Market Equilibrium versus Market Process: Kirzner’s Competition & Entrepreneurship at 50

Not too long into their microeconomics courses, students encounter the model of ‘perfect competition.’ “To reach this highest form of competition,” one standard microeconomics textbook explains:

The student might ask how realistic these assumptions are. They might be told that this doesn’t matter; as Milton Friedman argued:

But if one doesn’t share this view of the proper nature of assumptions, the economist Israel Kirzner wrote;

This dispute is of more than academic interest. In his 1973 book Competition & Entrepreneurship, Kirzner wrote that “the dominant theory not only suffers from serious weaknesses as a vehicle for economic understanding, but has also…led to grievously faulty conclusions for economic policy.”

Perfect competition is an equilibrium model, but for Kirzner, what mattered was the process by which equilibrium was approached. “[I]n the approach to price theory underlying this book,” he wrote:

In a given period, some producers will find that they can sell more (less) than they plan at a given price and some consumers will find that they can purchase more (less) than they plan at a given price. Either way, “This newly acquired information concerning the plans of others can be expected to generate, for the succeeding period of time, a revised set of decisions.” “[E]ven without changes in the basic data of the market,” Kirzner writes:

Given continual changes in “the basic data of the market,” markets in process are a more useful subject of study than markets in equilibrium. The same critique extends to other equilibrium market models, such as ‘monopolistic competition.’

The standard focus on equilibrium over process has important ramifications for policy. “[A] state of equilibrium,” Kirzner writes, “does not permit activity designed to outstrip the efforts of others in catering to the wishes of the market,” which is competition; think of the entrepreneur acting on her “newly acquired information concerning the plans of others.” Instead, to equilibrium theorists, ‘competition’ refers:

Interventions in the market process justified on the mistaken notion that deviations from the ‘perfectly competitive’ equilibrium are necessarily anti-competitive can be harmful. “The efficiency of the price system…does not depend on the optimality…of the resource allocation pattern at the equilibrium,” Kirzner writes, “rather, it depends on the degree of success with which market forces can be relied upon to generate spontaneous corrections in the allocation patterns prevailing at times of disequilibrium.” Markets are more successful at generating these corrections than any other system.

This is only one facet of Kirzner’s short but profound book. Students will still benefit from reading it and doing so not too long into their courses.