Prices and knowledge: A market-process perspective

Chapter 1IntroductionIn recent decades, as problems caused by imperfect information havereceived increased attention from economists, there has arisen aninterest in the informational role prices may perform in an economy. 1This book is an attempt to examine in some detail this role, and theways in which it has been analysed. In this introduction, the argumentsthat will be presented in later chapters will first be briefly described.Before the relatively recent interest in their informational role,prices were generally explained by economists as caused byscarcity and described as useful incentives for making (omniscient)economic agents adopt decisions consistent with such scarcity.Fully informed agents were assumed to optimize with respect to‘given’ prices. Starting perhaps with Hayek’s 1945 article ‘The useof knowledge in society’, prices have become increasinglyperceived as more or less effective devices for the communicationof information. Although the impact of this article was not fully feltin economics for about fifteen years, with the development in the1960s of what is known as the ‘economics of information’, arelatively large literature has examined this informational aspect ofprices in detail. Working from within a framework in whichindividuals are only partially informed, prices are now often seeneither as ‘sufficient statistics’ for economic agents to makeappropriate economic decisions, as sources from which they caninfer other information, or as means by which they can attempt tosignal information to others.The economics of information approach is probably the mostwidespread and influential in economics today. But anotherapproach to informational problems which has also hadsignificant impact is the ‘bounded rationality’ theory of HerbertA.Simon. From both of these perspectives there have been criticalanalyses of the informational role of prices. This book will