Each individual company might well be centrally planned but it’s the interaction of all of those limited plans which leads to the vibrancy of the economy as a whole.

Adam Smith Institute


By: Tim Worstall
Date: 23 August 2014

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Companies are the cells of the economy

An interesting point being made by Ronald Coase here:

Wang: Microeconomics is about demand and supply. Compared with classical economics, marginal analysis clearly offers a deeper understanding of consumer choice. But I don’t think it is equally powerful in explicating production, the supply side of the economy.
Coase: To understand production, we have to go back to Adam Smith’s division of labor. It serves well as a starting point, even though the modern economy today has become far more complicated.
Wang: This must be Smith’s most undeserving failure. Modern economics is built on Smith’s framework of the “invisible hand”. But it leaves no room for the division of labor.
Coase: Modern economics shows little interest in production. I am not sure production function tells us anything about production in the economy.
Wang: Adam Smith used the pin factory as an example to develop his analysis of the division of labor. Today, to investigate the division of labor, we can no longer afford to confine our focus to a single firm. Instead, we have to study the organizational structure of production.
Coase: That’s right. The firm remains the cell of the economy, but the intricate relations and constant interactions among the cells determine economic dynamism.

It’s that last line that so particularly interests me. For it’s often pointed out that companies are little sections of a command economy and thus, some leap to say, obviously it’s possible to have a command economy because we actually do.

It’s possible however to run Coase’s analogy in two ways. One is to make that distinction between the cell itself and the entire organism, which do run to different rules. Another might be to compare it to physics: we know very well that there are entirely different rules at the quantum level and at the macro.

Any such analogy can be pushed too far of course but with the economy that cell might well be subject to central planning: but it’s the interaction of all of those limited plans which leads to the vibrancy of the economy as a whole. We as entire human beings cannot and do not work by the same rules that apply at the cellular level: nor do economies work well subject to the same rules that might apply at the company or organisational level.