Editing Invisible hand (section)

== Criticisms ==

===Joseph E. Stiglitz===
The [[Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel|Nobel Prize]]-winning economist [[Joseph E. Stiglitz]], says: "the reason that the invisible hand often seems invisible is that it is often not there."<ref>The Roaring Nineties, 2006</ref><ref name=HAND1>[http://blogs.iht.com/tribtalk/business/globalization/?p=177 ALTMAN, Daniel. ''Managing Globalization.'' In: ''Q & Answers'' with Joseph E. Stiglitz, Columbia University and ''The International Herald Tribune'', October 11, 2006 ] {{webarchive|url=https://web.archive.org/web/20090626040606/http://blogs.iht.com/tribtalk/business/globalization/?p=177 |date=June 26, 2009 }}</ref> Stiglitz explains his position:

{{quote|Adam Smith, the father of modern economics, is often cited as arguing for the "invisible hand" and [[free market]]s: firms, in the pursuit of profits, are led, as if by an invisible hand, to do what is best for the world. But unlike his followers, Adam Smith was aware of some of the limitations of free markets, and research since then has further clarified why free markets, by themselves, often do not lead to what is best. As I put it in my new book, [[Making Globalization Work]], the reason that the invisible hand often seems invisible is that it is often not there. Whenever there are "[[externalities]]"—where the actions of an individual have impacts on others for which they do not pay, or for which they are not compensated—markets will not work well. Some of the important instances have long understood environmental externalities. Markets, by themselves, produce too much pollution. Markets, by themselves, also produce too little basic research. (The government was responsible for financing most of the important scientific breakthroughs, including the internet and the first telegraph line, and many bio-tech advances.) But recent research has shown that these externalities are pervasive, whenever there is imperfect information or imperfect risk markets—that is always.  Government plays an important role in banking and securities regulation, and a host of other areas: some regulation is required to make markets work. Government is needed, almost all would agree, at a minimum to enforce contracts and property rights. The real debate today is about finding the right balance between the market and government (and the third "sector" – governmental non-profit organizations). Both are needed. They can each complement each other. This balance differs from time to time and place to place.<ref name="HAND1"/>}}

The preceding claim is based on Stiglitz's 1986 paper, "Externalities in Economies with Imperfect Information and [[Incomplete Markets]]",<ref>{{cite journal | last2 = Stiglitz | first2 = Joseph E.| last1 = Greenwald | first1 = Bruce C. | title = Externalities in economies with imperfect information and incomplete markets | journal = [[Quarterly Journal of Economics]] | volume = 101 | issue = 2 | pages = 229–64 | publisher = [[Oxford University Press]] | date = May 1986 | jstor = 1891114 | doi = 10.2307/1891114 | doi-access = free }} ([http://socsci2.ucsd.edu/~aronatas/project/academic/Stiglitz%20Greenwald.pdf PDF; 853 kb])</ref> which describes a general methodology to deal with externalities and for calculating [[Optimal tax|optimal corrective taxes]] in a general equilibrium context. In it he considers a model with households, firms and a government.

Households maximize a utility function <math>u^{h}(x^{h}, z^{h})</math>, where <math>x^{h}</math> is the consumption vector and <math>z^{h}</math> are other variables affecting the utility of the household (e.g. pollution). The budget constraint is given by <math>x^{h}_{1}+q \cdot \bar{x}^{h}\leq I^{h}+\sum a^{hf} \cdot \pi^{f}</math>, where q is a vector of prices, a<sup>hf</sup> the fractional holding of household h in firm f, π<sup>f</sup> the profit of firm f, I<sup>h</sup> a lump sum government transfer to the household. The consumption vector can be split as <math>x^{h}=\left( x^{h}_{1}, \bar{x}^{h} \right)</math>.

Firms maximize a profit <math>\pi^{f}=y^{f}_{1}+p\cdot \bar{y}_{1}</math>, where y<sup>f</sup> is a production vector and p is vector of producer prices, subject to <math>y^{f}_{1}-G^{f}(\bar{y}^{f}, z^{f}) \leq 0</math>, G<sub>f</sub> a production function and z<sup>f</sup> are other variables affecting the firm. The production vector can be split as <math>y^{f}=\left( y^{f}_{1}, \bar{y}^{f} \right)</math>.

The government receives a net income <math>R=t \cdot\bar{x}-\sum I^{h}</math>, where <math>t=(q-p)</math> is a tax on the goods sold to households.

It can be shown that in general the resulting equilibrium is not efficient.

:{| class="toccolours collapsible collapsed" width="90%" style="text-align:left"
!Proof
|-
|It is worth keeping in mind that an equilibrium for the model may not necessarily exist. If it exists and there are no taxes (I<sup>h</sup>=0, ∀h), then demand equals supply, and the equilibrium is found by:

<math>\sum \bar{x} ^{h} (q,I,z) - \sum \bar{y}^{f}(p,z)=\bar{ x } (q,I,z) - \sum \bar{y}^{f}(p,z)=0</math>

Let us use <math>\frac{\partial E^{h}}{\partial q}=E^{h}_{q}</math> as a simplifying notation, where <math>E^{h}\left( q, z^{h}, u^{h} \right)</math> is the expenditure function that allows the minimization of household expenditure for a certain level of utility. If there is a set of taxes, subsidies, and lump sum transfers that leaves household utilities unchanged and increase government revenues, then the above equilibrium is not Pareto optimal. On the other hand, if the above non taxed equilibrium is Pareto optimal, then the following maximization problem has a solution for t=0:

: <math>\begin{align}
&\underset{t,I}{\operatorname{maximize}}& & R = t \cdot \bar{ x } - \sum I^{h} \\
&\operatorname{subject\;to}
& & I^{h}+\sum a^{hf} \pi ^{f} =E^{h} (q,z^{h}; \bar{u}^{h}) \\
\end{align}</math>

This is a necessary condition for Pareto optimality. Taking the derivative of the constraint with respect to t yields:

<math>\frac{dI^{h}}{dt}+\sum a^{hf}\left( \pi^{f}_{z} \frac{dz^{f}}{dt}+\pi^{f}_{P} \frac{dp}{dt} \right)=E^{h}_{q} \frac{dq}{dt}+E^{h}_{z} \frac{dz^{h}}{dt}</math>

Where <math>\pi^{f}_{z}=\frac{\partial \pi^{f}_{*}}{\partial z^{f}}</math> and <math>\pi^{f}_{*}(p,z^{f})</math> is the firm's maximum profit function. But since q=t+p, we have that dq/dt=I<sub>N-1</sub>+dp/dt. Therefore, substituting dq/dt in the equation above and rearranging terms gives:

<math>E^{h}_{q}+\left( E^{h}_{q} - \sum a^{hf} \pi^{f}_{P} \right)\frac{dp}{dt}=\frac{dI^{h}}{dt}+\left\{ \sum a^{hf} \pi^{f}_{z} \frac{dz^{f}}{dt} -E^{h}_{z} \frac{dz^{h}}{dt} \right\}</math>

Summing over all households and keeping in mind that <math>\sum a^{hf}=1</math> yields:

<math>\sum E^{h}_{q}+\left(\sum E^{h}_{q} - \sum \pi^{f}_{P} \right)\frac{dp}{dt}=\sum \frac{dI^{h}}{dt}+\left\{\sum \pi^{f}_{z} \frac{dz^{f}}{dt} -\sum E^{h}_{z} \frac{dz^{h}}{dt} \right\}</math>

By the [[envelope theorem]] we have:

<math>\widehat{ x }^{h}_{k}(q;z^{h},u^{h})  = \left. \frac{\partial E^{h}}{\partial q}\right|_{z^{h},u^{h}}</math>

<math>\left. \frac{\partial \pi^{f}_{*}}{\partial p_{k_{1}}}\right|_{z^{f}}=y^{f}_{k}</math>;∀k

This allows the constraint to be rewritten as:

<math>\bar{x} + \left( \bar{ x } - \bar{ y } \right)\frac{dp}{dt}=\sum\frac{dI^{h}}{dt}+\left( \sum\pi^{f}_{z}\frac{dz^{f}}{dt} - \sum E^{h}_{z} \frac{dz^{h}}{dt} \right)</math>

Since <math>\bar{x}=\bar{y}</math>:

<math>\sum \frac{dI^{h}}{dt}= \bar{ x } - \left( \sum \pi^{f}_{z} \frac{dz^{f}}{dt} - \sum E^{h}_{z} \frac{dz^{h}}{dt} \right)</math>

Differentiating the objective function of the maximization problem gives:

<math>\frac{dR}{dt}= \bar{ x } + \frac{d\bar{x}}{dt} \cdot t - \sum \frac{dI^{h}}{dt}</math>

Substituting <math>\sum \frac{dI^{h}}{dt}</math> from the former equation in to latter equation results in:

<math>\frac{dR}{dt}= \frac{d\bar{x}}{dt} \cdot t +(\sum \pi ^{f}_{z} \frac{dz^{f}}{dt} - \sum E^{h}_{z} \frac{dz^{h}}{dt}) =\frac{d\bar{x}}{dt} \cdot t +(\Pi^{t} - B^{t})</math>

Recall that for the maximization problem to have a solution a t=0:

<math>\frac{dR}{dt} = \left( \Pi^{t} - B^{t} \right) = 0</math>

In conclusion, for the equilibrium to be Pareto optimal dR/dt must be zero. Except for the special case where Π and B are equal, in general the equilibrium will not be Pareto optimal, therefore inefficient.
|}

===Noam Chomsky===
{{See also|Equity home bias puzzle}}
[[Noam Chomsky]] suggests that Smith (and more specifically [[David Ricardo]]) sometimes used the phrase to refer to a "home bias" for investing domestically in opposition to [[offshore outsourcing]] production and [[neoliberalism]].<ref name="ChomskySmith">"[http://www.chomsky.info/articles/20110824.htm American Decline: Causes and Consequences]" Noam Chomsky</ref>
{{quote|Rather interestingly, these issues were foreseen by the great founders of modern economics, Adam Smith for example. He recognized and discussed what would happen to Britain if the masters adhered to the rules of sound economics – what's now called neoliberalism. He warned that if British manufacturers, merchants, and investors turned abroad, they might profit but England would suffer. However, he felt that this wouldn't happen because the masters would be guided by a home bias. So as if by an invisible hand England would be spared the ravages of economic rationality. That passage is pretty hard to miss. It's the only occurrence of the famous phrase "invisible hand" in ''Wealth of Nations'', namely in a critique of what we call neoliberalism.<ref>{{cite web|url=https://chomsky.info/20110407-2/|title=The State-Corporate Complex: A Threat to Freedom and Survival}}</ref>}}

===Stephen LeRoy===
Stephen LeRoy, professor emeritus at the University of California, Santa Barbara, and a visiting scholar at the Federal Reserve Bank of San Francisco, offered a critique of the Invisible Hand, writing that "The single most important proposition in economic theory, first stated by Adam Smith, is that competitive markets do a good job allocating resources. (...) The financial crisis has spurred a debate about the proper balance between markets and government and prompted some scholars to question whether the conditions assumed by Smith...are accurate for modern economies.<ref>{{cite web|url=http://www.frbsf.org/publications/economics/letter/2010/el2010-14.html|title=Is the 'Invisible Hand' Still Relevant?}}</ref>

===John D. Bishop===
John D. Bishop, a professor who worked at Trent University, Peterborough, indicates that the invisible hand might be applied differently to merchants and manufacturers from how it is applied with society. He wrote an article in 1995 titled "Adam Smith's Invisible Hand Argument", in which he suggests that Smith might be contradicting himself with the "Invisible Hand". He offers various critiques of the "Invisible Hand", and he writes that "the interest of business people are in fundamental conflict with the interest of society as a whole, and that business people pursue their personal goal at the expense of the public good". Thus, Bishop indicates that the "business people" are in conflict with society over the same interests and that Adam Smith might be contradicting himself. According to Bishop, he also gives the impression that in Smith's book 'The Wealth of Nations,' there's a close saying that "the interest of merchants and manufacturers were fundamentally opposed of society in general, and they had an inherent tendency to deceive and oppress society while pursuing their own interests." Bishop also states that the "invisible hand argument applies only to investing capital in one's own country for a maximum profit." In other words, he suggests that the invisible hand applies to only the merchants and manufacturers and that they're not the invisible force that moves the economy. He contends the argument "does not apply to the pursuit of self-interest (...) in any area outside of economic activities".<ref>{{cite journal |last=Bishop |first=John D. |date=March 1995 |title=Adam Smith's invisible hand Argument |journal=Journal of Business Ethics |volume=14 |issue=3 |pages=165–180|doi=10.1007/BF00881431 |s2cid=153618524 }}</ref>

=== Thomas Piketty ===
French economist [[Thomas Piketty]] notes that although the Invisible Hand does exist and thus that economic imbalances correct themselves over time, those economic imbalances may lead to an extended unoptimal utility, which could be solved thanks to non-commercial processes. He takes for instance the cases of real estate of which imbalances may last decades,<ref>{{Cite book |last=English. |first=Summary of (work): Piketty, Thomas, 1971- Capital au XXIe siècle. |url=http://worldcat.org/oclc/959281047 |title=Summary of Capital in the twenty-first century by Thomas Piketty |date=June 6, 2016 |publisher=Instaread Summaries |isbn=978-1-68378-328-2 |oclc=959281047}}</ref> and of the [[Great Famine (Ireland)|Great Famine of Ireland]], which could have been avoided by shipments of food from Great Britain to areas in crisis without waiting for new bread producers to come.<ref>{{Cite book |last=Piketty |first=Thomas |url=http://worldcat.org/oclc/1266228694 |title=Capital and Ideology |date=August 14, 2023 |isbn=978-0-674-24507-5 |pages=293 |publisher=Harvard University Press |language=en |oclc=1266228694 |quote=On se refusa de planifier [le] transfert immédiat [de nourriture] vers les zones de détresse, en partie au motif qu'il fallait laisser l'augmentation des prix jouer son rôle de signal et inciter ainsi les détenteurs de réserves de grains à répondre à cette demande par le biais des forces de marché.|trans-quote=They refused to send shipments of food to areas in crisis, partly for letting price increase work as a signal and incentivize bread holders to respond to this demand through market forces.}}</ref>