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:

…a market must have two characteristics: (1) the goods offered for sale are all exactly the same, and (2) the buyers and sellers are so numerous that no single buyer or seller has any influence over the market price.

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

A hypothesis is important if it “explains” much by little, that is, if it abstracts the common and crucial elements from the mass of complex and detailed circumstances surrounding the phenomena to be explained and permits valid predictions on the basis of them alone. To be important, therefore, a hypothesis must be descriptively false in its assumptions.

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

…this must render the model of perfect competition far less useful than the standard microeconomics textbooks appear to believe. The model cannot be used to “explain” market prices; the model presumes that everyone has, somehow, correctly and self-fulfillingly guessed what the market price is going to be. The circumstances that (quite apart from the assumed correctness of the anticipated prices) the model treats each market participant as a price-taker further underscores the uselessness of the model as an explanation for the manner in which prices are adjusted.

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:

…we look to [it] to help us understand how the decisions of individual participants in the market interact to generate the market forces which compel changes in prices, in outputs, and in methods of production and the allocation of resources.

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:

…(i.e., in consumer tastes, technological possibilities, and resource availabilities), the decisions made in one period of time generate systematic alterations in the corresponding decisions for the succeeding period. Taken over time, this series of systematic changes in the interconnected network of market decisions constitutes the market process.

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:

…to a state of affairs into which so many competing participants have already entered that that no room remains for additional entry (or other modifications of existing market conditions)…[B]y referring to the situation in which no room remains for further steps in the competitive market process, [competition] has come to be understood as the very opposite of the kind of activity of which that process consists. Thus…any real-world departure from equilibrium conditions came to be stamped as the opposite of “competitive” and, hence, by simple extension, as actually “monopolistic.”

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.



Social choice theory analyzes under which conditions the preferences and values of different individuals can (or cannot) be transformed into social preferences and values capable of legitimizing collective choices. With his famous Impossibility Theorem, Nobel economist Kenneth Arrow was the main founder of this field o...

Read More

An interesting blog post by Jordan Schneider and Irene Zhang linked to an article in Macro Polo discussing the global distribution of AI talent.  The graph below is based on the following definition in the Macro Polo article: We created a unique and rich dataset of researchers with papers accepted at NeurIPS 2019, ...

Read More

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: …a market must have two characteristics: (1) the goods offered for sale are all exactly the same, and (2) the bu...

Read More