ArtsAutosBooksBusinessEducationEntertainmentFamilyFashionFoodGamesGenderHealthHolidaysHomeHubPagesPersonal FinancePetsPoliticsReligionSportsTechnologyTravel

The Invisible Hand that Guides the Market

Updated on December 1, 2014

Adam Smith (5 June 1723 – 17 July 1790)

Foundation of modern economic philosophy

The modern economic theory is largely based on the observations made by Adam Smith in the late eighteenth century. While analyzing the behaviour of producers and sellers in an unregulated market, he came up with the theory that the markets have an inherent potential of being efficient, if just left alone. He referred to this inherent property of the markets as the 'invisible hand'. Even after more than two centuries, his theory has remained the cornerstone of our understanding of market behaviour.

Adam Smith & the theory of Invisible Hand

In late eighteenth century, Adam Smith who undertook an analysis of the markets came up with a conclusion that if the market is left free and unregulated, with no restrictions on production or consumption, then the demand of people for different goods and their production by the market will be equal, leading to a general welfare of the society. To put in different words, Mr. Smith suggested that the invisible hand of market, consisting of forces of demand and supply will achieve an efficient level of production, consumption and distribution of goods in the society.

This idea of unregulated markets achieving efficiency on its own, as if guided by an invisible hand, has created a very strong argument in favour of free markets, and against governments controlling production or consumption in any form that interferes with the free market.

Advocating Economic Freedom

In many ways, Adam Smith's Invisible Hand theory is the economic counterpart of democratic theory. His concept of Free markets is based largely on the condition that there should be no restrictions on economic activity, with everyone left alone to exercise her choice of production, consumption and exchange, as per her best judgement.

Just as people are supposed to be capable of choosing the best leaders for themselves, in a democracy, the Invisible Hand theory of Adam Smith presumes that people will be able to produce and consume in a manner that is most efficient if they are given a free hand. Adequate information is as essential for the free markets as it is for the success of a democracy. Lack of information or Information Asymmetry can result in an inefficient market. Similarly,as in a democracy, restriction on competition, as happens in case of monopolies, can defeat the whole process and prevent the markets from achieving efficiency.

In real life, markets may not be perfectly efficient, but that does not negate the importance of Adam Smith's Invisible Hand theory. Markets can often fail because of many different factors, but in spite of them, they still provide the best option we have for achieving an efficient system of human economic activity.

Introducing the principles of demand and supply

The real contribution of Adam Smith was to introduce the concepts of Demand and Supply and identify them as the prime movers in the free market. Demand refers to what the people are willing to pay for a particular good. As the price rises, demand of the product falls, giving rise to a down-sloping curve. On the other hand, Supply refers to what the producer or supplier would be willing to produce at a given price. The interplay of demand and supply leads to pricing of a good in the market.When the demand of a good is more, the market price of a good rises, thereby attracting more producers to the market, which increases the supply, and in turn reduces the prices, thereby maintaining a stable equilibrium. This continuous adjustment of market prices by addition or exit of new producers is the basic mechanism by which the invisible hand of the free market operates.

Though Adam Smith did not go in to graphical representation or the mathematical derivation of the Demand as a relationship between price and quantity, he discussed the concept with great clarity in his book, An Inquiry into the Nature and Causes of the Wealth of Nations, first published in 1776. He summarised the concept of Invisible Hand in the following words,

"As every individual, therefore, endeavours as much as he can both to employ his capital in the support of domestic industry, and so to direct that industry that its produce may be of the greatest value; every individual necessarily labours to render the annual revenue of the society as great as he can. He generally, indeed, neither intends to promote the public interest, nor knows how much he is promoting it. By preferring the support of domestic to that of foreign industry, he intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this , as in many other eases, led by an invisible hand to promote an end which was no part of his intention . Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it. I have never known much good done by those who affected to trade for the public good."

Adam Smith's theory is the basic pillar of modern economics. during the last two centuries, the markets have been observed to fail, as happens in case of monopolies, public goods or information asymmetries between the consumers and the producers. However, we also know that in spite of their limitations, markets do deliver. Most importantly, this knowledge ensures that we have a sound and logical argument against authorities who might be mistaken into excessive regulation and restriction of economic freedom in the garb of political idealism or some other excuse. The fact that a Communist China adopts the principles of market efficiency to become a global economic superpower may  be the greatest tribute to Adam Smith and his Invisible Hand theory.

Demand and Supply in Modern Economics


view quiz statistics

What do you think about markets ?

Do you agree with the Efficiency of the Free Markets ?

See results

© 2011 V Kumar


This website uses cookies

As a user in the EEA, your approval is needed on a few things. To provide a better website experience, uses cookies (and other similar technologies) and may collect, process, and share personal data. Please choose which areas of our service you consent to our doing so.

For more information on managing or withdrawing consents and how we handle data, visit our Privacy Policy at:

Show Details
HubPages Device IDThis is used to identify particular browsers or devices when the access the service, and is used for security reasons.
LoginThis is necessary to sign in to the HubPages Service.
Google RecaptchaThis is used to prevent bots and spam. (Privacy Policy)
AkismetThis is used to detect comment spam. (Privacy Policy)
HubPages Google AnalyticsThis is used to provide data on traffic to our website, all personally identifyable data is anonymized. (Privacy Policy)
HubPages Traffic PixelThis is used to collect data on traffic to articles and other pages on our site. Unless you are signed in to a HubPages account, all personally identifiable information is anonymized.
Amazon Web ServicesThis is a cloud services platform that we used to host our service. (Privacy Policy)
CloudflareThis is a cloud CDN service that we use to efficiently deliver files required for our service to operate such as javascript, cascading style sheets, images, and videos. (Privacy Policy)
Google Hosted LibrariesJavascript software libraries such as jQuery are loaded at endpoints on the or domains, for performance and efficiency reasons. (Privacy Policy)
Google Custom SearchThis is feature allows you to search the site. (Privacy Policy)
Google MapsSome articles have Google Maps embedded in them. (Privacy Policy)
Google ChartsThis is used to display charts and graphs on articles and the author center. (Privacy Policy)
Google AdSense Host APIThis service allows you to sign up for or associate a Google AdSense account with HubPages, so that you can earn money from ads on your articles. No data is shared unless you engage with this feature. (Privacy Policy)
Google YouTubeSome articles have YouTube videos embedded in them. (Privacy Policy)
VimeoSome articles have Vimeo videos embedded in them. (Privacy Policy)
PaypalThis is used for a registered author who enrolls in the HubPages Earnings program and requests to be paid via PayPal. No data is shared with Paypal unless you engage with this feature. (Privacy Policy)
Facebook LoginYou can use this to streamline signing up for, or signing in to your Hubpages account. No data is shared with Facebook unless you engage with this feature. (Privacy Policy)
MavenThis supports the Maven widget and search functionality. (Privacy Policy)
Google AdSenseThis is an ad network. (Privacy Policy)
Google DoubleClickGoogle provides ad serving technology and runs an ad network. (Privacy Policy)
Index ExchangeThis is an ad network. (Privacy Policy)
SovrnThis is an ad network. (Privacy Policy)
Facebook AdsThis is an ad network. (Privacy Policy)
Amazon Unified Ad MarketplaceThis is an ad network. (Privacy Policy)
AppNexusThis is an ad network. (Privacy Policy)
OpenxThis is an ad network. (Privacy Policy)
Rubicon ProjectThis is an ad network. (Privacy Policy)
TripleLiftThis is an ad network. (Privacy Policy)
Say MediaWe partner with Say Media to deliver ad campaigns on our sites. (Privacy Policy)
Remarketing PixelsWe may use remarketing pixels from advertising networks such as Google AdWords, Bing Ads, and Facebook in order to advertise the HubPages Service to people that have visited our sites.
Conversion Tracking PixelsWe may use conversion tracking pixels from advertising networks such as Google AdWords, Bing Ads, and Facebook in order to identify when an advertisement has successfully resulted in the desired action, such as signing up for the HubPages Service or publishing an article on the HubPages Service.
Author Google AnalyticsThis is used to provide traffic data and reports to the authors of articles on the HubPages Service. (Privacy Policy)
ComscoreComScore is a media measurement and analytics company providing marketing data and analytics to enterprises, media and advertising agencies, and publishers. Non-consent will result in ComScore only processing obfuscated personal data. (Privacy Policy)
Amazon Tracking PixelSome articles display amazon products as part of the Amazon Affiliate program, this pixel provides traffic statistics for those products (Privacy Policy)
ClickscoThis is a data management platform studying reader behavior (Privacy Policy)