Economists have written volumes about why markets are an effective way to organize an economy. In the end, well-functioning markets owe their effectiveness to two powerful features: property rights and the role of prices as economic signals.

By property rights we mean a system in which valuable items in the economy have specific owners who can dispose of them as they choose. In a system of property rights, by purchasing a good you receive “ownership rights”: the right to use and dispose of the good as you see fit. Property rights are what make the mutually beneficial transactions in the used-textbook market, or any market, possible.

To see why property rights are crucial, imagine that students do not have full property rights in their textbooks and are prohibited from reselling them when the semester ends. This restriction on property rights would prevent many mutually beneficial transactions. Some students would be stuck with textbooks they will never reread when they would be much happier receiving some cash instead. Other students would be forced to pay full price for brand-new books when they would be happier getting slightly battered copies at a lower price.

Once a system of well-defined property rights is in place, the second necessary feature of well-functioning markets—prices as economic signals—can operate. An economic signal is any piece of information that helps people and businesses make better economic decisions. For example, business forecasters say that sales of cardboard boxes are a good early indicator of changes in industrial production: if businesses are buying lots of cardboard boxes, you can be sure that they will soon increase their production.

But prices are far and away the most important signals in a market economy, because they convey essential information about other people’s costs and their willingness to pay. If the equilibrium price of used books is $30, this in effect tells everyone both that there are consumers willing to pay $30 and up and that there are potential sellers with a cost of $30 or less. The signal given by the market price ensures that total surplus is maximized by telling people whether to buy books, sell books, or do nothing at all.

Each potential seller with a cost of $30 or less learns from the market price that it’s a good idea to sell her book; if she has a higher cost, it’s a good idea to keep it. Likewise, each consumer willing to pay $30 or more learns from the market price that it’s a good idea to buy a book; if he is unwilling to pay $30, then it’s a good idea not to buy a book.

This example shows that the market price “signals” to consumers with a willingness to pay equal to or more than the market price that they should buy the good, just as it signals to producers with a cost equal to or less than the market price that they should sell the good. And since, in equilibrium, the quantity demanded equals the quantity supplied, all willing consumers will find willing sellers.

Prices can sometimes fail as economic signals. Sometimes a price is not an accurate indicator of how desirable a good is. When there is uncertainty about the quality of a good, price alone may not be an accurate indicator of the value of the good. For example, you can’t infer from the price alone whether a used car is good or a “lemon.” In fact, a well-known problem in economics is “the market for lemons,” a market in which prices don’t work well as economic signals.