Suppose that I am one of three boys at a summer camp. Each of us receives an identical care package, consisting of two bags of pretzels and two boxes of apple juice. I like pretzels and apple juice, but boy A only likes apple juice and boy B likes only pretzels. I trade one bag of pretzels to A for two boxes of apple juice. I trade one box of apple juice to B for two bags of pretzels. [OOPS. This was backwards. I trade the apple juice to A and the pretzels go B] Everyone is happier after the trading, but I wind up with three bags of pretzels and three boxes of apple juice.
How did I end up with so much, without producing any apple juice or pretzels myself? What I did was process information. I used the information about the preferences of the other boys to make them better off while earning a profit for myself. Some further remarks:
1. Because the middle man is an information processor and not a producer, his role is often resented. People talk about eliminating the middle man. But you cannot eliminate the middle man without coming up with an alternative way to process the information.
2. There is a classic article by R.A. Radford, called The Economic Organization of a P.O.W. Camp. See also Michael Munger’s essay.
3. There is often competition, involving multiple middle men. They may use similar methods, or they may use very different methods.
4. Because they are information processors and because there is competition, middle men need to be mentally sharp.
5. Finance is to a large extent a middle-man industry.
Have you read Dan Klein’s book, Knowledge and Coordination? He talks about how we too often think of information as this flat thing that you have or you don’t, whereas knowledge is a much thicker, more contingent thing. It relies on conceptual schemes and frameworks, etc.
I would describe a middleman as a knowledge worker. But also a relationships-builder; a great deal of his job is persuasion, as Deirdre McCloskey would emphasize (and does with a co-author in “One Quarter of GDP is Persuasion”). Knowledge and deal-making; mainstream econ often reduces it to flat information and transaction costs, but there’s much more to it than that.
Ray Kroc and Howard Schulz were not restaurateurs, they were equipment salesmen. They were middle men.
Well, don’t just end with 5. You often have questioned the value added of modern finance. Can you outline the criticism based on restatements/qualifications of items 1 though 5. (Will it be simply: modern finance is not very competitive, or is trading off noise, not information?
Very interesting. Just to help future readers: I think A likes pretzels and B likes apple juice, which is why you give pretzels to A in exchange for apple juice.
Now I understand a little better why people hate hoarders and speculators. A and B probably gobbled down their snacks immediately. You, on the other hand, now have the working capital to get even further ahead next month. At a certain point, this is easy to mistake for unequal endowment.
I would add that not only do the middlemen need to be mentally sharp, they have to be always on, looking for things left on the table.
In your simple example, A and B could trade directly and be better off, but they’d have to know each other and realize that there was waste due to their preferences that was actually opportunity. Perhaps you are a people person and know both boys who are in different cabins.
The middleman is “not a producer”? Well, he’s not producing (i.e., rearranging) a physical object, but he is providing a *service*.
Doesn’t the economics discipline refer to the people who engage in these sorts of activities as arbitrageurs rather than middle-men?