Physical or Invisible Hands?
American economic theory as supported by Thomas Jefferson,
etc.,. was apparently based based on the views of independent,
Global Industrialization is based
on the production of marketable goods. Urbanisation,
moneterisation and the interdependence of markets.
Are these two opposing systems:
Hopelessly confusing modern Americans .......
destroying the rest of the world)?
Pierre Samuel du Pont
de Nemours: A prominent
Physiocrat, emigrated to the US and his son founded DuPont, the
world's second largest chemicals company. In his book la
Physiocratie, du Pont advocated low tariffs and free trade.
Physiocracy (from the Greek for "Government of Nature") is an economic theory
developed by the Physiocrats, a group of economists who
believed that the wealth of nations was derived solely from the
value of "land agriculture" or "land development."
Their theories originated in France
and were most popular during the second half of the 18th century.
Physiocracy is perhaps the first well-developed theory of economics.
The movement was particularly
dominated by François Quesnay
(1694–1774) and Anne-Robert-Jacques
It immediately preceded the first modern school, classical economics, which began
with the publication of Adam Smith's The Wealth of Nations in
The most significant contribution of
the Physiocrats was their emphasis on productive work as the
source of national wealth. This is in contrast to earlier schools,
in particular mercantilism, which often focused on
the ruler's wealth, accumulation of gold, or the balance of trade. At the time the
Physiocrats were formulating their ideas, economies were almost
entirely agrarian. That is presumably why the theory considered
only agricultural labor to be valuable. Physiocrats viewed the
production of goods and services as consumption of the
agricultural surplus, since the main source of power was from
human or animal muscle and all energy was derived from the surplus
from agricultural production.
The perceptiveness of the
Physiocrats' recognition of the key significance of land was
reinforced in the following half-century, when fossil fuels had
been harnessed through the use of steam power. Productivity
increased manyfold. Railways, and steam-powered water supply and
sanitation systems, made possible cities of several millions, with
land values many times greater than agricultural land. Thus,
whilst modern economists also recognise manufacturing as
productive and wealth-creating, the underlying principles laid
down by the Physiocrats remain valid. Physiocracy also has an
important contemporary relevance in that all life remains
dependent on the productivity of the raw soil and the ability of
the natural environment to renew itself.
Historian David B. Danbom explains, "The Physiocrats damned
cities for their artificiality and praised more natural styles of
living. They celebrated farmers."
They called themselves économistes, but are
generally referred to as physiocrats to distinguish them from the
many schools of economic thought that followed them.
Physiocracy is an agrarianist philosophy. In the late Roman Republic, the dominant senatorial class was not allowed to engage in
banking or commerce
but relied on their latifundia,
large plantations, for income. They circumvented this rule through
freedmen proxies who sold surplus agricultural goods.
After the decline of the Roman Empire,
de-urbanization led to commerce ceasing and trade declining
throughout most of western Europe. Economies became centered
around agricultural manors where
warrior-landlords, the medieval nobility,
collected rent from their serfs in the form of produce. This was
the dominant economic system until trade began to revive in the Late Middle Ages, fostering the rise of the
Another inspiration came from China's
economic system, then the largest in the world. Chinese
society broadly distinguished four occupations, with scholar-bureaucrats,
who were also agrarian landlords,
at the top and merchants at the bottom (because they did not
produce but only distributed goods made by others). Leading
physiocrats like François Quesnay were
avid Confucianists who advocated China's
Some scholars have advocated connections with the school of Agriculturalism, which promoted
Pesant, sieur de Boisguilbert served as a member of Louis XIV's local administration of
Paris, and wrote pamphlets and booklets on subjects related to his
work: taxation, grain trade, and money. Le Pesant asserted that
wealth came from self-interest and markets are connected by money
flows (i.e. an expense for the buyer is revenue for the producer).
Thus he realized that lowering prices in times of shortage –
common at the time – is dangerous economically as it acted as a
disincentive to production. Generally, Le Pesant advocated less
government interference in the grain market, as any such
interference would generate "anticipations" which would prevent
the policy from working. For instance, if the government bought
corn abroad, some people would speculate that there is likely to
be a shortage and would buy more corn, leading to higher prices
and more of a shortage. This was an early example of advocacy of
free trade. In anonymously published tracts, Vauban proposed a system known as La
dîme royale: this involved major simplification of the
French tax code by switching to a relatively flat
tax on property and trade. Vauban's use of statistics
contrasted with earlier empirical methods in economics.
Around the time of the Seven Years' War between France and
England (1756-63), the physiocracy movement grew. Several journals
appeared, signaling an increasing audience in France for new
economic ideas. Among the most important were the Journal
Œconomique (1721–72), which promoted agronomy
and rational husbandry and the Journal
du commerce (1759–62), which was heavily influenced by the
Irishman Richard Cantillon (1680–1734),
both dominated by physiocrats; the Journal de l'agriculture,
du commerce et des finances (1765–74) and the Ephémérides
du citoyen (1767–72 and 1774–76). Also, de
Gournay (1712–59), the Intendant
du commerce, brought together a group of young researchers
Véron Duverger de Forbonnais (1722–1800) and one of
the two most famous physiocrats, Anne-Robert-Jacques
Turgot (1727–81). The other, François Quesnay
(1694–1774), was among those writing prolifically in contemporary
In the 19th century Henry George in the United States advocated the
collection of land rent as the
primary if not the sole source of public revenue.
The Tableau économique
or Economic Table is an economic model first described by
François Quesnay in
1759, which laid the foundation of the Physiocrats’ economic
model Quesnay created consisted of three economic agents: the
"proprietary" class consisted only of landowners; the
"productive" class consisted of agricultural laborers; the
"sterile" class was made up of artisans and merchants. The flow
of production and/or cash between the three classes originated
with the proprietary class because they owned the land and
bought from both of the other classes.
The Physiocrats thought there was a "Natural order" that
allowed human beings to live together. Men did not come together
via a somewhat arbitrary "social contract". Rather, we have to
discover the laws of the natural order that will allow individuals
to live in society without losing significant freedoms.
The Physiocrats, especially Turgot,
believed that self-interest is the motivation for each segment of
the economy to play its role. Each individual is best suited to
determine what goods he wants and what work would provide him with
what he wants out of life. While a person might labor for the
benefit of others, he will work harder for his own benefit;
however, each person's needs are being supplied by many other
people. The system works best when there is a complementary
relationship between one person's needs and another person's
desires, and trade restrictions place an unnatural barrier to
achieving one's goals.
None of the theories concerning the
value of land could work without strong legal support for the
ownership of private property. Combined with the strong sense of
individualism, private property becomes a critical component of
the Tableau's functioning.
Turgot was one of the first to
recognize that “successive applications of the variable input will
cause the product to grow, first at an increasing rate, later at a
diminishing rate until it reaches a maximum.”
This was a recognition that the productivity gains required to
increase national wealth had an ultimate limit, and, therefore,
wealth was not infinite.
Both Quesnay and Anne Robert Jacques Turgot, Baron de Laune
recognized that capital was needed by farmers to start the
production process, and both were proponents of using some of each
year’s profits to increase productivity. Capital was also needed
to sustain the laborers while they produced their product. Turgot
recognizes that there is opportunity cost and risk involved in
using capital for something other than land ownership, and he
promotes interest as serving a “strategic function in the
Adam Smith (5 June 1723 OS – 17 July 1790) was
a Scottish moral
philosopher and a pioneer of political economy. One of the key
figures of the Scottish Enlightenment,
Adam Smith is best known for two classic works: The Theory of Moral
Sentiments (1759), and An Inquiry into the Nature and
Causes of the Wealth of Nations (1776). The latter,
usually abbreviated as The Wealth of Nations, is
considered his magnum opus and the first modern work of economics.
Smith is cited as the father of modern economics and is still
among the most influential thinkers in the field of economics
In 2009, Smith was named among the "Greatest Scots" of all time,
in a vote run by Scottish television channel STV.
Smith studied social philosophy at the University of Glasgow and at Balliol College
in the University of Oxford, where he
was one of the first students to benefit from scholarships set up
by his fellow Glaswegian John Snell. After graduating, he
delivered a successful series of public lectures at Edinburgh,
leading him to collaborate with David Hume during the Scottish Enlightenment. Smith
obtained a professorship at Glasgow teaching moral philosophy, and
during this time he wrote and published The Theory of Moral
Sentiments. In his later life, he took a tutoring position
that allowed him to travel throughout Europe, where he met other
intellectual leaders of his day. Smith then returned home and
spent the next ten years writing The Wealth of Nations,
publishing it in 1776. He died in 1790 at the age of 67.
Smith was born in Kirkcaldy,
Scotland. His father, also named Adam Smith, was a lawyer,
civil servant, and widower who married Margaret Douglas in
1720 and died two months after Smith was born.
Although the exact date of Smith's birth is unknown, his baptism
was recorded on 5 June 1723 at Kirkcaldy.
Though few events in Smith's early childhood are known, Scottish
journalist and Smith's biographer John Rae recorded that Smith
was abducted by gypsies at the age of four and released when
others went to rescue him.[N
1] Smith was close to his mother, who
likely encouraged him to pursue his scholarly ambitions.
He attended the Burgh
School of Kirkcaldy—characterised by Rae as "one of the best
secondary schools of Scotland at that period"—from 1729 to 1737.
While there, Smith studied Latin,
Smith entered the University of Glasgow when he
was fourteen and studied moral philosophy
under Francis Hutcheson.
Here, Smith developed his passion for liberty,
and free speech. In
1740, Smith was awarded the Snell exhibition
and left to attend Balliol College, Oxford.
Smith considered the teaching at
Glasgow far superior to that at Oxford, which he found
In Book V, Chapter II of The Wealth of Nations, Smith
wrote: "In the University of Oxford, the greater part of the
public professors have, for these many years, given up altogether
even the pretence of teaching." Smith is also reported to have
complained to friends that Oxford officials once discovered him
reading a copy of David Hume's Treatise
on Human Nature, and they subsequently confiscated his
book and punished him severely for reading it.
According to William Robert Scott, "The Oxford of [Smith's] time
gave little if any help towards what was to be his lifework."
Nevertheless, Smith took the opportunity while at Oxford to teach
himself several subjects by reading many books from the shelves of
the large Oxford library.
When Smith was not studying on his own, his time at Oxford was not
a happy one, according to his letters.
Near the end of his time at Oxford, Smith began suffering from
shaking fits, probably the symptoms of a nervous breakdown.
He left Oxford University in 1746, before his scholarship ended.
In Book V of The Wealth of
Nations, Smith comments on the low quality of instruction
and the meager intellectual activity at English universities,
when compared to their Scottish counterparts. He attributes this
both to the rich endowments of the colleges at Oxford and Cambridge, which made the
income of professors independent of their ability to attract
students, and to the fact that distinguished men of letters could make an
even more comfortable living as ministers of the Church of England.
Smith's discontent at Oxford might be
in part due to the absence of his beloved teacher in Glasgow, Francis Hutcheson.
Hutcheson was well regarded as one of the most prominent lecturers
at the University of Glasgow in his day and earned the approbation
of students, colleagues, and even ordinary residents with the
fervor and earnestness of his orations (which he sometimes opened
to the public). His lectures endeavored not merely to teach
philosophy but to make his students embody that philosophy in
their lives, appropriately acquiring the epithet, the preacher of
philosophy. Unlike Smith, Hutcheson was not a system builder;
rather it was his magnetic personality and method of lecturing
that so influenced his students and caused the greatest of those
to reverentially refer to him as "the never to be forgotten
Hutcheson"––a title that Smith in all his correspondence used to
describe only two people, his good friend David Hume and influential mentor Francis Hutcheson.
Smith began delivering public
lectures in 1748 in University of Edinburgh,
sponsored by the Philosophical Society of Edinburgh under the
patronage of Lord Kames.
His lecture topics included rhetoric
and later the subject of "the progress of opulence". On this
latter topic he first expounded his economic philosophy of "the
obvious and simple system of natural liberty". While
Smith was not adept at public speaking, his lectures met
In 1750, he met the philosopher David Hume, who was his senior by more than a decade.
In their writings covering history, politics, philosophy,
economics, and religion, Smith and Hume shared closer intellectual
and personal bonds than with other important figures of the
In 1751, Smith earned a professorship
at Glasgow University teaching logic
courses, and in 1752 Smith was elected a member of the
Philosophical Society of Edinburgh, having been introduced to the
society by Lord Kames. When the head of Moral
Philosophy died the next year, Smith took over the position.
He worked as an academic for the next thirteen years, which he
characterized as "by far the most useful and therefore by far the
happiest and most honorable period [of his life]".
Smith published The Theory of Moral
Sentiments in 1759, embodying some of his Glasgow
lectures. This work was concerned with how human morality depends
on sympathy between agent and spectator, or the individual and
other members of society. Smith defined "mutual sympathy" as the
basis of moral sentiments. He bases his
explanation, not on a special "moral sense" as the Third
Lord Shaftesbury and Hutcheson had done, nor on utility as Hume did, but on mutual
sympathy, a term best captured in modern parlance by the
twentieth-century concept of empathy,
the capacity to recognize feelings that are being experienced by
Following the publication of The
Theory of Moral Sentiments, Smith became so popular that
many wealthy students left their schools in other countries to
enroll at Glasgow to learn under Smith.
After the publication of The Theory of Moral Sentiments,
Smith began to give more attention to jurisprudence and economics in his
lectures and less to his theories of morals.
For example, Smith lectured that the cause of increase in national
wealth is labor, rather than the nation's quantity of gold or
silver, which is the basis for mercantilism, the economic theory
that dominated Western European economic policies at
In 1762, the University of Glasgow
conferred on Smith the title of Doctor of Laws (LL.D.). At the
end of 1763, he obtained an offer from Charles Townshend—who had been
introduced to Smith by David Hume—to tutor his stepson, Henry Scott, the
young Duke of Buccleuch. Smith then resigned from his
professorship to take the tutoring position, and he subsequently
attempted to return the fees he had collected from his students
because he resigned in the middle of the term, but his students
Smith's tutoring job entailed touring
Europe with Scott, during which time he educated Scott on a
variety of subjects – such as proper Polish.
He was paid £300 per year (plus expenses)
along with a £300 per year pension; roughly twice his former
income as a teacher.
Smith first travelled as a tutor to Toulouse,
France, where he stayed for one and a half years.
According to his own account, he found Toulouse to be somewhat
boring, having written to Hume that he "had begun to write a book
to pass away the time".
After touring the south of France, the group moved to Geneva,
where Smith met with the philosopher Voltaire.
From Geneva, the party moved to
Paris. Here Smith came to know several great intellectual leaders
of the time; invariably having an effect on his future works. This
list included: Benjamin Franklin,
Turgot, Jean D'Alembert, André Morellet, Helvétius and,
notably, François Quesnay;
head of the Physiocratic school.
So impressed with his ideas
Smith considered dedicating The Wealth of Nations to him –
had Quesnay not died beforehand.
Physiocrats were opposed to mercantilism, the dominating economic
theory of the time. Illustrated in their motto Laissez faire et laissez passer, le monde
va de lui même! (Let do and let pass, the world goes
on by itself!). They were also known to have declared that only
agricultural activity produced real wealth; merchants and
industrialists (manufacturers) did not.
This however, did not represent their true school of thought, but
was a mere 'smoke screen' manufactured to hide their actual
criticisms of the nobility and church; arguing that they made up
the only real clients of merchants and manufacturers.
The wealth of France was virtually destroyed by Louis XIV and Louis XV to ruinous wars,
by aiding the American insurgents against the British, and perhaps
most destructive (in terms of public perceptions) was what was
seen as the excessive consumption of goods and services deemed to
have no economic contribution – unproductive labour. Assuming that nobility
and church are essentially detractors from economic growth, the
feudal system of agriculture in France was the only sector
important to maintain the wealth of the nation. Given that the
English economy of the day yielded an income distribution that
stood in contrast to that which existed in France, Smith concluded
that the teachings and beliefs of Physiocrats were, "with all
[their] imperfections [perhaps], the nearest approximation to the
truth that has yet been published upon the subject of political
The distinction between productive versus unproductive labour – the physiocratic classe
steril – was a predominant issue in the development and
understanding of what would become classical economic theory.
In 1766, Henry Scott's younger
brother died in Paris, and Smith's tour as a tutor ended shortly
Smith returned home that year to Kirkcaldy, and he devoted much of
the next ten years to his magnum opus.
There he befriended Henry Moyes, a young blind man who showed precocious
aptitude. As well as teaching Moyes, Smith secured the patronage
of David Hume and Thomas Reid in the young man's education.
In May 1773, Smith was elected fellow of the Royal
Society of London,
and was elected a member of the Literary Club in
The Wealth of Nations
was published in 1776 and was an instant success, selling out its
first edition in only six months.
In 1778, Smith was appointed to a
post as commissioner of customs in Scotland and went to live with
his mother in Panmure House in Edinburgh's Canongate.
Five years later, as a member of the Philosophical Society of
Edinburgh when it received its royal charter, he automatically
became one of the founding members of the Royal Society of Edinburgh,
and from 1787 to 1789 he occupied the honorary position of Lord Rector of the
University of Glasgow.
He died in the northern wing of Panmure House in Edinburgh on 17
July 1790 after a painful illness and was buried in the Canongate Kirkyard.
On his death bed, Smith expressed disappointment that he had not
Smith's literary executors were two
friends from the Scottish academic world: the physicist and
chemist Joseph Black, and the pioneering
geologist James Hutton.
Smith left behind many notes and some unpublished material, but
gave instructions to destroy anything that was not fit for
He mentioned an early unpublished History of Astronomy as
probably suitable, and it duly appeared in 1795, along with other
material such as Essays on
Smith's library went by his will to David Douglas, Lord Reston
(son of his cousin Colonel Robert Douglas of Strathendry, Fife),
who lived with Smith. It was eventually divided between his two
surviving children, Cecilia Margaret (Mrs. Cunningham) and David
Anne (Mrs. Bannerman). On the death of her husband, the Rev. W. B.
Cunningham of Prestonpans in 1878, Mrs. Cunningham sold some of
the books. The remainder passed to her son, Professor Robert Oliver Cunningham of
Queen's College, Belfast, who presented a part to the library of
Queen's College. After his death the remaining books were sold. On
the death of Mrs. Bannerman in 1879 her portion of the library
went intact to the New College (of the Free Church), Edinburgh.
Not much is known about Smith's
personal views beyond what can be deduced from his published
articles. His personal papers were destroyed after his death at
He never married,
and seems to have maintained a close relationship with his mother,
with whom he lived after his return from France and who died six
years before his own death.
Smith was described by several of his
contemporaries and biographers as comically absent-minded, with
peculiar habits of speech and gait, and a smile of "inexpressible
He was known to talk to himself,
a habit that began during his childhood when he would smile in
rapt conversation with invisible companions.
He also had occasional spells of imaginary illness,
and he is reported to have had books and papers placed in tall
stacks in his study.
According to one story, Smith took Charles Townshend on a tour of
factory, and while discussing free trade, Smith walked into a huge tanning
pit from which he needed help to escape.
He is also said to have put bread and butter into a teapot, drunk
the concoction, and declared it to be the worst cup of tea he ever
had. According to another account, Smith distractedly went out
walking in his nightgown and ended up 15 miles (24 km)
outside of town, before nearby church bells brought him back to
James Boswell who was a student of Smith's at
Glasgow University, and later knew him at the Literary
Club, says that Smith thought that speaking about his ideas
in conversation might reduce the sale of his books, and so his
conversation was unimpressive. According to Boswell, he once told
Sir Joshua Reynolds that 'he made it
a rule when in company never to talk of what he understood'.
Smith, who is reported to have been
an odd-looking fellow, has been described as someone who "had a
large nose, bulging eyes, a protruding lower lip, a nervous
twitch, and a speech impediment".
Smith is said to have acknowledged his looks at one point, saying,
"I am a beau in nothing but my books."
Smith rarely sat for portraits,
so almost all depictions of him created during his lifetime were
drawn from memory. The best-known portraits of Smith are the
profile by James Tassie and two etchings
by John Kay.
The line engravings produced for the covers of 19th century
reprints of The Wealth of Nations were based largely on
There has been considerable scholarly
debate about the nature of Smith's religious views. Smith's father
had shown a strong interest in Christianity and belonged to the
moderate wing of the Church of Scotland.
The fact that Adam Smith received the Snell Exhibition suggests
that he may have gone to Oxford with the intention of pursuing a
career in the Church of England. It is generally
believed that at Oxford Smith rejected Christianity, returning to
Scotland a deist.
Anglo-American economist Ronald Coase has challenged the view that Smith was a
deist, based on the fact that Smith's writings never explicitly
invoke God as an explanation of the harmonies of the natural or
the human worlds.
According to Coase, though Smith does sometimes refer to the "Great Architect of the
Universe", later scholars such as Jacob Viner have "very much exaggerated the extent to
which Adam Smith was committed to a belief in a personal God",
a belief for which Coase finds little evidence in passages such as
the one in the Wealth of Nations in which Smith writes
that the curiosity of mankind about the "great phenomena of
nature", such as "the generation, the life, growth and dissolution
of plants and animals", has led men to "enquire into their
causes", and that "superstition first attempted to satisfy this
curiosity, by referring all those wonderful appearances to the
immediate agency of the gods. Philosophy afterwards endeavoured to
account for them, from more familiar causes, or from such as
mankind were better acquainted with than the agency of the gods".
Smith was also a close friend and
later the executor of David Hume, who was commonly characterized in his own
time as an "atheist".
The publication in 1777 of Smith's letter to William Strahan, in which he
described Hume's courage in the face of death in spite his
irreligiosity, attracted considerable controversy.
Theory of Moral Sentiments
In 1759, Smith published his first
work, The Theory of Moral Sentiments. He continued making
extensive revisions to the book, up until his death.[N
2] Although The Wealth of Nations
is widely regarded as Smith's most influential work, it is
believed that Smith himself considered The Theory of Moral
Sentiments to be a superior work.
In the work, Smith critically
examines the moral thinking of his time, and suggests that
conscience arises from social relationships.
His goal in writing the work was to explain the source of
mankind's ability to form moral judgements, in spite of man's
natural inclinations towards self-interest. Smith proposes a
theory of sympathy, in which the act of observing others makes
people aware of themselves and the morality of their own behavior.
Scholars have traditionally perceived
a conflict between The Theory of Moral Sentiments and The
Wealth of Nations; the former emphasizes sympathy for
others, while the latter focuses on the role of self-interest.
In recent years, however, some scholars
of Smith's work have argued that no contradiction exists.
They claim that in The Theory of Moral Sentiments, Smith
develops a theory of psychology in which individuals seek the
approval of the "impartial spectator" as a result of a natural
desire to have outside observers sympathize with them. Rather than
viewing The Wealth of Nations and The Theory of Moral
Sentiments as presenting incompatible views of human nature,
some Smith scholars regard the works as emphasizing different
aspects of human nature that vary depending on the situation.
These views ignore that Smith's visit
to France (1764–66) changed radically his former views and that The
Wealth of Nations is an inhomogeneous convolute of his
former lectures and of what Quesnay taught him.
Before his voyage to France in The Theory of Moral Sentiments,
Adam Smith refers to an "invisible hand" ("By preferring the
support of domestic to that of foreign industry, [an individual]
intends only his own security; and by directing that industry in
such a manner as its produce may be of the greatest value, he
intends only his own gain, and he is in this, as in many other
eases, led by an invisible hand to promote an end which was no
part of his intention.") 
which ensures that the gluttony of the rich helps the poor, as the
stomachs of rich are so limited that they have to spend their
fortune on servants. After his visit to France, Smith considers in
the Wealth of Nations (1776) the gluttony of the rich as unproductive labour. The
micro-economical/psychological view in the tradition of Aristotle,
Puffendorf and Hutcheson,
Smith's teacher, – elements compatible with a neoclassical theory
– changed to the macro-economical view of the classical theory
Smith learned in France.
There is a fundamental disagreement
between classical and neoclassical economists about the central
message of Smith's most influential work: An Inquiry into the
Nature and Causes of the Wealth of Nations. Neoclassical
economists emphasise Smith's invisible hand,
a concept mentioned in the middle of his work – book IV, chapter
II – and classical economists believe that Smith stated his
programme for promoting the "wealth of nations" in the first
Smith used the term "the invisible hand" in "History of
referring to "the invisible hand of Jupiter" and twice – each time
with a different meaning – the term "an invisible hand": in The Theory of Moral
(1759) and in The Wealth of Nations
(1776). This last statement about "an invisible hand" has been
interpreted as "the invisible hand" in numerous ways. It is
therefore important to read the original:
As every individual, therefore, endeavours as much as he can
both to employ his capital in the support of domestic industry,
and so to direct that industry that its produce may be of the
greatest value; every individual necessarily labours to render
the annual revenue of the society as great as he can. He
generally, indeed, neither intends to promote the public
interest, nor knows how much he is promoting it. By
preferring the support of domestic to that of foreign industry,
he intends only his own security; and by directing that industry
in such a manner as its produce may be of the greatest value, he
intends only his own gain, and he is in this, as in many
other eases, 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.
I have never known much good done by those who affected to trade
for the public good. It is an affectation, indeed, not very
common among merchants, and very few words need be employed in
dissuading them from it.
Those who regard that statement as
Smith's central message also quote frequently Smith's dictum:
It is not from the benevolence of the butcher, the brewer, or
the baker, that we expect our dinner, but from their regard to
their own interest. We address ourselves, not to their humanity
but to their self-love, and never talk to them of our own
necessities but of their advantages.
Smith's statement about the benefits
of "an invisible hand" is certainly meant to answer[citation
needed] Mandeville's contention that
"Private Vices ... may be turned into Public Benefits".
It shows Smith's belief that when an individual pursues his
self-interest, he indirectly promotes the good of society.
Self-interested competition in the free market, he argued, would
tend to benefit society as a whole by keeping prices low, while
still building in an incentive for a wide variety of goods and
services. Nevertheless, he was wary of businessmen and warned of
their "conspiracy against the public or in some other contrivance
to raise prices."
Again and again, Smith warned of the collusive nature of business
interests, which may form cabals or monopolies,
fixing the highest price "which can be squeezed out of the
Smith also warned that a business-dominated political system would
allow a conspiracy of businesses and industry against consumers,
with the former scheming to influence politics and legislation.
Smith states that the interest of manufacturers and merchants
"...in any particular branch of trade or manufactures, is always
in some respects different from, and even opposite to, that of the
public...The proposal of any new law or regulation of commerce
which comes from this order, ought always to be listened to with
great precaution, and ought never be adopted till after having
been long and carefully examined, not only with the most
scrupulous, but with the most suspicious attention."
The neoclassical interest in Smith's
statement about "an invisible hand" originates in the possibility
to see it as a precursor of neoclassical economics and
its General Equilibrium
concept. Samuelson's "Economics" refers 6
times to Smith's "invisible hand". To emphasize this relation,
quotes Smith's "invisible hand" statement putting "general
interest" where Smith wrote "publick interest". Samuelson
concluded: "Smith was unable to prove the essence of his
invisible-hand doctrine. Indeed, until the 1940s no one knew how
to prove, even to state properly, the kernel of truth in this
proposition about perfectly competitive market."
Very differently, classical
economists see in Smith's first sentences his programme to promote
"The Wealth of Nations". Taking up the physiocratical concept of the economy as
a circular process means that to have growth the inputs of period2
must excel the inputs of period1. Therefore the outputs of period1
not used or usable as input of period2 are regarded as unproductive labour as they do not
contribute to growth. This is what Smith had learned in France
with Quesnay. To this French
insight that unproductive labour should be pushed back
to use more labour productively, Smith added his own proposal,
that productive labour should be made even more productive by
deepening the division of labour. Deepening the
division of labour means under competition lower prices and
thereby extended markets. Extended markets and increased
production lead to a new step of reorganising production and
inventing new ways of producing which again lower prices, etc.,
etc.. Smith's central message is therefore that under dynamic
competition a growth machine secures "The Wealth of Nations". It
predicted England's evolution as the workshop of the World,
underselling all its competitors. The opening sentences of the
"Wealth of Nations" summarize this policy:
labour of every nation is the fund which originally supplies it
with all the necessaries and conveniences of life which it
annually consumes ... . [T]his produce ... bears a greater or
smaller proportion to the number of those who are to consume it
... .[B]ut this proportion must in every nation be regulated by
two different circumstances;
- first, by the skill, dexterity, and judgment with
which its labour is generally applied; and,
- secondly, by the proportion between the number of
those who are employed in useful labour, and that of
those who are not so employed [emphasis added].
Prominent interpretation, as well as
criticism, of Smith's views on the societal merits of unregulated
labor management by the ruling class is expressed by Noam Chomsky as follows: "He's pre-capitalist, a
figure of the Enlightenment. What we would call capitalism he
despised. People read snippets of Adam Smith, the few phrases they
teach in school. Everybody reads the first paragraph of The Wealth
of Nations where he talks about how wonderful the division of
labor is. But not many people get to the point hundreds of pages
later, where he says that division of labor will destroy human
beings and turn people into creatures as stupid and ignorant as it
is possible for a human being to be. And therefore in any
civilized society the government is going to have to take some
measures to prevent division of labor from proceeding to its
Shortly before his death, Smith had
nearly all his manuscripts destroyed. In his last years, he seemed
to have been planning two major treatises, one on the theory and
history of law and one on the sciences and arts. The posthumously
published Essays on Philosophical Subjects, a history of astronomy
down to Smith's own era, plus some thoughts on ancient physics
and metaphysics, probably contain parts of
what would have been the latter treatise. Lectures on Jurisprudence
were notes taken from Smith's early lectures, plus an early draft
of The Wealth of Nations, published as part of the 1976
Glasgow Edition of the works and correspondence of Smith. Other
works, including some published posthumously, include Lectures
on Justice, Police, Revenue, and Arms (1763) (first
published in 1896); and Essays on Philosophical Subjects
economics and moral philosophy
The Wealth of Nations was a
precursor to the modern academic discipline of economics. In this
and other works, Smith expounded how rational self-interest and
competition can lead to economic prosperity. Smith was
controversial in his own day and his general approach and writing
style were often satirized by Tory writers in the moralizing
tradition of Hogarth and Swift, as a discussion at the University
of Winchester suggests.
In 2005, The Wealth of Nations was named among the 100
Best Scottish Books of all time.
Former British Prime Minister Margaret Thatcher, it is said,
used to carry a copy of the book in her handbag.
In light of the arguments put forward
by Smith and other economic theorists in Britain, academic belief
in mercantalism began to decline in England in the late 18th
century. During the Industrial Revolution, Britain embraced free
trade and Smith's laissez-faire economics, and via the British
Empire, used its power to spread a broadly liberal economic model
around the world, characterized by open markets, and relatively
barrier free domestic and international trade.
George Stigler attributes to Smith "the most
important substantive proposition in all of economics." It is
that, under competition, owners of resources (for example labor,
land, and capital) will use them most profitably, resulting in an
equal rate of return in equilibrium for all uses,
adjusted for apparent differences arising from such factors as
training, trust, hardship, and unemployment.
Paul Samuelson finds in Smith's pluralist use of
supply and demand as applied to wages, rents, profit a valid and
valuable anticipation of the general
equilibrium modeling of Walras
a century later. Smith's allowance for wage increases in the short
and intermediate term from capital accumulation and invention
added a realism missed later by Malthus, Ricardo, and Marx in
their propounding a rigid subsistence-wage theory of labour
On the other hand, Joseph Schumpeter dismissed
Smith's contributions as unoriginal, saying "His very limitation
made for success. Had he been more brilliant, he would not have
been taken so seriously. Had he dug more deeply, had he unearthed
more recondite truth, had he used more difficult and ingenious
methods, he would not have been understood. But he had no such
ambitions; in fact he disliked whatever went beyond plain common
sense. He never moved above the heads of even the dullest readers.
He led them on gently, encouraging them by trivialities and homely
observations, making them feel comfortable all along."
Classical economists presented
competing theories of those of Smith, termed the "labour theory
of value". Later Marxian economics descending from classical
economics also use Smith's labour theories, in part. The first
volume of Karl Marx's major work, Capital,
was published in German in 1867. In it, Marx focused on the labour
theory of value and what he considered to be the exploitation of
labour by capital.
The labour theory of value held that the value of a thing was
determined by the labor that went into its production. This
contrasts with the modern understanding of mainstream economics, that the
value of a thing is determined by what one is willing to give up
to obtain the thing.
The body of theory later termed
"neoclassical economics" or "marginalism" formed from about 1870 to
1910. The term "economics" was popularized by such neoclassical
economists as Alfred Marshall as a concise synonym
for "economic science" and a substitute for the earlier, broader
term "political economy" used by Smith.
This corresponded to the influence on the subject of mathematical
methods used in the natural sciences.
Neoclassical economics systematized supply and demand as joint
determinants of price and quantity in market equilibrium,
affecting both the allocation of output and the distribution of
income. It dispensed with the labour theory
of value of which Smith was most famously identified with in
classical economics, in favour of a marginal utility theory of value on
the demand side and a more general theory of costs on the supply
The bicentennial anniversary of the
publication of The Wealth of Nations was celebrated in
1976, resulting in increased interest for The Theory of Moral
Sentiments and his other works throughout academia. After
1976, Smith was more likely to be represented as the author of
both The Wealth of Nations and The Theory of Moral
Sentiments, and thereby as the founder of a moral philosophy
and the science of economics. His homo economicus or "economic
man" was also more often represented as a moral person.
Additionally, economists David Levy and Sandra Peart in "The
Secret History of the Dismal Science" point to his opposition to
hierarchy and beliefs in inequality, including racial inequality,
and provide additional support for those who point to Smith's
opposition to slavery, colonialism, and empire.
They show the caricatures of Smith drawn by the opponents of views
on hierarchy and inequality in this online article. Emphasized
also are Smith's statements of the need for high wages for the
poor, and the efforts to keep wages low. In The “Vanity of the
Philosopher”: From Equality to Hierarchy in Postclassical
Economics Peart and Levy also cite Smith's view that a common
street porter was not intellectually inferior to a philosopher,
and point to the need for greater appreciation of the public views
in discussions of science and other subjects now considered to be
technical. They also cite Smith's opposition to the often
expressed view that science is superior to common sense.
Smith also explained the relationship
between growth of private property and civil government:
"Men may live together in society
with some tolerable degree of security, though there is no civil
magistrate to protect them from the injustice of those passions.
But avarice and ambition in the rich, in the poor the hatred of
labour and the love of present ease and enjoyment, are the
passions which prompt to invade property, passions much more
steady in their operation, and much more universal in their
influence. Wherever there is great property there is great
inequality. For one very rich man there must be at least five
hundred poor, and the affluence of the few supposes the indigence
of the many. The affluence of the rich excites the indignation of
the poor, who are often both driven by want, and prompted by envy,
to invade his possessions. It is only under the shelter of the
civil magistrate that the owner of that valuable property, which
is acquired by the labour of many years, or perhaps of many
successive generations, can sleep a single night in security. He
is at all times surrounded by unknown enemies, whom, though he
never provoked, he can never appease, and from whose injustice he
can be protected only by the powerful arm of the civil magistrate
continually held up to chastise it. The acquisition of valuable
and extensive property, therefore, necessarily requires the
establishment of civil government. Where there is no property, or
at least none that exceeds the value of two or three days' labour,
civil government is not so necessary. Civil government supposes a
certain subordination. But as the necessity of civil government
gradually grows up with the acquisition of valuable property, so
the principal causes which naturally introduce subordination
gradually grow up with the growth of that valuable property. (...)
Men of inferior wealth combine to defend those of superior wealth
in the possession of their property, in order that men of superior
wealth may combine to defend them in the possession of theirs. All
the inferior shepherds and herdsmen feel that the security of
their own herds and flocks depends upon the security of those of
the great shepherd or herdsman; that the maintenance of their
lesser authority depends upon that of his greater authority, and
that upon their subordination to him depends his power of keeping
their inferiors in subordination to them. They constitute a sort
of little nobility, who feel themselves interested to defend the
property and to support the authority of their own little
sovereign in order that he may be able to defend their property
and to support their authority. Civil government, so far as it is
instituted for the security of property, is in reality instituted
for the defence of the rich against the poor, or of those who have
some property against those who have none at all." (Source: The
Wealth of Nations, Book 5, Chapter 1, Part 2)
Adam Smith resided at Panmure house
from 1778-90. This residence has now been purchased by the
Edinburgh Business School at Heriot Watt University and
fundraising has begun to restore it.
Part of the Northern end of the original building appears to have
been demolished in the 19th century to make way for an iron
a symbol of free market economics
Smith has been celebrated by
advocates of free market policies as the founder of free market
economics, a view reflected in the naming of bodies such as the Adam Smith Institute in London,
the Adam Smith Society
and the Australian Adam Smith Club,
and in terms such as the Adam Smith necktie.
Alan Greenspan argues that, while Smith did not
coin the term laissez-faire, "it was left to
Adam Smith to identify the more-general set of principles that
brought conceptual clarity to the seeming chaos of market
transactions". Greenspan continues that The Wealth of Nations
was "one of the great achievements in human intellectual history".
P. J. O'Rourke describes Smith as the "founder
of free market economics".
However, other writers have argued
that Smith's support for laissez-faire (which in French
means leave alone) has been overstated. Herbert Stein wrote that the people who "wear an Adam
Smith necktie" do it to "make a statement of their devotion to the
idea of free markets and limited government", and that
this misrepresents Smith's ideas. Stein writes that Smith "was not
pure or doctrinaire about this idea. He viewed government
intervention in the market with great skepticism ... yet he was
prepared to accept or propose qualifications to that policy in the
specific cases where he judged that their net effect would be
beneficial and would not undermine the basically free character of
the system. He did not wear the Adam Smith necktie." In Stein's
reading, The Wealth of Nations could justify the Food and Drug
Administration, the Consumer
Product Safety Commission, mandatory employer health
benefits, environmentalism, and "discriminatory taxation to deter improper
or luxurious behavior".
Similarly, Vivienne Brown stated in The Economic Journal that
in the 20th century United States, Reaganomics supporters, The Wall Street Journal,
and other similar sources have spread among the general public a
partial and misleading vision of Smith, portraying him as an
"extreme dogmatic defender of laissez-faire capitalism and supply-side economics".
In fact, The Wealth of Nations includes the following
statement on the payment of taxes:
"The subjects of every state ought to contribute towards the
support of the government, as nearly as possible, in proportion
to their respective abilities; that is, in proportion to the
revenue which they respectively enjoy under the protection of
Moreover, in this passage Smith goes
on to specify that progressive, not flat, taxation would be
"It is not very unreasonable that the rich should contribute to
the public expense, not only in proportion to their revenue, but
something more than in that proportion."
Smith even specifically named taxes
that he thought should be required by the state among them luxury
goods taxes and tax on rent. He believed that tax laws should be
as transparent as possible and that each individual should pay a
"certain amount, and not arbitrary," in addition to paying this
tax at the time "most likely to be convenient for the contributor
to pay it".
Smith goes on to state that:
"Every tax, however, is, to the person who pays it, a badge,
not of slavery, but of liberty."
Additionally, Smith outlined the
proper expenses of the government in The Wealth of Nations,
Book V, Ch. I. Included in his requirements of a government
is to enforce contracts and provide justice system, grant patents
and copy rights, provide public goods such as infrastructure,
provide national defense and regulate banking. It was the role of
the government to provide goods "of such a nature that the profit
could never repay the expense to any individual" such as roads,
bridges, canals, and harbours. He also encouraged invention and
new ideas through his patent enforcement and support of infant
industry monopolies. he supported public education and religious
institutions as providing general benefit to the society. Finally
he outlined how the government should support the dignity of the
monarch or chief magistrate, such that they are equal or above the
public in fashion. He even states that monarchs should be provided
for in a greater fashion than magistrates of a republic because
"we naturally expect more splendor in the court of a king than in
the mansion-house of a doge."
In addition, he was in favor of retaliatory tariffs and believed
that they would eventually bring down the price of goods. He even
stated in Wealth of Nations:
"The recovery of a great foreign market will generally more
than compensate the transitory inconvenience of paying dearer
during a short time for some sorts of goods."
Noam Chomsky has argued[N
3] that several aspects of Smith's
thought have been misrepresented and falsified by contemporary
ideology, including Smith's reasons for supporting markets and
Smith's views on corporations. Chomsky argues that Smith supported
markets in the belief that they would lead to equality, and that
Smith opposed wage labor and corporations.
historians such as Jacob Viner regard Smith as a strong advocate of free
markets and limited government (what Smith called "natural
liberty") but not as a dogmatic supporter of laissez-faire.
Economist Daniel Klein believes using the term
"free market economics" or "free market economist" to identify the
ideas of Smith is too general and slightly misleading. Klein
offers six characteristics central to the identity of Smith's
economic thought and argues that a new name is needed to give a
more accurate depiction of the "Smithian" identity.
Economist David Ricardo set straight some of the
misunderstandings about Smith's thoughts on free market. Most
people still fall victim to the thinking that Smith was a free
market economist without exception, though he was not. Ricardo
pointed out that Smith was in support of helping infant
industries. Smith believed that the government should subsidise
newly formed industry, but he did fear that when the infant
industry grew into adulthood it would be unwilling to surrender
the government help.
Smith also supported tariffs on imported goods to counteract an
internal tax on the same good. Smith also fell to pressure in
supporting some tariffs in support for national defense.
Some have also claimed, Emma Rothschild among them,
that Smith supported a minimum wage.
Though, Smith had written in his book
The Wealth of Nations:
"The price of
labour, it must be observed, cannot be ascertained very accurately
anywhere, different prices being often paid at the same place and
for the same sort of labour, not only according to the different
abilities of the workmen, but according to the easiness or
hardness of the masters. Where wages are not regulated by law, all
that we can pretend to determine is what are the most usual; and
experience seems to show that law can never regulate them
properly, though it has often pretended to do so." (Source: The Wealth of Nations, Book
1, Chapter 8)
Adam Smith and the
necessarily labours to render the annual revenue of the society
as great as he can. He generally, indeed, neither intends to
promote the public interest, nor knows how much he is promoting
it. By preferring the support of domestic to that of foreign
industry, he intends only his own security; and by directing
that industry in such a manner as its produce may be of the
greatest value, 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. I have never known much good done by those who affected to
trade for the public good.
In this passage, taken from his 1776
book "An Inquiry into the Nature and Causes of the Wealth of
Nations" Adam Smith set out the mechanism by which he felt
economic society operated. Each individual strives to become
wealthy "intending only his own gain" but to this end he must
exchange what he owns or produces with others who sufficiently
value what he has to offer; in this way, by division of labour and
a free market, public interest is advanced.
Smith is often regarded as the father
of economics, and his writings have been enormously influential.
Nowadays, "invisible hand" explanations are invoked to explain all
sorts of phenomena, from scientific progress to environmental
degradation. In the modern context, mathematicians study
"invisible hand" processes as part of Game Theory, the branch of
mathematics that deals with payoffs and strategies (see Game
Theory and the Cuban Missile Crisis) in Issue 13 of Plus.
Smith was profoundly religious, and
saw the "invisible hand" as the mechanism by which a benevolent
God administered a universe in which human happiness was
maximised. He made it clear in his writings that quite
considerable structure was required in society before the
invisible hand mechanism could work efficiently. For example,
property rights must be strong, and there must be widespread
adherence to moral norms, such as prohibitions against theft and
misrepresentation. Theft was, to Smith, the worst crime of all,
even though a poor man stealing from a rich man may increase
overall happiness. He even went so far as to say that the purpose
of government is to defend the rich from the poor.
Here is a description of the way
Smith imagined the universe operates:
- There is a benevolent deity who administers the world in
such a way as to maximise human happiness.
- In order to do this he has created humans with a nature that
leads them to act in a certain way.
- The world as we know it is pretty much perfect, and everyone
is about equally happy. In particular, the rich are no happier
than the poor.
- Although this means we should all be happy with our lot in
life, our nature (which, remember, was created by God for the
purpose of maximising happiness) leads us to think that we
would be happier if we were wealthier.
- This is a good thing, because it leads us to struggle to
become wealthier, thus increasing the sum total of human
happiness via the mechanisms of exchange and division of
It is clear why Smith says that moral
norms are necessary for such a system to work - in order for
exchange to proceed, contracts must be enforceable, people must
have good access to information about the products and services
available, and the rule of law must hold.
The modern "Invisible Hand"
Nowadays, something much more general
is meant by the expression "invisible hand". An invisible hand
process is one in which the outcome to be explained is produced in
a decentralised way, with no explicit agreements between the
acting agents. The second essential component is that the process
is not intentional. The agents' aims are not coordinated nor
identical with the actual outcome, which is a byproduct of those
aims. The process should work even without the agents having any
knowledge of it. This is why the process is called invisible.
The system in which the invisible
hand is most often assumed to work is the free market. Adam Smith
assumed that consumers choose for the lowest price, and that
entrepreneurs choose for the highest rate of profit. He asserted
that by thus making their excess or insufficient demand known
through market prices, consumers "directed" entrepreneurs'
investment money to the most profitable industry. Remember that
this is the industry producing the goods most highly valued by
consumers, so in general economic well-being is increased.
One extremely positive aspect of a
market-based economy is that it forces people to think about what
other people want. Smith saw this as a large part of what was good
about the invisible hand mechanism. He identified two ways to
obtain the help and co-operation of other people, upon which we
all depend constantly. The first way is to appeal to the
benevolence and goodwill of others. To do this a person must often
act in a servile and fawning way, which Smith found repulsive, and
he claimed it generally meets with very limited success. The
second way is to appeal instead to other people's self-interest.
In one of his most famous quotes:
Man has almost constant
occasion for the help of his brethren, and it is in vain for him
to expect it from their benevolence only. He will be more likely
to prevail if he can interest their self-love in his favour, and
show them that it is for their own advantage to do for him what
he requires of them. Whoever offers to another a bargain of any
kind, proposes to do this. Give me what I want, and you shall
have this which you want, is the meaning of every such offer;
and it is the manner that we obtain from one another the far
greater part of those good offices which we stand in need of. It
is not from the benevolence of the butcher, the brewer, or the
baker that we expect our dinner, but from their regard to their
own interest. We address ourselves, not to their humanity but to
For Smith, to propose an exchange is
to attempt to show another that what you can do, or what you have,
can be of use to the other. When you carry out the exchange, it
means the other person recognises that what you can do or that
what you have is of value. This is why so much of a person's
self-esteem is bound up in their job - a well-paid job is supposed
to be a sign that others value your contribution and find it worth
exchanging their own resources for.
How wise is the Invisible Hand?
with permission from: The Warren J. Samuels Portrait Collection
at Duke University
The theory of the invisible hand is
certainly persuasive, and its simplicity is also very attractive.
No doubt every reader can see that it describes the way that
things really work on many occasions, and, whether we find it
palatable or not, we probably all recognise the truth of Smith's
assertion that paying for your dinner is a more reliable way to
get it than appealing to the benevolence of others.
But, even assuming all the correct
conditions, does the invisible hand theory really lead to the
maximisation of human economic wellbeing in some sense, as Smith
asserts? This is where mathematics, in the form of Game Theory,
can provide us with some insights.
The Prisoner's Dilemma
The "Prisoner's Dilemma" is a very
famous "paradox" in Game Theory. It describes two people in a
simple situation, acting in an informed manner, both attempting to
maximise their wellbeing, and yet making choices that lead to an
unnecessarily poor outcome for both.
Two people, who are suspected of
being accomplices in a crime, are held prisoner in separate,
non-communicating cells. The police visit each prisoner, and tell
both that if neither confesses, each will be sentenced to two
years in jail. However, if exactly one prisoner confesses,
implicating each other, the one who confesses will get off
scot-free as a reward, and the other, who didn't confess, will
receive a punitive sentence of five years. If each confesses and
implicates the other, both will be sentenced to three years.
What should a prisoner in this
situation do? Suppose that the other prisoner doesn't confess.
Then the best course of action is to confess, and go free. Even if
the other prisoner does confess, it will be better to have done
likewise - at least the sentence will be lower. Both prisoners
will reason thus, so both will confess and end up serving
sentences of three years - even though, if both had remained
silent, both would have served sentences of only two years.
It may not be immediately clear what
the relevance of the Prisoner's Dilemma is to Smith's theory of
the Invisible Hand. In fact, it has a number of implications for
The temptation to default
We can think of the prisoners as
being asked to decide whether to keep a contract they have made
with each other (remain silent) or to default (confess and betray
the other). Similar choices have to be made all the time in
economic society. When two people freely agree to exchange goods
or services to their mutual benefit, each must decide whether to
try to cheat the other by defaulting, or handing over counterfeit
goods, or whether to act in good faith and risk the other party
defaulting. Obviously, both parties are better off if neither
default than if both default - after all, we suppose they
willingly contracted with each other - but each would like to get
something for nothing, and each is afraid the other will feel the
same. The result may well be that the parties are unable to carry
out the exchange as arranged, and both lose out.
The reason we don't see this
behaviour too often is because we live in a society where courts
can enforce contracts. This reduces the fear of the other party
defaulting, and makes it easier to hand over goods ahead of
receiving whatever is to be exchanged for them. In illegal
exchanges, for example, receiving stolen goods, default is more
common, and rather difficult for criminals to guard against.
Enforcing laws of contract requires
cooperation and resources from someone else - in democratic
societies, the courts on behalf of the government and the people.
But courts and prisons and police cost money and most of the costs
fall on people who were not party to the contract in the first
place - who are therefore paying for a service that doesn't
directly benefit themselves. Such courts fall into the category of
"public good" - we are all better off in a society where the rule
of law is upheld - but are not created and maintained by any
invisible hand mechanism. Courts are set up deliberately to carry
out a public good; and, although they may not always work the way
they are intended to, there is nothing unintended about their use
to enforce contracts.
In a democratic society, there is a
strong temptation for "special-interest" groups to form and lobby
the government to provide tax-payers' money to the group in the
form of subsidies. Politicians find the prospect of buying the
loyalty of the group attractive, and the group sees the prospect
of getting other people's money for nothing. Clearly, everyone
would be better off if no one sought subsidies - by definition,
subsidies are only needed for unprofitable activities, that is,
activities that other people do not value sufficiently to pay
their own money for. However, if other people seek and gain
subsidies, anyone who doesn't bother trying to do the same for
themselves will end up subsidising others while receiving no
subsidies themselves. This fear may force large numbers of people
to spend their time lobbying the government for subsidies, rather
than simply engaging in more profitable activities - a classic
example of the Prisoner's Dilemma, and one over which no court has
A very similar situation occurs
regarding monopolies. Since pretty much every producer is a
consumer, it is probably to everybody's benefit overall if no
producers attempt to raise prices by monopolising their market;
however, attempting to enforce a monopoly can be very attractive
to individual producers. Smith rather sardonically observed that
"People of the same trade
seldom meet together even for merriment and diversion, but the
conversation ends in a conspiracy against the public or some
contrivance to raise prices."
As explained in the Editorial
of Issue 13 of Plus, Arrow's Impossibility Theorem says
that, in a certain sense, it is impossible to produce a consistent
group preference by aggregating individual preferences. It is
normally stated in terms of votes and elections, and, in this
format, says that is impossible to use information about
individual voters' preferences to decide what is "the will of the
people". Every voting system in current use throws up anomalies,
such as "flip-flops", which occur when a third candidate enters
the race and overturns the group preference between the other two
candidates (think of Ralph Nader in California, splitting Al
Gore's vote and handing George Bush the election).
The "will of the people"
Again, the relevance to allocation of
public goods is not immediately obvious - until you recall that an
essential part of the invisible hand process is that producers
respond to an single signal that is meant to be an aggregate of
all signals by consumers. Arrow's Theorem is often interpreted as
saying that there is no consistent way to aggregate the
preferences of individuals to give a single preference which can
be regarded as the preference of society - or "the will of the
An economic version of the flip-flop
could occur if a majority of customers would prefer to buy Product
X to Product Y, but some of that majority actually like Product Z
even better (the equivalent of splitting the vote); the producer
may end up producing Product Y even though more people would have
liked Product X, and presumably it would have been more profitable
to produce it. If this happens, then the invisible hand cannot be
said to have worked to maximise economic wellbeing.
In a centralised society a few
individuals make decisions on how to spend everyone's money and
direct everyone's effort.
How far does the invisible hand
How economic systems work and what
can be done to improve them is still very much a live area of
research for economists. Mathematicians are currently grappling
with the implications of game theory for all sorts of social
choice, in particular, what meaning, if any, can be attached to
the expressions "the will of the people" and "the public good".
The results of such analyses will not
be the only factor in deciding whether societies move towards or
away from laissez-faire economics ("laissez-faire" means "let
alone" and is shorthand for leaving things to the invisible hand).
Political will, whether the world becomes more peaceful or less,
and the practicality of any alternatives will also be factors.
Alternative systems tend to require much more intervention and
more stringent rules. In the real world, such rules automatically
introduce more and more opportunities for mistakes and corruption,
which might mean that another system, even if better in principle,
would be worse in practice.
Perhaps the strongest reason for
leaving the allocation of effort and reward to the invisible hand
is that when it misappropriates goods, it is likely to be on a
small scale. More centralised methods of allocating goods are more
prone to corruption and waste. Smith described people given the
spending of other people's money thus:
..being the managers of
other people's money than of their own, it cannot well be
expected that they should watch over it with the same anxious
vigilance with which partners in a private copartnery frequently
watch over their own. Like the stewards of a rich man, they ...
consider attention to small matters as not for their master's
honour and very easily give themselves a dispensation from
It is useful to remember the context
in which Smith developed his theories - that of a heavily planned
and rather dictatorial society, where some individuals were above
the law and others were effectively without any rights. In a
centralised society a few individuals make decisions on how to
spend everyone's money and direct everyone's effort. As Smith said
It is the highest
impertinence and presumption, therefore, in kings and ministers
to pretend to watch over the economy of private people, and to
restrain their expense...They are themselves always, and without
exception, the greatest spendthrifts in the society.
A Tall Sunday
Story of an Invisible Hand
(‘the working man in the world unit’)
Adam Smith and the invisible hand
by slightly misleading her readers, by cutting into the
famous paragraph 9 that mentions the metaphor of the
invisible hand (WN IV.ii.9: 455-6).
By cutting out the crucial information that Adam
discusses not just the general individual
in society but those particular individuals who employ
‘whatever capital [they] command’ (WN IV.ii.4: 454), namely
merchant traders. He is dealing with a particular case of
owners of capital who contemplate where to invest it and
choose between engaging in the ‘foreign trade of
consumption’, particularly, though not exclusively, in
British colonies in North America or India, or investing it
The decision centres on which destination is ‘most
advantageous’, which boils down to which is most profitable
and least risky? Both are profitable, but one (foreign
trade) is more profitable and more risky than the other.
When he invests locally his ‘capital is never so long
out of his sight’
and in the colonial trade it may
be away from him for months, and subject to the vagaries of
the weather at sea, risks of piracy, seizure during wars,
dishonest handling in foreign ports, malfeasance when under
the control of distant merchants, of whom he knows less than
those close by him, the vagaries of foreign justice, and the
fortunes of distant consumers.
Not considering the context of which Smith
was addressing is tantamount to drawing in the minds of
readers of the stripped down quotation a completely
misleading impression that Smith
talking as a general rule of trade. He wasn’t! It isn't even
mentioned during his long discussiosn of markets in Books I
and II of Wealth Of Nations
is discussing the risk aversion of
merchants to investing in trade abroad and necessarily
investing locally. The consequence is for Joyce to downplay
those parts of the quotation from paragraph 9 that make it
clear of what he speaks.
The individual merchant ‘intends only his own security’
and it is this consideration, plus his desire to make
profits, ‘provided he can thereby obtain he ordinary, or not
a great deal less than the ordinary profits of stock’ (WN
IV.ii.5: 454), which determine inexorably, by the arithmetic
rule that the whole is the sum of its parts, that domestic
products thereby ‘may be of the greatest value’, and
certainly greater than they would be if merchants were risk
This conclusion is sufficiently explained by Smith
and readers who understand its construction would see that
truth immediately. His readers were educated and literate,
but not necessarily all to the same standard, and to cap his
presentation he drew on his knowledge of literature, both
contemporary and classical, where the metaphor of ‘an
invisible hand’, which was widely used and recognised in the
18th century, of ‘an invisible hand’.
The metaphor represents, as metaphors are supposed to, and
as Smith taught in his lectures on Rhetoric (see: Lectures
on Rhetoric and Belles Lettres, 1983), the object
under discussion, namely the behaviour of risk averse
merchants. It was not a ‘theory’, ‘concept’, or ‘paradigm’,
nor the greatest idea of great significance. It was not a
reference to God, or some divine intervention, which Joyce
thought that Smith
discovered because he
‘was profoundly religious, and saw the “invisible hand” as
the mechanism by which a benevolent God administered a
universe in which human happiness was maximised.’ Her
conclusion is an assertion for which she has limited
mother was ‘profoundly religious’
but there is no evidence that he was. Indeed, he had
abandoned Oxford University to avoid continuing to become a
priest in the Church of England and to preach in the
Episcopalian Church in Scotland.
The metaphor of the invisible hand is just a metaphor.
used the invisible hand in
Macbeth (the ‘Scottish play’), as did Daniel Defoe
in Moll Flanders and Colonel Jack, and a score of other
authors in books on the shelves of most educated people in
the 18th century.
makes several other wild
assertions in her article (HERE
If I have time I shall return to them, but for now I have a
conference to attend.
Project Home Farm
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