Resource allocation follows a series of steps that take place over a production - consumption period. Since the production and consumption processes are already in operation, there are initial conditions of labor with certain qualifications, land and production functions.
Starting from an arbitrary point in time, we find consumers with medium of exchange and a budget, a stock of land and a set of labor qualifications. They also have a set of promises that they have made concerning their future expenditures of medium of exchange.
Similarly, producers, at an arbitrary point in time, have a stock of medium of exchange and a budget, a stock of land and production functions. They also have a set of promises that they have made concerning their future expenditures of medium of exchange. Producers do not own labor but they have made promises with natural persons who will provide labor.
Natural persons enter the consumer market and exchange medium of exchange for their budget priorities until they meet them or run out of medium of exchange. This is the final demand which drives the production process. The medium of exchange now is in the hands of producers.
The producers enter the production market, exchanging medium of exchange for qualified labor, land and production functions needed for the next period of production.
At the end of the production period, medium of exchange is back in the hands of the consumers and they can enter a consumption period.
During the production and consumption period new promises have been made, old promises are fulfilled and some promises are not carried out. Failed promises are the core of the business cycle and result in bankruptcy, reduced earnings, and if on a large enough scale, depressions and recessions.
Natural persons want to invest in training that produces the most consumption items for the least effort. All persons who want to work at market prices for their skill and ownership qualifications will be satisfied. Wages should remain relatively constant but there should be falling prices for land and services that are improved by innovation. Entrepreneurs will be seeking profits and, by their actions, aligning the wishes of the consumers with those of the producers.
If a disaster occurs, resources for lower priority items in the budget will be not be consumed as those resources are shifted to higher priority needs. Entrepreneurial effort will realign the new resource distribution.
Entrepreneurs are constantly seeking to find out if unemployed resources can be used profitably. To do this calculation there is a requirement for information and the permission to act on it. If either of these factors is missing then opportunities to better satisfy consumer needs are lost.
Elites can gain control of the state and use its police powers to convert resources to their use, contraviening the transactions that would have been made in a volunary exchange economy. This misallocation of resouces creates social strife, lost production and unemployment.
Labor of particular skills could be unemployed or underemployed because land of suitable quality is not available for them to work on or use as a tool. For example, if a shovel is not available, a laborer can not dig a ditch. If bricks and mortar are not available a mason can not build a wall. If the end result is profitable, then it is an information problem of locating the missing complementary factors of production. If the factors are not available, then it is marginal productivity problem for labor qualified in the skill.
For labor, the marginal productivity of a natural person could be too low or their skills are not needed at the wage they are asking. Marginal productivity is defined in value terms. The person can perform the skills correctly at a certain rate. The problem is that no one values the skills enough to exchange medium of exchange for them at the asking wage rate. This is when they become economically inactive. They will be dependent on others if they do not have assets from which they can draw for their daily living needs or they have to lower their wage rate to a point where the medium of exchange obtained will not be sufficient to maintain their life. In some cases low marginal productivity and lack of skills can be rectified by education and training. Education and training are an investment, which has the risks associated with investing along with need for savings.
Elites can use the police power of the state to grant monopolies to favored interests. This will force resources into other less profitable areas, resulting in underemployment, misallocated land and production functions, and profits that can not be realized.
Monopoly can also explain the empirical results which show that limited increases in the minimum wage do not necessarily result in reduced employment. When a firm is a monopoly buyer in a labor market, usually because it can prevent labor from gaining representation through a union, it has the power to suppress wage rates below the voluntary market clearing rates and obtain monopoly rents. In a labor market in which there is free bargaining between labor and the firm's owners, a wage rate will be determined such that if it were increased there would be more unemployment and a reduction in firm size in the line of work. This is because the profitability of the enterprise would be changed relative to other firms using similar types of labor.
Favored interests can use the police power of the state to allow them to create medium of exchange to divert resources to their own use. For example, by issuing a loan to a favored interest that was funded with medium of exchange creation, the favored interest can now go into a market and bid higher than others for resouces, thus converting goods and services to their use without having to produce anything in exchange. Medium of exchange creation also sets into motion the business cycle and further resouce misallocation.
In a voluntary exchange economy, entrepreneurs will seek profit by allocating resources to the practices that most efficiently satisfy consumer needs with the available resources of land, labor and production functions. Efficient allocation of resources can be disrupted by elites gaining control of the police power of the state and using these powers to divert resources to their use in excess of what they could obtain from voluntary exchange.
Copyright 2014-2019 Richard A. Cornell, PE