ECON1101 - The Invisible Hand

The Invisible Hand Theory is the term used to describe the self-regulating nature of the marketplace.

It essentially says that with people independently buying and selling what they want to for their own self-interest, the market eventually settles on a price/distribution system that provides the socially optimal allocation of resources

Allocative Function (of Price)

Price can be used to direct resources away from overcrowded markets and towards underpopulated markets

Rationing Function (of Price)

Price can be used to distribute (scarce) goods to consumers who value them most

Profit Motive in Competitive Market

The motive for profit means that:

  • Everybody produces at the level which minimises Average Total Cost
  • Resources are allocated to production of goods and services which consumers value most.