It’s not been tough for me to get to hear of derogatory comments against ‘greedy’ capitalists; about how those selfish pests suck all wealth unto themselves, by selling their products to consumers at prices above production costs to earn ‘undeserved’ profits. Going even further, some distressed souls even expect Capitalists to sell the products they produce at prices below production costs, and suffer outright losses.

I strongly believe most people with an anti-Capitalistic-mentality, are so, only because they don’t understand how the economy actually works. For instance, they don’t really understand why entrepreneurs don’t produce unless they gain profits. Otherwise, I believe, many people are usually sympathetic towards the efforts of the entrepreneurs in growing sustainable business models.

First up, lets analyze how economic calculation originated. We have usually heard of the merits of money, as a media of exchange which solves the trouble of ‘double coincidence of wants’, a store of value, divisibility, etc. But one more very important economic tool money has equipped us with has been the tool of economic calculation. Times of barter witnessed people exchanging goods and services through direct exchange without any common medium exchange called money.

Lets, for instance, take a person named Bob who lived in a barter economy. Bob produces wheat, corn and paper and he exchanges them for wine and squash. So, how would Bob’s book to keep track of his business accounts look like? As you must be able to guess, it would just have an array of goods bought and sold without any monetary values to any of the goods, whether bought or sold. Hence, Bob has no way to economically calculate whether he is economically better-off in an objective manner.

(Notice that Profit and Loss helps in objective measurement of economic value of goods. The subjective satisfaction that people gain when they exchange goods can’t be measured by any means, for obvious reasons)

The evolution of money necessarily revolutionized the way economic transactions happened on earth. There was now a common medium available towards the service of everybody, including Bob, to help them reduce details of their economic exchanges to a common denominator. That is Bob could now ascertain price figures to objects he bought and sold, and thereby enabling him to make economic calculations of profit and loss, and know if he is economically better-off or not. That is if he is richer or poorer at the end of an exchange.

Much has economic calculation helped people to have a hold of their economic situation, thereby directing their efforts towards production of goods that are economically valuable. For instance, Bob could now understand if his net personal wealth has increased or decreased. He now has a objective scale which could guide his production activities towards production of economically valuable goods which he could exchange with others.

Not to be ignored, the advent of the division-of-labor society where people are no longer self-sufficient, but specialize in specific production activities, has further directed our activities towards the production of goods for satisfaction of others.

An important contribution of economic calculation has been the Price system. Money is similar to ‘votes’ that you cast at the ballot every election, only that different people have different number of votes. Consumers vote everyday for products which they want, and refuse to vote for products they don’t like, giving rise to prices. Thus, the market reflects a democracy in action where voting takes place every day.

Prices can also tell us the relative scarcity of different goods in an economy. For instance, if the market is flooded with huge amounts of wheat which out-weighs consumers’ needs, consumers will instantaneously decide to use less of their votes to spend on wheat, giving wheat producers the signal to cut production. The exact opposite happens when a product is not produced in sufficient amounts.

So how, and where, does contempt and disdain against profits figure out in what we’ve been talking about till now?

What we notice until now, in our discussion about economic calculation and the Price system, has been the way the market directed by the spending patterns of the consumers guides producers to produce certain products and stop producing certain other goods. Even in the previous example, in which we talked about the movement of prices according to the preferences of the consumers what we see is it is the consumers who decide how much to pay, or in other words, how many votes to cast in favor of a product.

Another aspect of the problem can also be explained with a critical example. Lets take the case of distilled water. As one must be knowing, distilled water is used for various purposes. For the purpose of convenience, lets assume distilled water of limited stock in a particular town, can be used for two purposes: for filling car radiators, and to treat patients at a local hospital. Lets also assume, the people of the city decide to coerce the supplier of distilled water not to raise his prices, and sell at prices that cover just his cost of production alone. Lets also assume all car owners in the city are getting ready to make their holiday travel, so their demand for distilled water will increase. There is one critical thing that will certainly happen, which is, too many distilled water bottles would get diverted towards usage for cooling car radiators. People who have their dear ones at the hospital will run out off distilled water, unless they were the first in the queue to get distilled water. The problem here is, people who want distilled water for their medical requirements have to lose out, because they were disallowed to bid up prices and compete with car owners for the limited stock of distilled water. This is just a very simple example of how rational allocation is impossible without the price system in place. Now suppose the city managers get to know of the situation and they remove the price controls on the supplier of distilled water, and as expected, people who need the supplies for their medical needs bid higher prices for the distilled water, and the supplier will make huge profits.

Another entrepreneur comes into the city at the same time, and he buys some of the distilled water at those currently prevailing high prices, and mixes some gelatin powder into them and makes nice tasting jellies. He goes to the market place and tries selling those jellies. Nobody in the city wants to buy them at above his cost of production, and his venture goes broke with losses within weeks. The reason obviously is that the entrepreneur had a very bad taste of anticipation.

The entrepreneur failed to understand that distilled water was already selling at very high prices. That is, it was already very scarce. People had no intention to buy jellies from him because their more important needs, like to fill their car radiators, were yet to be realized. The entrepreneur made a very bad mistake which wasted the already scarce supplies. So, he was punished for causing loss to the society.

So, profit or loss of a particular venture is not determined by the entrepreneur who runs the business. It is the market, where consumers vote everyday welcoming and rejecting products, that determines if an entrepreneur makes profits or goes broke. The entrepreneur makes profits, only because he is able to satisfy the most urgent needs of the consumers. He neither plunders nor coerces consumers. It is the consumers who order all actions of the producers.