The Role of Profits And Losses

Competition is the keen cutting edge of business, always shaving away at costs.

-HENRY FORD

To those who run businesses, profits are obviously desirable and losses deplorable. But economics is not business administration. From the standpoint of the economy as a whole, and from the standpoint of the central concern of economics-the allocation of scarce resources which have alternative uses-profits and losses play equally important roles in maintaining and advancing the standards of living of the population as a whole.

While part of the efficiency of a price-coordinated economy comes from the fact that goods can simply "follow the money," without the producers really knowing just why people are buying one thing here and something else there and yet another thing during a different season. However, it is necessary for them to keep track not only of the money coming in from the customers, it is equally necessary to keep track of how much money is going out to those who supply raw materials, labor, parts, and other inputs. Keeping careful track of these numerous flows of money in and out can make the difference between profit and loss. Therefore electricity, machines or cement cannot be used in the same careless way that caused far more of such things to be used per unit of output in the Soviet economy than in the American economy. From the standpoint of the economy as a whole, and of the consuming public, the threat of losses is just as important as the prospect of profits.

When one business enterprise in a market economy finds ways to lower its costs, competing enterprises have no choice but to scramble to try to do the same. After the general merchandising chain Wal-Mart began selling groceries in 1988, it moved up to become the nation's largest grocery seller by the early twenty-first century. Its lower costs benefited not only its own customers, but those of other grocers as well. As the Wall Street Journal reported:

When two Wal-Mart Super centers and a rival regional grocery open near a Kroger Co. supermarket in Houston last year, the Kroger's sales dropped 10%. Store manager Ben Bustos moved quickly to slash some prices and cut labor costs, for example, by buying ready-made cakes instead of baking them in house, and ordering pre cut salad-bar items from suppliers. His employees used to stack displays by hand. Now, fruit and vegetables arrive stacked and gleaming for display.

Such moves have helped Mr. Bustos cut worker-hours by 30% to 40% from when the store opened four years ago, and lower the prices of staples such as cereal, bread, milk, eggs and disposable diapers. Earlier this year, sales at the Kroger facility finally edged up over the year before.

In short, the economy operated more efficiently, to the benefit of the consumers, not only because of Wal-Mart's ability to cut costs and lower prices, but also because this forced Kroger's to do the same. This is a microcosm of what happens throughout a free market economy. It is no accident that people in such economies tend to have higher standards of living.

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