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TECH TALK: Useful Concepts: Markets

July 17th, 2003 · No Comments

Markets are everywhere. We live in them, we work in them, we buy and sell in them. And yet, there is perhaps only a faint understanding of the dynamics of markets. For most of us, the stock market is perhaps the one we are most familiar with. eBay has done much to get auctions into our vocabulary. But there are many other types of markets some efficient, some inefficient.

John McMillans Reinventing the Bazaar is a history of markets. It is a fascinating read. Here are a few excerpts:

Markets are subtle organizations. This is one of my themes. The mechanisms that underpin transacting are intricateand they are in everlasting flux. People are ingenious at finding ways to make exchanges that bring mutual gains.

Markets do what they are supposed to do, however, only if they are well structured. Any successful economy has an array of devices and procedures to enable markets to work smoothly. A workable platform for markets has five elements: information flows smoothly; property rights are protected; people can be trusted to live up to their promises; side effects on third parties are curtailed; and competition is fostered.

EBay has created a global market for goods that previously had a purely local market. One of the secrets of eBays success was in recognizing that the Internet, by making it easy for buyers and sellers to get together, created new possibilities for trading knickknacks of all kinds. The other secret of its success was in building a user-friendly and flexible auction mechanism. Pre-Internet auctions had the disadvantage that they required the potential buyers to assemble in one place. (Bids were sometimes made by fax or telephone, but this was clumsy.) Bidders in an eBay auction get together only in cyberspace…EBay showed that the Internet and auctions were made for each other.

Modern markets are sophisticated organizations. Markets for multifaceted products like automobiles and computers, and for labor and financial services, must solve a range of problems that may not arise with simpler items like clothing and food. A market works well only if information flows smoothly through it. An uneven distribution of information hinders negotiations and limits what can be contracted. Information transmission requires devices that ensure the communications are reliable. A market works well, also, only if people can trust each other. Trust requires mechanisms to bolster it since, regrettably, not everyone is inherently trustworthy. Many goods have hidden characteristics, so there must be some way of assuring buyers of the goods quality. Trust is needed also in transactions that take time to complete. People are reluctant to invest in the absence of some assurance that the others promises will be kept. A modern market economy needs a platform sturdy enough to support highly complex dealings.

Market design consists of the mechanisms that organize buying and selling; channels for the flow of information; state-set laws and regulations that define property rights and sustain contracting; and the markets culture, its self-regulating norms, codes, and conventions governing behavior. While the design does not control what happens in the marketas noted, free decision making is keyit shapes and supports the process of transacting.

A workable market design keeps in check transaction coststhe various frictions in the process of making exchanges. These include the time, effort, and money spent in the process of conducting business: both any costs incurred by the buyer in addition to the actual price paid, and any costs incurred by the seller in making the sale.

A couple weeks ago, I wrote about the PubSubWeb, and took one example at the end the need for an SME Information Marketplace, where SMEs (small and medium enterprises) can find each other easily. In essence, what I was talking about was the creation of a market, which would reduce the search costs among SMEs, and hopefully, help each of them to benefit through increased business. Today, most SMEs find themselves, just like rural India, in a low-equilibrium position. Perhaps, the creation of this information marketplace can move them to another, better equilibrium.

Tomorrow: The CEOs Temptations


TECH TALK Useful Concepts+T

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