Loading the player...

What does 'Invisible Hand' mean

The term “invisible hand” is a metaphor for how, in a free market economy, self-interested individuals operate through a system of mutual interdependence to promote the general benefit of society at large. It was introduced by Scottish enlightenment thinker Adam Smith in his book “An Inquiry into the Nature and Causes of the Wealth of Nations” (1776).

BREAKING DOWN 'Invisible Hand'

There are two critical ideas behind the invisible hand. First, voluntary trades in a free market produce unintentional and widespread benefits. Second, these benefits are greater than those of a regulated, planned economy.

Each free exchange creates signals about which goods and services are valuable and how difficult they are to bring to market. These signals, captured in the price system, spontaneously direct competing consumers, producers, distributors and intermediaries — each pursuing their individual plans — to fulfill the needs and desires of others.

In “The Wealth of Nations,” Adam Smith wrote:

"Every individual necessarily labors to render the annual revenue of the society as great as he can ... He intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention ... By pursuing his own interests, 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."

Smith only mentioned the invisible hand three times and just once in “The Wealth of Nations,” leaving a rather nebulous concept. Later economists better explained Smith's invisible hand, especially F.A. Hayek's “spontaneous order” and Joseph Schumpeter's “creative destruction."

Invisible Hands Guide Business Productivity

Business productivity and profitability are improved when profits and losses accurately reflect what investors and consumers want. This is well-demonstrated through a famous example in Richard Cantillon’s “An Essay on Economic Theory” (1755), the book from which Smith developed his invisible hand concept.

Cantillon described an isolated estate that divided into competing leased farms. Independent entrepreneurs ran each farm to maximize their own production and returns. The successful farmers introduced better equipment and techniques, and brought to market only those goods for which consumers were willing to pay. He showed that returns were far higher when the estate was run by competing self-interests rather than the previous landlord's command economy.

Invisible Hand, Economics and Regulation

“The Wealth of Nations” was published during the first Industrial Revolution and the same year as the American Declaration of Independence. Smith’s invisible hand became one of the primary justifications for an economic system of free market capitalism.

As a result, the business climate of the United States developed with a general understanding that voluntary private markets are more productive than government-run economies. Even government rules sometimes try to incorporate the invisible hand. Former Fed Chairman Ben Bernanke explained the "market-based approach is regulation by the invisible hand" which "aims to align the incentives of market participants with the objectives of the regulator."

RELATED TERMS
  1. Invisible Trade

    Business transactions that occur with no exchange of tangible ...
  2. Adam Smith

    An 18th-century philosopher and free-market economist famous ...
  3. Self-Interest

    Acting in the way that is most personally beneficial. Adam Smith, ...
  4. Invisible Assets

    An item of value that is intangible and that cannot be seen, ...
  5. Invisible Supply

    Physical stocks of a commodity that are available for delivery ...
  6. Microeconomic Pricing Model

    A model of the way prices are set within a market for a given ...
Related Articles
  1. Personal Finance

    What does "Invisible Hand" Mean?

    Invisible hand is a reference to a famous metaphor used by economist and philosopher Adam Smith in his classic 1776 book entitled “An Inquiry into the Nature and Causes of the Wealth of Nations.”
  2. Insights

    Adam Smith: The Father Of Economics

    This free thinker promoted free trade at a time when governments controlled most commercial interests.
  3. Insights

    Adam Smith's Legacy

    Adam Smith popularized many of the ideas that created classical economics.
  4. Insights

    Adam Smith And "The Wealth Of Nations"

    Adam Smith's 1776 classic may have had the largest global impact on economic thought.
  5. Insights

    Economist Guide: 3 Lessons Adam Smith Teaches Us

    Learn three critical lessons about economics from 18th century philosopher Adam Smith, considered by many to be the father of economics.
  6. Investing

    How Influential Economists Changed Our History

    Find out how these five groundbreaking thinkers laid our financial foundations.
  7. Insights

    Pros and Cons of Capitalist vs Socialist Economies

    Capitalism relies on the markets. Socialism, on government planning. Each system has its pros and cons.
  8. Investing

    Understanding Self-Interest

    Acting in one’s self-interest means to act in the way that is the most personally beneficial.
  9. Investing

    Box Inc: How Two Best Friends Launched a Potential Empire (BOX)

    Learn how Aaron Levie and Dylan Smith, along with other childhood friends, came up with the idea for Box Inc. in a backyard hot tub.
  10. Investing

    Capitalism

    Capitalism is an economic system in which the free market alone controls the production of goods and services. Its key features include open competition, the profit motive of producers and private ...
RELATED FAQS
  1. How does the invisible hand affect a capitalist economy?

    Take a deeper look at how the invisible hand of the market works and why it is so crucial for understanding how capitalist ... Read Answer >>
  2. What is the affect of the invisible hand on consumers?

    Discover how consumers help initiate and benefit from the invisible hand of the market, which naturally coordinates trade ... Read Answer >>
  3. What does the term 'invisible hand' refer to in the economy?

    Discover and understand the concept of the "invisible hand" as explained by Adam Smith, considered the founder of modern ... Read Answer >>
  4. What is the affect of the invisible hand on the government?

    Find out why government policy goals are often frustrated by the same forces that guide the invisible hand of the market ... Read Answer >>
  5. How does the invisible hand affect prices in the Microeconomic Pricing Model?

    Find out why the microeconomic pricing model cannot accurately describe economic phenomena, and how it misses the real causes ... Read Answer >>
  6. How is the invisible hand affected in a communist or socialist economy?

    Discover why the invisible hand of the market is compromised by socialist and communist economies, where the government controls ... Read Answer >>
Hot Definitions
  1. 403(b) Plan

    A retirement plan for certain employees of public schools, tax-exempt organizations and certain ministers. Generally, retirement ...
  2. Master Of Business Administration - MBA

    A graduate degree achieved at a university or college that provides theoretical and practical training to help graduates ...
  3. Liquidity Event

    An event that allows initial investors in a company to cash out some or all of their ownership shares and is considered an ...
  4. Job Market

    A market in which employers search for employees and employees search for jobs. The job market is not a physical place as ...
  5. Yuppie

    Yuppie is a slang term denoting the market segment of young urban professionals. A yuppie is often characterized by youth, ...
  6. SEC Form 13F

    A filing with the Securities and Exchange Commission (SEC), also known as the Information Required of Institutional Investment ...
Trading Center