adam smith’s wealth of nations. outline 1. introduction: modern attitudes to the market 2....

Adam Smith’s Wealth of Nations

Outline

• 1. Introduction: Modern Attitudes to the Market

• 2. Importance of the Book:– Conceptual (Commercial Society, Critique of Authority, Shift

from Politics to Society, Individual, Social Change, Social Order)

– Explanatory (Commerce and Towns as “Independent Variables” of Political and Economic Development)

• 3. Conceptual Analysis (Self-Interest, Invisible Hand, Role of the State, Taxation, Wages and Labor Theory of Value, The Poor)

“The market has spoken”

–Supporters• Public Choice• Law and Economics • Privatization of Government

Commercial Society, Free Market

–Opponents• Left: Globalization critics

•Right: Religious conservatives, cultural conservatives, Harvey Mansfield

•Civic Republicans•Communitarians: Michael Sandel

Commercial Society, Free Market

“I’ve said this consistently: the country is run by extremists because moderates have s[tuff] to do.”

Jon Stewart, Interview with Juliet Eilperin, 6/20/2006.

Outline

• 2. Importance of the Book:–Conceptual: Commercial Society• Shift from Politics to Society

Shift from Politics to Society

–Classical Theory: Political differentiation of types of human organization•Monarchies, aristocracies, republics

–Smith: Socio-Economic differentiation• Hunters, Shepherds, Farmers, Traders

Shift from Politics to SocietyClassical Theory: Cyclical theory of constitutional

growth and decay

Shift from Politics to SocietySmith: Linear, Evolutionary Progression,

from Rudeness to Civilization

Shift from Politics to Society

–Two faulty assumptions about Smith’s claims :• Not who should rule, what is the most

productive mode of organization.• Can have society with very little

government

From Politics to Society:Critique of Authority

• Bottom-up• Human Interaction • Connected to the Emergence of Property

From Politics to Society: Alternative to Social Contract Theory

–No State of Nature–No Social Contract–Rather, Evolutionary Approach

Notion of the individual

– Self-interest• Not economic rationality, rational maximizer,

let alone a marginalist thinker• Rather, sub-rational instincts a major driving

force

–Not fear of death, or just fear, not greed–Desire to better one’s own condition

Social Change

–Mechanisms of Transition:• Invisible Hand• Free Interplay of Interests • Often Unintended Consequences.

–Change (Emergence of Free Market): Not through Rational Action and Deliberate Change

–Rational Action only Negative Consequences, e.g. Policy of Europe.

Social Change—Qualifications

–C.f. Polanyi• Free Market was planned• Only Protectionism was spontaneous.

–Reliance on the Invisible Hand misguided

Social Order

–Division of Labor• C.f. Platonic Division of Labor–Unequal Social Orders

• C.f. Medieval Division of Labor–Those who fought–Those who prayed–Those who worked

Social Order

–Division of Labor

–Invisible Hand—Balancing Mechanism• Price Formation• Labor Market

Outline

• 2. Importance of the Book:– Conceptual (Commercial Society, Critique of Authority, Shift

from Politics to Society, Individual, Social Change, Social Order)

– Explanatory• Role of Towns and Trade• Historical and Policy Implications of “Smithian

Economics”

Explanation

• Three major claims, profoundly influential:– Towns central conduits of commerce, (III.iii).– Commerce and towns undermine entrenched

structures of power (III.iv)– Commerce generates liberty

III. iv: How the Commerce of the Towns contributed to the Improvement of the Country

But what all the violence of the feudal institutions could never have effected, the silent and insensible operation of foreign commerce and manufactures gradually brought about…

All for ourselves, and nothing for other people, seems, in every age of the world, to have been the vile maxim of the masters of mankind. ..

For a pair of diamond buckles perhaps, or for something as frivolous and useless, [the great lords] exchanged the maintenance…of a thousand men for a year, and with it the whole weight and authority which it could give them.

The buckles, however, were to be all their own, and no other human creature was to have any share of them… TWN, III.iv.10

“Smithian Economics”

“Smithian Economics”

Rates of Urbanization in Europe, 1300-1700

Problems with “Smithian Economics”

• If Towns Decline in Lords’ Authority– Why did Spain and Italy see Absolutist Regimes?– Why did the freest country, England, have much

fewer towns?

• If Towns Greater Commercial Growth– Why was the best economy, England’s, one of the

least urbanized?

Explanatory Importance of TWN: “Unintended Consequences” of Smith’s Ideas

20th c. Social Planning • Soviet 5 Year Plans (via Marx)

Contemporary Policy decisions• World Bank Policies• Market Transition in Eastern Europe,

Developing World• Recent Policies in Iraq

Explanatory Importance of TWN:Some Qualifications

• An unnatural trajectory for Smith:• Role of institutions, • Not government, • Rather property:–Primogeniture, entail

• Equal access to land

Explanatory Importance of TWN:Some Alternatives

On Capitalism:• Weber: Reformation, Protestantism

On Liberty:• Montesquieu: nobility, German liberty

On Liberty and Rise of the West: • Burckhardt: Classical Renaissance in Italy

Outline

• 3. Conceptual Analysis – Self-Interest– Invisible Hand– Role of the State– Taxation– Wages and Labor Theory of Value,– The Poor

Passions, Interest and Virtues

Madison, Federalist 10

…ambition must be made to counteract ambition…

This policy of supplying, by opposite and rival interests,

the defect of better motives, might be traced

through the whole system of human affairs, private as well as public…

Kant, Perpetual Peace

• …nature comes to the aid of the universal, reason-derived will…And this [nature] does, by means of [men’s] very self seeking propensities, so that [the republican constitution] only depends…on a good organisation of the state for their forces to be so pitted against one another, that the one may check the destructive activity of the other or neutralise its effect.

Invisible Hand

• If all arbitrary controls all lifted, maximum growth will ensue.

Invisible Hand, IV.ii.9

He generally, indeed, neither intends to promote the publick interest, nor knows how much he is promoting it.

By preferring the support of domestick to that of foreign industry, he intends only his own security;

and by directing that industry in such a manner…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.

Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the

society more effectually than when he really intends to promote it. (Italics Added)

No Invisible Hand: Smith on Merchants and Manufacturers

• “the mean rapacity, the monopolizing spirit of merchants and manufacturers”, IV.iii.

• “insolent outrage of furious and disappointed Monopolists” IV.ii

• “the interested sophistry of merchants and manufacturers confounded the common sense of mankind. Their interest is, in this respect, directly opposite to that of the great body of the people.” IV.iii.

“Political Œconomy”

POLITICAL Economy, considered as a branch of the science of a statesman or legislator, proposes two distinct objects;

first, to provide a plentiful revenue or subsistence for the people, or more properly to enable them to provide such a revenue or subsistence for themselves;

and secondly, to supply the state or commonwealth with a revenue sufficient for the publick services.

It proposes to enrich both the people and the sovereign. (IV, Page 428)

“Political Œconomy”

• “the skill of that insidious and crafty animal, vulgarly called a statesman or politician”, IV.ii

Claims on the Role of State

• Crown stupid and profligate• Government cannot superintend the industry

of the people• Individuals best judges of their own interest

Claims on the Role of the State

• “…the law ought always to trust people with the care of their own interest, as in their local situations they must generally be able to judge it better of it than the legislator can do.” IV. v. (italics added)

Claims on the Role of State

• Crown stupid and profligate• Government cannot superintend the industry

of the people• Individuals best judges of their own interest• Pay on performance, not fixed salary; e.g.

professors • Public works and institutions, e.g. roads, tolls,

bridges, lighting, a local responsibility; pay by those who benefit

Smith’s Claims on the Role of the State: Government or People?

• Crown stupid and profligate–No BUTS: Crown was stupid and profligate

Smith’s Claims on the Role of the State: Government or People?

• Government cannot superintend the industry of the people–BUT: Precisely because crown and

parliament stupid, need for the science of the statesman and the legislator who could uncover the self-serving ploys of the commercial interest—why was he writing a book?

Smith’s Claims on the Role of the State: Individuals Best Judges?

• Individuals best judges of their own interest–BUT: Full of examples of individuals making

wrong choices about their interests

Smith’s Claims on the Role of the State: Individuals Best Judges?

•Worker “incapable either of comprehending [society’s] interest, or of understanding its connection with his own”, I.xi.

Smith’s Claims on the Role of the State: Individuals Best Judges?

–Parliaments fell for the “the interested sophistry of merchants and manufacturers”; IV.iii.

Smith’s Claims on the Role of the State: Individuals Best Judges?

– Landowners supporting Corn Laws; IV.v.

Their indolence makes them “not only ignorant, but incapable of application of mind” on consequences of

public regulation; I.xi.

Smith’s Claims on the Role of the State: Individuals Best Judges?

–Middling and superior ranks:

“if they understood their own interest”

they would never support:• taxes on necessities, and• direct taxes on the wages of labor,

These taxes ultimately fall doubly on them, but they don’t understand their interest and clamor for such taxes. V.ii.

Smith’s Claims on the Role of the State: Private or Public?

• Pay on performance–BUT: some professions needed state

support, because self-interest not enough, officials of the public treasury, armed forces, magistracy. V.i.

Smith’s Claims on the Role of the State: Private or Public?

• Public works and institutions –BUT: Roads should not be given to private

interests, rather trusts under the oversight of the “wisdom of parliament”, V.i.

Smith’s Claims on the Role of the State: Private or Public?

• Public works and institutions – State incapacity a question of incentives:

If, as in China, The state had incentives to maintain roads, it

would do a good job; V.i.d.17

Smith’s Claims on the Role of the State: Private or Public?

• Public works and institutions –Tax farming attacked. V.ii.• Farmers “have no bowels for the contributors,

who are not their subjects”• Government can save the profit of the tax

farmer by establishing its own administration• Tax Farming will naturally tend to monopoly

Taxes

Mercantilism

–Wealth of Nations Consists in Money, especially gold.–Positive Balance of Trade–Protectionism–Customs

Tax Maxims Book V, Part II

1. Tax in proportion to abilities, to the revenue enjoyed “under the protection of the state”

2. Should be certain, in both amount and time to be paid

3. Levied at most convenient time for contributor

4. Efficient collection, minimal collection costs

Smith on Taxation: His Criticisms

• “There is no art which one government sooner learns of another than that of draining money from the pockets of the people”, V.ii

• Damaging taxes (V.ii):– On Transfers of Property– On Profits– On Wages– On Necessities

Smith on Taxation

Critique of Mercantilism ≠ Aversion to Gov’t Revenue

– Main Concern: Limits on Productivity

Smith on Taxation

• 1. Taxes on Luxuries• 2. Taxes on House Rents• 3. Taxes as Incentives• 4. Taxes in Britain compared to France• 5. Taxes as a Badge of Liberty

Smith on Taxing Luxuries

– Taxes on elite luxuries, e.g. carriages:• “the indolence and vanity of the rich is made to

contribute in a very easy manner to the relief of the poor” V.i.

– Taxes on common luxuries, e.g. tobacco:• Enforces frugality on the “sober and industrious

poor,” perhaps increasing their “ability to bring up families”, V.ii

Smith on Taxing House Rents

–A tax upon house–rents…would in general fall heaviest upon the rich; and in this sort of inequality there would not, perhaps, be any thing very unreasonable. It is not very unreasonable that the rich should contribute to the publick expence, not only in proportion to their revenue, but something more than in that proportion, V.ii.e.6

Smith on Taxes as Incentives

-Taxes to discourage landlords from unproductive use of capital, V.ii

Smith on Taxation

1. British taxes double per capita than French taxes, – Yet the French system was “in every respect

inferior” to the British– The key is that in Britain no “particular order is

oppressed”; V.ii.

French Taxes as a Percentage of British Taxes, 1690-1770

Source: European State Finance Database

Tax as a Badge of Liberty

“… poll–taxes of all kinds have often been represented as badges of slavery.

Every tax, however, is to the person who pays it a badge, not of slavery, but of liberty.

It denotes that he is subject to government, indeed, but that, as he has some property, he cannot himself be the property of a master.” V.ii.g.11, 857.

Wages

Smith on Wages and the Laboring PoorBook 1 Chapter 8

• High Wages Good for the Economy• High Profits Bad for the Economy• Wages Determined by Bargaining Power– Workers always at a Disadvantage

• Regulation in Favor of Workers Fair

On Profit

• High Profits are Bad• The more firms there are, the more profits

should tend to zero• Economic Contradiction of Capitalism: if

perfect competition, no incentives• Moral Contradiction of Capitalism: if perfect

knowledge (unhappiness of richness), no incentives (Poor Man’s Son)

Smith on the Poor

• “the beggar, who suns himself by the side of the highway, possesses that security which kings are fighting for.” TMS, IV.i,10.

Smith on the Poor

• No Provisions for Welfare– Opposed to Guild Protections

• Right to Open Granaries, only in Case of Famine

• 2 Main Proposals:– Public Education– Diversions (Entertainment)

Smith on the Poor

• “It is… the division of labour, which occasions…that universal opulence which extends itself to the lowest ranks of the people.” I.i

Smith on the Poor

• “the accommodation of an European prince does not always so much exceed that of an industrious and frugal peasant, as the accommodation of the latter exceeds that of many an African king, the absolute master of the lives and liberties of ten thousand naked savages.” I.i

Smith on the Poor

• Radical Demand for the Public Provision of Education

• Opposition to Widespread Beliefs about the Poor, for instance:– Poor had to be kept poor to remain productive

(Mandeville, Burke)– Poor were “indolent and vicious” (Joseph

Townsend)

Smith on the Poor

• “Thus he who as it were supports the whole frame of society…is himself possessed of a very small share and is buried in obscurity. He bears on his shoulders the whole of mankind, and unable to sustain the load is buried by the weight of it and thrust down into the lowest parts of the earth, from whence he supports all the rest.” (Letters on Jurisprudence, 341)

Smith on the Poor• “The man whose whole life is spent in performing a few

simple operations…has no occasion to exert his understanding…

• He…generally becomes as stupid and ignorant as it is possible for a human creature to become. The torpor of his mind renders him, not only incapable…of any rational conversation, but of conceiving any generous, noble, or tender sentiment…

• Of the great and extensive interests of his country, he is altogether incapable of judging…His dexterity at his own particular trade seems…to be acquired at the expence of his intellectual, social, and martial virtues…

• unless government takes some pains to prevent it” V.i.f.50

Smith on the Poor

No society can surely be flourishing and happy, of which the far greater part of the members are poor and miserable.

It is but equity, besides, that they who feed, cloath and lodge the whole body of the people, should have such a share of the produce of their own labour as to be themselves tolerably well fed, cloathed and lodged. I.viii. (italics added)

The End

Neo-Classical Theory of Price

• Replaces Labor Theory of Value

Neo-Classical Theory of Price

• Replaces Labor Theory of Value• Prices determined by supply and demand

Neo-Classical Theory of Price

• Replaces Labor Theory of Value• Prices determined by supply and demand• Prices in supply determined by input prices

Neo-Classical Theory of Price

• Replaces Labor Theory of Value• Prices determined by supply and demand• Prices in supply determined by input prices• But input prices determined by cost of

production, i.e. more “objective” measure

• Cost of production Input Price Supply Price (+ Demand) Market Price