Krugman Mangles Smith

by Gene Callahan

Here’s Paul Krugman, explaining the meaning of Adam Smith’s pin factory, and why it opposes Smith’s invisible hand metaphor:

“What may not be obvious is the way these two concepts [pin factory and invisible hand] stand in opposition to each other. The parable of the pin factory says that there are increasing returns to scale — the bigger the pin factory, the more specialized its workers can be, and therefore the more pins the factory can produce per worker. But increasing returns create a natural tendency toward monopoly, because a large business can achieve larger scale and hence lower costs than a small business. So in a world of increasing returns, bigger firms tend to drive smaller firms out of business, until each industry is dominated by just a few players.”

And, of course, this monopolistic competition wrecks the operation of the invisible hand, per Krugman. Continue reading