The Law of One Price

Summary

Introduction

If I had named these lectures after individual economists – Engel, Arthur Lewis or Marx, and Gresham for the first three – this lecture would be entitled Smith's law, after Adam Smith. The law of one price states that in one market there is one price, from which it almost follows, but not quite, that when there is one price there is one market. Adam Smith put it that the division of labour was determined by the extent of the market. Like him I am suggesting that a most powerful tool for observing the course of economic history is to examine the changing – for the most part growing – size of the market for goods, services, money and factors of production, including capital, labour, business enterprise, and if one is allowed to go beyond classical limits, ideas or information. The size of the market, moreover, is determined at any one time by the costs of overcoming distance and ignorance, by differences in tastes in private and public goods, and by the imposition or removal of natural or governmental barriers to the transport of outputs and inputs and to the dissemination of knowledge.

Our tradition in economics has been to concentrate unduly on trade policy, and on the imposition and removal of tariffs, subsidies, prohibitions and the like. Early definitions of economic integration identified it with free trade. But if integration means incorporation in one market, with one price, it is evident that markets may be separated in more ways than merely by government policy.