The Invisible Hand

The invisible hand is a metaphor for the unseen forces that move the free-market economy. Supporters of the invisible hand approach believe that if the economy is left alone, it will regulate itself in most cases.

Individual buyers and sellers will act according to what is in their own best interests. Their actions will result in correcting and improving the marketplace—As though an invisible hand directs the buyers and sellers to do exactly the right thing in the public interest and to boost the overall economy.

When an economy works under the concept of the invisible hand, shop owners choose which products they want to offer. Naturally, they're going to choose items that they believe have the best chance of selling. They may want their customers to be happy, but they're still primarily operating out of self-interest. The owners are selling those items because they want to make money. So, self-interest is the motivating factor.

Customers are likewise typically looking out for their self-interests. They don't want to waste their money on products that aren't right for them. They will purchase from a shop owner who stocks the items they like and offers them at reasonable prices. However, they will soon stop shopping at places that do not carry the merchandise that they want or that they feel are overcharging.

The self-interests of the buyer and seller determine the marketplace. When a savvy shop owner notices that certain items are no longer popular, they'll replace them with merchandise that's in demand. The buyer then rewards the shop owner by making purchases. The market becomes more efficient as buyers and sellers move in the same direction—as if directed by an invisible hand.

Why is the invisible hand important?

The concept of the invisible hand allows sellers the freedom to meet the demands of buyers. If a seller currently offers a product that us no longer popular, they have the option to switch to an item that customers are willing to purchase. They can also set their own prices for those products.

Conversely, buyers are free to bypass sellers who offer items in which they have no interest or that they feel are priced too high. They can choose to spend their hard-earned money only with sellers who are willing to offer them products that they want at a price they are willing to pay.

Both the supporters and critics of the invisible hand theory can influnce the way that nations tackle economic downturns. Some believe that if you leave market forces alone, it will help everyone. But some others argue that if you allow business owners great freedom, they'll behave in a manner that will harm more vulnerable people.

Those who believe in the invisble hand are more likely to favor a hands-off or laissez-faire approach by the government regardless of the condition of the economy. Those less inclined to put faith in Smith's invisible hand economic model tend to believe that government action can mitigate and even prevent national and local economic struggles such as recessions.

What is the history of the invisible hand?

The concept of the invisible hand dates back to 1776. It appeared in a famous book written by the Scottish philosopher Adam Smith entitled An Inquiry into the Nature and Causes of the Wealth of Nations. Often the title is shortened to The Wealth of Nations.

Smith's book appeared at a time when Europe and America were exploring the idea of giving a greater voice to the ordinary person. It was also a time when privileged people were using international trade and colonization to amass immense wealth.

Smith argued that free competition in the marketplace could serve as a defense against the rise of monopolies. Smith promoted the idea that would-be monopolies would fail so long as the public could buy products from whomever it pleased. In theory, if a company that sought to dominate an industry continued to offer inferior merchandise at exorbitant prices, the public would rebel. Customers would show their displeasure by fleeing to a competing business.

Smart businesses would react by offering quality products at reasonable prices. The market would punish the greedy business owner and reward the one who operated in a way that benefited all concerned.

Smith said that the buyer and seller are instinctively looking out for their own gain, but by doing so are inadvertently improving the overall economy. He said that it was as if they are being guided in the right direction by an invisible hand.