Introduction
This is a very important essay in economics about how markets solve the difficult problem of directing production in society, written by economist Friedrich Hayek in 1945. In the last post, I briefly examined Ayn Rand’s ideas through a video game. This post is a more serious exploration of something mentioned there: the idea that the government couldn’t know what to do with the economy better than individuals do. This essay predated and no doubt influenced Rand, but while Rand was reacting to Soviet authoritarianism, Hayek was reacting to more theoretical and poorly thought-out intellectual endeavors by economists to optimize economies, in particular through central planning of the economy.
College students of the more progressive persuasion typically think of Hayek as some libertarian worth ignoring, and would expect this essay to be nonsense dreamed up to justify the exploitation of capitalism. In fact, the conclusions of this essay have little to do with labor exploitation, and very few implications for how your modern-day politics should be oriented. Unless you are dead certain that all economic activity should be decided by a government agency, this text is worth your time (in fact, if you were truly open-minded it would be especially valuable if you think a government agency should direct production, but I remain unconvinced that open-minded people exist to a meaningful degree). To my knowledge, there aren’t any American politicians who are aligned with or against Hayek in any meaningful sense, anyway. He even wrote about how political disagreements about the price system had faded at the time and been replaced with intellectual ones.
I don’t think I’ve rewritten this to be understandable to, say, a 5-year-old, but I’ve rewritten it to be understandable even if you have no economics background. The economics I rely on at some points in the essay is layman’s economics: if demand goes up, prices go up, if supply goes up, prices go down, etc.
Section I: Math doesn’t solve the problem of deciding what to produce and how, it obscures it
When we try to decide what to produce, how, and for who, and how we’ll make those decisions in the first place—the economic problem of society—what’s the real problem we’re trying to solve?
With some simple assumptions, the solution is easy. If we have all the information we need, if we know everyone’s preferences, and if we know everything about all the ways we can make goods and services, the problem is just a logical one. By that, I mean that our assumptions about information and preferences imply what the best use of the available means of production is. Look at what resources you have, look at what makes people happy, then figure out how to maximize happiness. The conditions that have to be satisfied to solve this optimization problem have been worked out by economists and can be stated mathematically.1
But this isn’t the economic problem we face in the real world. And the mathematics we’ve developed to solve the problem, though important, doesn’t really tell us how to best use our resources. That’s because we can’t make the assumptions used in that mathematics: no single person or organization has all the knowledge about resources and preferences needed in the first place.
The strange part of this problem is that the knowledge we need is never concentrated anywhere. It only exists as widespread pieces of incomplete and contradictory knowledge everyone has individually. So the economic problem of society isn’t just a problem of how to allocate resources that are “given” to a single person on a sheet of paper. The real problem is finding the best way to use resources not known to any single person, for purposes whose relative importance only individual people know. Or, to put it briefly, it’s a problem of utilizing knowledge no single person has.
This part of the problem has, I’m afraid, been obscured rather than illuminated by many recent refinements of economic theory, particularly by many of the uses made of mathematics. The problem I primarily want to deal with in this paper is the problem of rational economic organization I’ve been talking about so far (how do we optimize production in society?), but while talking about that I’ll also be led to its close connections with certain methodological questions. Diverse paths of reasoning have unexpectedly converged toward many of the points I want to make. With the way I see these problems now, that’s no accident. It seems that many of the current disputes with regard to both economic theory and policy originated in a misconception about the nature of the economic problem of society. This misconception is due to a simple error: we have tried to use the habits of thought used in the physical sciences to do social science.
Section II: Planning
Usually we use the word “planning” to refer to the decisions made about the allocation of resources. In this sense, all economic activity is planning, and in any society in which many people collaborate, this planning will have to be based on knowledge which isn’t given to the planner but to somebody else. So that knowledge will have to be conveyed to the planner somehow. The different ways in which the knowledge on which people base their plans is communicated to them is the crucial problem for any theory explaining the economic process. And the problem of “What’s the best way to utilize all this widespread knowledge?” is one of the main problems of economic policy, or of designing an efficient economic system.
The answer to that question is closely connected with the question of “Who’s gonna do the planning?” This is the center of all the disputes about “economic planning.” Will the planning be centralized, or will it be divided among many people? Usually when people say “planning” in modern debates they mean central planning—direction of the whole economic system by one unified plan. Competition, on the other hand, means planning by many people. The half-way point between the two is making every industry a monopoly, which people like to talk about but don’t really like in practice.
Which system will be more efficient? That depends mainly on which of them will make fuller use of all the knowledge of society. And that depends on whether we’re more likely to succeed by trying to get all the knowledge to a central authority, or by trying to convey to all the individuals who have the knowledge whatever additional knowledge they need to make their plans fit with others.
Section III: Scientific and technical knowledge aren’t everything
Today people assume that an expert body would be better positioned to solve the economic problem (to decide what to produce and how) than all the individuals of society. That’s just because scientific knowledge is so prominent in the public’s imagination that people tend to forget it’s not the only kind that matters. Sure, as far as science is concerned, a body of experts could be the best choice for commanding all the best knowledge available (though of course then we have to wonder how we’re going to choose the best experts). What I want to point out is that, even if we can solve that problem, it’s just a small part of the wider problem.
Today it’s almost heresy to suggest that science isn’t the sum of all knowledge.2 But a little reflection shows this isn’t true, and not in the sense that there’s some more spiritual knowledge to be gained. There is a body of very important, unorganized knowledge we can’t call scientific in the sense of knowledge of general rules: the knowledge of the particular circumstances of time and place. This is a kind of unique, useful knowledge almost every individual has some advantage over everyone else over, but which can only be used if the decisions depending on it are left to that individual or made with their cooperation. Let me expand on what this kind of knowledge looks like.
Think of how much we have to learn in any occupation after we’ve completed training, how much time we spend learning particular jobs, and how valuable it is to have knowledge of people, of local conditions, and of special circumstances. To know there’s a machine not being used to the fullest it could be, or to know someone’s skill could be better used, or to know there’s a surplus stock we can use during an interruption of supplies, is just as useful to other people as it is to know of better alternative techniques for production. And the shipper who earns his living from using otherwise empty or half-filled journeys of cargo ships, or the real estate agent whose whole knowledge is almost exclusively one of temporary opportunities, or the person who gains from buying things where they’re cheap and selling them where they’re expensive, are all doing useful things based on special knowledge of temporary circumstances not known to others.
It’s curious how today people dislike those who use this kind of knowledge to gain an advantage over someone with better theoretical or technical knowledge. Gaining an advantage from better knowledge of facilities of communication or transport is considered dishonest, although it’s about as important that society makes use of opportunities like these as it is that society make use of the latest scientific discoveries. (Should we let ships sail empty for other purposes when they could also be carrying valuable goods or vacationers? Shouldn’t we encourage people to reveal these opportunities and provide people with them?)
Prejudice toward this kind of knowledge has considerably affected people’s attitude toward commerce compared to production. Even economists who consider themselves above the materialist fallacies of the past constantly commit the same mistake where activities directed toward the acquisition of such practical knowledge are concerned—apparently because they think all that knowledge is supposed to be “given.” People generally seem to think all that knowledge should be available to everyone, and it’s often because they assume it should be that people make irrational criticisms of the current economic order. But if you think like that, you’re ignoring the fact that “How do we make all that knowledge about resources widely available?” is exactly the problem we need an answer for.
Section IV: Economic changes are still important
If today people like to ignore the importance of the knowledge of particular, temporary circumstances, that’s closely connected with ignorance of change in those circumstances. Indeed, “planners” have the most disagreement with their opponents on the point of how significant and frequent changes in these circumstances are. (Those changes require substantial changes in production plans, hence their importance in the debate. If those changes are infrequent, economic planning isn’t as hard in theory.)3
Maybe it’s worth stressing that changes always cause economic problems, and are the only reason they happen. So long as things stay the same, or at least as they were expected to be, no new problems requiring a decision arise, and there’s no need for a new plan. So the belief that changes have become less important in the modern day implies that economic problems have also become less important. That’s why this belief in the decreasing importance of change is usually held by the same people who argue that the growing importance of technological knowledge has driven the importance of economic considerations into the background. To them, economic changes aren’t so important, so all that matters is pushing technological progress forward, not making small adjustments in response to changes.
But is it true that, with the elaborate tools of modern production, economic decisions are only required over long intervals (for example, when a new factory is needed or a new process is to be introduced)? Is it true that, once a plant has been built, the rest of its operations are more or less automatic, and not much has to be changed to adapt to ever-changing circumstances?
The widespread belief that the answer is “yes” is not borne out by the practical experience of the businessman. In a competitive industry, at least, the task of keeping costs from rising requires constant struggle by the manager. It’s commonplace business experience that a bad manager can easily lose a company’s profitability by failing to stop costs from exceeding revenues, but it seems this isn’t obvious to economists. The extent to which money costs enter into the daily work of producers and engineers is made especially obvious by how they voice their strong desire to get around those costs.
One reason why economists increasingly forget about the constant small changes that occur in the economy is probably their growing preoccupation with statistical aggregates like GDP, which show much more stability than the details do.4 But this relative stability can’t be accounted for by the “law of large numbers”5 or random errors cancelling each other out. The number of things we have to deal with isn’t big enough for accidental forces like that to produce stability. The continuous flow of goods and services is maintained by constant, deliberate adjustments, by new dispositions made every day in light of circumstances not known the day before, by B stepping in when A fails to deliver. Even a large, highly mechanized plant keeps going largely because it can draw from its environment for all sorts of unexpected needs: tiles for its roof, pens and papers for its forms, and all kinds of equipment the plant can’t operate without and has to get from the market.
At this point I should say that the kind of knowledge I have been talking about is the kind that, by its nature, can’t enter into statistics and thus can’t be given to any central authority in statistical form. The statistics such a central authority would have to use would have to be created by abstracting from minor differences between things, by lumping together resources that differ in their locations, qualities, and other characteristics, in a way that may really matter for the specific decision. So central planning based on statistical information by its nature can’t take direct account of these circumstances of time and place, and the central planner will have to find some way to leave decisions to the “man on the spot.”
Section V: Why we need decentralization
If we can agree that the economic problem of society is mainly one of rapid adaptation to changes in these particular circumstances I’ve been talking about, it’d seem to follow that the ultimate decisions must be left to the people who are familiar with these circumstances, and who know about the relevant changes and the resources immediately available to meet them.
[This paragraph is an interlude I (Jack) thought of while rewriting this. A useful example of what Hayek is talking about came to mind. In the past, the materials used to build housing varied greatly from place to place. The reason why is because the materials available in any given place varied and it was hard to transport a more standard material to different places. In the modern day, we have trucks that can churn concrete to keep it from setting, so you can find similar concrete buildings everywhere. But before those trucks arrived, how might a central planner know of the materials available in so many different places? More importantly, how might they quickly notice changes in which materials are available? Hayek is about to present how markets solve problems like that.]
We can’t expect that this problem will be solved by first communicating all this knowledge to a central board which only issues orders after considering all knowledge. We have to solve this problem by some form of decentralization. We need decentralization because it’s the only way we can ensure that the knowledge of particular circumstances will be promptly used. But the “man on the spot” can’t decide solely on the basis of his limited but intimate knowledge of the facts of his immediate surroundings. There’s still the problem of telling him enough information for his decisions to fit with others, with the changes of the larger economic system. How much does he need to know to do that successfully? Which of the events beyond his circumstances are relevant to his decision, and how much does he need to know about them?
Well, practically everything that happens everywhere might have an effect on the decision he should make. But he doesn’t need to know all that. It doesn’t matter why at some moment more screws of one size are wanted than another, why paper bags are more readily available, or why skilled labor, or particular machine tools, have for the moment become more difficult to acquire. All that matters to him is how much more or less difficult to acquire they’ve become compared with other things he’s also concerned with, or how much more or less urgently wanted are the alternative things he produces or uses. All that really matters to him is the relative importance of things he’s concerned with, and how that relative importance has changed.
This is where the economic calculus proper [it’s not clear to me what he was referring to here] helps us see how this economic knowledge problem can be solved, and is being solved, by the price system. Even a single controlling mind, knowing everything about some small, self-contained economic system, wouldn’t explicitly go through all the relations between ends and means which might be affected every time some small adjustment in the allocation of resources had to be made. The great contribution of rational choice theory is that it’s demonstrated conclusively that such a single controlling mind with all that knowledge couldn’t really solve this kind of problem. Why? Because it could only solve it by attaching to each scarce resource a numerical index of its value that can’t be derived from any property possessed by it, but which reflects its significance in view of all of the people, preferences, and resources in society. For any small change, this controller would have to consider only these quantitative indices (or “values”) in which all the relevant information is condensed. And by adjusting the quantities one by one, he can appropriately rearrange his dispositions without having to solve the whole puzzle from the beginning. He wouldn’t need, at any point, to survey all of it, and all of its ramifications, at once. But the controller wouldn’t have these values. We have these values because we have the price system, driven by markets.
The relevant facts for any broader economic decision for society are spread out among many people, but prices can act to coordinate the separate actions of different people in the same way subjective values help an individual to coordinate the parts of their own plan. It’s worthwhile to look at an example here. Assume that somewhere in the world, someone figured out that tin makes wonderful hair products, or for some other reason tin has become more scarce. All that the users of tin need to know is that some of the tin they used to buy is now better used elsewhere and, as a consequence, they should try to save on tin costs. The higher price of tin tells them to use less tin [if the supply is at least a little limited, demanding more tin to make hair products will increase the price]. Most of the other people using tin don’t really need to know where the more urgent need is, or what it is they should let the tin be used for. Even if only some people know about the new demand for tin hair products and switch their resources over to making those, the people made aware of the new gap in the supply of tin by the rising price will fill that gap with some source of a tin substitute. Their demand for that substitute causes the price of that substitute to rise. The effect of the tin scarcity will have spread through the whole economy and influenced not just the uses of tin, but also all of its substitutes and the substitutes of those substitutes, the supply of all things made of tin, and their substitutes and so on, in a chain reaction of price changes.
And all of this can happen without any of the people who made these substitutions knowing anything about the original cause of these changes. Everyone acts as one, and not because any single person surveyed the whole field, but because everyone’s limited, individual fields of vision overlap enough so that through many intermediaries, the relevant information is communicated to all. The simple fact that there is just one market price for any commodity brings about the solution which might have been arrived at by one single mind with all the information spread out among everyone involved in the process.
Section VI: Markets are marvelous economic telephones, and prices are the noise they make
If we want to understand the real function of the price system, we have to look at it as a mechanism for communicating information.6 The most significant fact about the price system is how little the individual participants need to know in order to be able to take the right action. The most essential information is passed on, and only to those concerned, in a kind of abbreviated symbolic form (the price). It’s more than a metaphor to describe the price system as a kind of machinery for registering economic changes, or a system of telecommunications which enables individual producers to just watch the movement of a few pointers, like an engineer watching a few dials, in order to adjust their activities to changes they might never know more about than what’s reflected in the changes in the price.
[Here is another interlude. In Labour Economics at the LSE, we were taught about the Alaskan oil boom. This was a demonstration of how supply and demand work in the labor market. When the Alaskan oil boom happened, oil worker productivity rose (more oil to produce), causing demand for oil workers to rise, causing wages for oil workers to rise. In short, oil workers became more scarce, and their price (the wage) shot up, like a flare gun signalling “We need workers here!” In response, loads of workers moved to Alaska. This supply increase caused wages to go back down. When the oil boom ended, wages went down further, encouraging those workers to leave until wages returned to their more normal level from the loss of labor supply. You can see, then, how the price system directs production, though obviously it’s not able to deal with the problems caused by pollution, which we need other solutions for.]
These price changes probably aren’t ever perfect in the way economists model them with supply and demand. But I fear that our theoretical habits of approaching the problem with the assumption of more-or-less perfect knowledge for everyone has made us a little blind to the real purpose of the price mechanism, and led us to apply misleading standards in judging its efficiency. The marvel is that in a case like tin becoming more scarce, without an order being issued, without more than maybe a handful of people knowing the reason why it became more scarce, tens of thousands of people who we couldn’t identify with months of investigation are directed to use less tin. They move in the right direction, just because of a price change. This is enough of a marvel even if, in a constantly changing world, not everyone will act so perfectly that their profits will always be maintained at the same constant or “normal” level.
I’m using the word “marvel” here to shock you out of the complacency we often have in taking this mechanism for granted. I’m convinced that if the price system were a human invention, and if the people guided by price changes understood that their decisions have significance far beyond their own purposes, this mechanism would be considered one of the greatest triumphs of the human mind. The misfortune of this system is double, first that it’s not the product of human design, and second that the people guided by it usually don’t know why they’re directed to do what they do. But the people who want “conscious direction”—and who can’t believe that anything which has evolved without design (and even without our understanding it) should solve problems which we shouldn’t be able to solve consciously—should remember this: the problem is, “How do we extend the span of our utilization of resources beyond the span of the control of one person? How do we get rid of the need for conscious control, and encourage people to do desirable things without anyone telling them to?”
The problem we’re dealing with here isn’t really unique to economics. It arises in connection with nearly all social phenomena, with language, and with most of our cultural inheritance, for example. It constitutes the central theoretical problem of all social sciences. As Alfred Whitehead has said,
It is a profoundly erroneous truism, repeated by all copy-books and by eminent people when they are making speeches, that we should cultivate the habit of thinking what we are doing [sic].7 The price opposite is the case. Civilization always advances by extending the number of important operations which we can perform without thinking about them.
This is really important in the social sciences. We constantly use formulas, symbols, and rules whose meaning we don’t understand and through the use of which we give ourselves the assistance of knowledge we don’t really have. We’ve developed these practices and institutions by building on habits and institutions which have proven successful in their own sphere, and which have become the foundation of the civilization we’ve built.
The price system is just one of the formations people have learned to use (though we’re still far from having mastered it) after discovering it on accident, and without understanding it. Using this system, it’s become possible to use the equally divided knowledge I’ve been talking about to both create division of labor and create a coordinated utilization of resources. Usually when people criticize this idea, they distort the argument by insinuating that it asserts by some miracle this system has spontaneously grown up to be best-suited to modern civilization. The reverse is true: we’ve been able to develop the division of labor on which our civilization is based because we happened to stumble on a method which made it possible. If we hadn’t, we might have developed some other type of civilization like the “state” of the termite ants, or some other type we can’t imagine. All we can say is that so far nobody has succeeded in designing an alternative that replicates certain features of the current one, which are important even to those who criticize it the most violently—such as the extent to which the individual can choose his pursuits and freely use his own knowledge and skill.
Section VII: Intellectuals are making a mistake
In many ways, it’s fortunate that the dispute over the importance of the price system for any rational economic calculation in a complex society is no longer conducted just between camps with different political views. When, 25 years ago, Ludwig von Mises first advanced the idea that without the price system we couldn’t preserve a society based on such extensive division of labor, it was greeted with a howl of criticism. Today the difficulties some people still have in accepting that are no longer mainly political, and that makes it easier to discuss it. To give a couple of examples, Leon Trotsky [a Soviet politician and revolutionary] is arguing that “economic accounting is unthinkable without market relations”, and Professor Abba P. Lerner is rediscovering Adam Smith and emphasizes that the essential utility of the price system consists in inducing the individual, while seeking their own interest, to do what’s in the general interest of society. The remaining dissent seems clearly to be due to intellectual, and more particularly methodological, differences.
Here’s an example of one of the methodological differences I have in mind, illustrated by a recent statement by Professor Joseph Schumpeter in his Capitalism, Socialism, and Democracy. Professor Schumpeter is preeminent among economists who approach economic phenomena in the light of a certain branch of positivism. To him, economic phenomena appear as objectively given quantities of commodities that directly affect each other, seemingly without intervention of human minds. Only against this background can I account for the following (to me startling) pronouncement. Professor Schumpeter argues that even without markets, the possibility of a rational calculation of what should be produced follows, for the theorist, “from the elementary proposition that consumers in evaluating (‘demanding’) consumers’ goods [by that fact] also evaluate the means of production [used to make these goods].”
[An important clarification. Schumpeter is saying that when people decide what goods to buy, they’re implicitly saying something about the things used to produce those goods, in particular what they should be used for. Think of what happens to the price of wood when demand for popsicles goes up. Maybe wood becomes more expensive, so we learn that wood has become more valuable to people, even though it’s just used to make something else and isn’t desired directly. As Hayek is about to point out, this sort of thing isn’t enough to know about the value of wood or anything else used for production.]
Taken literally, this statement simply isn’t true. Consumers don’t do anything like evaluating the means of production. What Professor Schumpeter’s “[by that fact]”8 presumably means is that the valuation of the things used to produce goods is implied in, or follows necessarily from, the valuation of consumer goods. But that’s not correct either. For it to be “implied” we’d need all the necessary propositions to be present in one mind. But it’s evident that the values of the things used to produce goods don’t depend just on the valuation of consumer goods, but also on their supply conditions [like whether a landslide took out the nearest source of lumber]. The answer to the economic problem would only necessarily follow from all of the facts if they were all known by one person. The practical problem arises because that never happens. Any solution to the problem needs to use knowledge spread out among many people.
So the problem isn’t at all solved if we can show that if all the facts were known to a single person (as we hypothetically assume them to be given to the observing economist), we can uniquely determine the solution to the economic problem. Instead we have to show how a solution can be produced by the interactions of people who each only have partial knowledge. Assuming all the knowledge is given to one person, in the same way we assume it to be given to us as the explaining economists, is to assume the problem doesn’t even exist. You’re disregarding everything important and significant in the real world.
That an economist of Professor Schumpeter’s standing fell into this trap can hardly be explained as a simple accident. What it really suggests is that there’s something fundamentally wrong about an approach to economics which regularly disregards the unavoidable imperfection of man’s knowledge, and the resulting need for a process by which knowledge could be constantly communicated and acquired. Any approach that starts from the assumption that people’s knowledge corresponds with the objective facts of the situation (e.g. mathematical economics with its simultaneous equations systems) systematically leaves out the thing we should care most about explaining.
I’m not denying that in our system the equilibrium analysis economists do [fancy math, in particular multivariable calculus and linear algebra, used to model the economy] has a useful function to perform. But since it’s misled our best thinkers into believing the situation it describes has direct relevance to practical problems, it’s high time that we remember that it doesn’t deal with the social process at all and isn’t anything more than a useful preliminary to the study of the main problem. The main problem is finding a way for knowledge no single person has to be used to direct production in society, and we’ve long since stumbled into a solution: the price system.
Hayek states that the marginal rate of substitution between any two goods or factors of production should always be the same when production is optimized. This shouldn’t make sense to you if you haven’t taken intermediate microeconomics, so allow me to explain.
Take a look at this. It’s a graph describing different combinations of apples and bananas someone is indifferent between: if you pick any two points on the line, they don’t feel any better or worse having one or the other combination. Now notice the shape of the graph. It looks like that because goods have diminishing benefits: the more bananas you have, the less you feel good about getting another banana. So if you’re going to lose some apples and gain bananas and feel indifferent, you’d better get more and more bananas every time you lose an apple, or more and more apples every time you lose a banana.
The slope of this line is called the marginal rate of substitution. From point A to point B, it’s (10-14)/(26-20) = -4/6 = -2/3.
Now here’s a question: if you have a limited amount of money to spend, what’s the optimal combination of apples and bananas? To find that, you need all of the indifference curves (you can imagine a higher one, for example, with combinations of apples and bananas that are larger overall).
Solving this problem requires multivariable calculus. If you do solve it, and you solve it for a whole society rather than an individual person, you get what Hayek described here. Of course, we don’t really have formulas for these indifference curves and budgets in the real world, which is part of the problem Hayek is getting at in the essay.
As I think you can tell, this was written a long time ago, in 1945. If instead you think his statement is still relevant, I would certainly prefer to live with your perception of the world. I, maybe unlike you, get the sense that most people have become disillusioned with science and technology and enjoy turning to mysticism and spiritualism instead. I don’t think that’s a bright idea, though I also don’t think people have truly lost faith when push comes to shove.
There was a peculiar sentence here I decided to squelch: “Of course, if detailed economic plans could be laid down for fairly long periods in advance and then closely adhered to, so that no further economic decisions of importance would be required, the task of drawing up a comprehensive plan governing all economic activity would be much less formidable.” In other words, if we could plan the economy, we could plan the economy. I don’t think Hayek was the best writer.
GDP was a very recent invention when this was written in 1945, having been proposed and developed by Simon Kuznets and other economists in the 1930s.
This is a law that says that, if you have some average you’re trying to measure (e.g. the average height) and you keep taking random samples to try to measure it, you can get as close to the true value of the average as you would like by taking more and more random samples and averaging them. In math lingo: “the average of the results obtained from a large number of independent random samples converges to the true value, if it exists.”
I squelched some information here that seemed very tangential and distracting. He says that the ability of prices to communicate information is fulfilled less perfectly as prices grow more rigid. He adds that it’s also true that even when quoted prices have become rigid, the forces which would operate through changes in prices still operate to a considerable degree through changes in the other terms of the contract. (The price may not be able to rise to indicate scarcity, but maybe quantity goes down instead.)
This is a useful tool for authors. If you ever see [sic] in a text, it means something that might look like a mistake was repeated verbatim.
The term ipso facto is used here. I don’t like it when random latin phrases are thrown in when a perfectly good English phrase exists and wanted to save you the trouble of Googling it.