowledge. But this isn’t a special flaw of the price mechanism. It’s inherent to all economic processes that involve more than one human being. All economic actors transmit information to others in simplified, standardized ways that communicate the information they regard as most important and discard information they regard as less important. It’s true, of course, that some international commodity markets tend to be particularly ruthless in this respect, but I see no reason to interpret Hayek as championing this type of market in particular. The small-scale Italian tomato markets Farrell lauds here are markets, and Hayek’s arguments apply with at least as much force to them as they do to the international agricultural commodity markets Scott is criticizing.
Indeed, Hayek is quite explicit about the fact that the price mechanism is just one example of a bottom-up social institution that facilitates large-scale cooperation. Beginning with a line from Alfred North Whitehead, Hayek wrote:
“Civilization advances by extending the number of important operations which we can perform without thinking about them.” This is of profound significance in the social field. We make constant use of formulas, symbols, and rules whose meaning we do not understand and through the use of which we avail ourselves of the assistance of knowledge which individually we do not possess. We have developed these practices and institutions by building upon habits and institutions which have proved successful in their own sphere and which have in turn become the foundation of the civilization we have built up. The price system is just one of those formations which man has learned to use (though he is still very far from having learned to make the best use of it) after he had stumbled upon it without understanding it.
Clearly, Hayek’s point is not that the price system is superior to other decentralized social institutions. Rather, he’s pointing out that all successful large-scale cooperative efforts involve standardization, which necessarily means discarding some potentially relevant knowledge in the process of codifying other knowledge deemed more important. The important question is not whether to standardize in this way, it’s deciding how, and how much to standardize. Too little standardization means missing out on opportunities for economies of scale and the division of labor. Too much standardization means discarding information that consumers actually care about, leading to the infamous rubber tomatoes of standardized agriculture. And the wrong kind of standardization—discarding important information while preserving trivial information—is doomed regardless of the degree of standardization.
What makes decentralized economic institutions powerful isn’t standardization but the possibility for competition among alternative standardization schemes. Rubber tomatoes create an entrepreneurial opportunity for firms to establish a more exacting tomato standard and deliver tastier tomatoes to their customers. In real markets, you see competition not only among individual firms but among groups of firms using alternative standards. Markets gradually converge on the standards that are best at transmitting relevant information and discarding irrelevant information. In contrast, when standards are set by the state, or by private firms who have been granted de facto standard-setting authority by government regulations, there is no opportunity for this kind of decentralized experimentation. Then the market is likely to be permanently stunted by the use of a standard that does a poor job of transmitting the information consumers care about most.
To return to the theme of my last post, this process of competitive standards-setting is by no means limited to the market setting. The web browsers we all used to retrieve this article conform to a variety of technical standards, including TCP/IP, HTTP, and HTML. Just as commodity standards work by making heroic simplifying assumptions about agricultural products, so Internet standards make heroic simplifying assumptions about the behavior of our computers and software. This suite of now-dominant protocols emerged from an intense process of inter-standard competition during the 1980s and 1990s. This competitive standardization process is not a market process—accessing a web page is not a financial transaction—but it is very much a Hayekian one.
So Farrell’s critique of Hayek strikes me as something of a straw man. To my knowledge, Hayek never claims that “markets are superior” to other bottom-up social processes such as those defended by Scott, Jane Jacobs, and others in their writings. Rather, he offered markets and the price mechanism as a particularly compelling example of the superiority of decentralized economic institutions over centralized, “high modernist” schemes for economic rationalization. Although Scott specifically declines to endorse Hayek’s policy agenda, I think Seeing Like a State is squarely within the Hayekian intellectual tradition.