Mark Hodak Sumarises Our Differences as Differences of Emphasis

In comments to my previous post Mark Hodak posts his considered reply, which summarises neatly where we differ and why. I think this should be the last word as I do not think we can do other than disagree over what to emphasise, rather than contest issues of great principle.

I have enjoyed the debate (apologies to all if my robust stule caused any offence!).

I shall, therefore, post his reply in full here, and unless further comments are offered by any reader, please consider the debate suspended:

Mark Hodak replies:

"Gavin,

I’m billed as a professor of business history, but I rather see myself as a student of business history. Your extensive exposition about what Smith had to say about institutional forms is a fine lesson.

I understand what you say at the start of it: “I believe that the principal-agent problem, recognised by Smith, was incidental to his essential message; specifically that ubiquitous forms of monopoly in foreign trade were another case of the wasteful prevalence of mercantile political economy…” I would grant that, and everything that follows. But his insight about agency was not incidental to MY message—it was central, and a valid insight to use in a piece about evolution of the corporation. My message, quite simply, was that Adam Smith could not have foreseen the dominance of the corporate form we see today. This does not counter anything else he wrote about trade. It is certainly not an indictment of his intellect or his achievement. It does not presuppose that he was in the business of predicting the future, which I grant he was not. It’s simply an extrapolation of his views about joint-stock companies as they had evolved up to his time.

I understand that Smith wrote very little about joint-stock companies, at least in WoN. I doubt there are more than a couple of articles in his entire tome that specifically references them. Quotes like “They have, accordingly, very seldom succeeded without an exclusive privilege, and frequently have not succeeded with one,” or “That a joint stock company should be able to carry on successfully any branch of foreign trade, when private adventurers can come into any sort of open and fair competition with them, seems contrary to all experience” or “Without a monopoly, however, a joint stock company, it would appear from experience, cannot long carry on any branch of foreign trade” may represent incidental sentiments regarding his main message. But they seem to convey a distinct skepticism about the likelihood of a global economy as free as we have today looking the way it does today vis-à-vis corporations.

I understand that Smith did not forsake the joint stock form for every kind of business. As you state, he saw a role for them in certain, defined circumstances. But this view seemed, to me, a rather restrictive one: “The only trades which it seems possible for a joint stock company to carry on successfully without an exclusive privilege are those of which all the operations are capable of being reduced to what is called a Routine, or to such a uniformity of method as admits of little or no variation.” This hardly seems to foretell of a globally competitive GE, or BAE Systems--what he would have certainly characterized as outside of his restrictive definition, and in fact likely have characterized as “foreign trading” companies, albeit without special privileges.

Granted that everything in your fine explanation is true to Smith’s views, nothing in that explanation contradicts my assertion that Smith viewed agency costs as an inherent problem in joint stock companies, whether or not they were monopolies. That assertion is tenable, even granting that he might have felt the same about the impact of agency costs on other business forms (which, I think is debatable; he simply didn’t seem to have the same level of skepticism about those forms in a globally competitive environment).

I won’t presume to debate Smith’s main concerns or central intent in his WoN. Frankly, it’s been a while since I read it. But I don’t think my reading of the quoted passages was incorrect, out of context, or “silly” or “nonsense.” At worst, we have a disagreement on emphasis regarding how Smith might have weighted the relative impact of agency on various institutions— something that would be difficult to guess, even with all the supporting material on his views about each. One might disagree about how Smith might have viewed the modern world, but that is an admittedly speculative exercise that would properly remain outside of any thematic discussion."

The Debate Continues (long post!)

Mark writes:

"The basic difference rested on whether joint-stock companies or any companies in fact, co-partnerys or regulated, were made monopolies or not. This seems to be lost on you."

How, then, do you read this statement:

"It is upon this account that joint-stock companies for foreign trade have seldom been able to maintain the competition against private adventurers. They have, accordingly, very seldom succeeded without an exclusive privilege, and frequently have not succeeded with one."

To me, that doesn't read like the relevant distinction is monopolies, especially as "this account" appears to refer to agency ("negligence and profusion") rather than theft and fraud."

I replied:

Hi Mark

I hope I am not so arrogant as to assert that I have nothing more to learn about Adam Smith’s writings, so I am pleased when challenged to justify something I have asserted and compel me to re-look at my interpretations, and I thank you for presenting me with such an opportunity.

The relevant section of Wealth Of Nations is found between pages 731-758 (1976 Glasgow Edition from Oxford University Press), or between pages 690-716 (Edwin Canaan’s 1937 edition, Random House): ‘Of the Publick Works and Institutions which are necessary for facilitating particular Branches of Commerce’.

In this section, Adam Smith discusses the different institutional forms of commercial entities in the 17th -18th century. It is necessary to read it all in order to make conclusions about what Smith intended; quoting sentences from a part of it is no substitute.

For you, teaching 21st-century corporate governance at a Business School, the significance of Smith on the different forms of corporate governance is to teach the ‘principal-agent’ problem.

I believe that the principal-agent problem, recognised by Smith, was incidental to his essential message; specifically that ubiquitous forms of monopoly in foreign trade were another case of the wasteful prevalence of mercantile political economy, with the East India Company as the worst example, with the other chartered companies as ‘oppressive’ or ‘useless’ examples.

To facilitate commerce, ‘extraordinary expence’ was necessary in particular institutions (p 731). In ‘barbarous and uncivilised nations’ merchants required fortified protection; in ‘Indostan’ the East India Companies (English and French), though dealing with ‘mild and gentle people’ pretended they too needed fortified forts, and in Europe, the expense of a ‘permanent’ ‘ambassador, minister, or consul’ was sufficient to sort out arguments among merchants and local citizens (p 732).

Foreign trade attracted ‘pirates and freebooters’, and merchants ‘taxed’ themselves to cover such costs. At home, governments provided such protection. In foreign trade, merchants ‘perswade’ the sovereign to devolve protective powers to them and while ‘prudent’ initially, in the long run it ‘proved universally, either burdensome or useless, and either have mismanaged or confined the trade’ (p 733). By ‘confined’ Smith meant monopolised the trade; he saw it as the overriding economic problem of the 18th century.

Without ‘joint stock’ (each member sharing ‘common profit or loss in proportion to his share’) they must admit any person who pays the subscription (‘fine’), and trade at his own risk, i.e., become ‘Regulated Companies’, which ‘resemble’ ‘corporations of trade’ or ‘town guilds’, the particular institutions that Smith attacks through book IV, and were weak ‘monopolies’.

Smith considered regulated companies in foreign trade to be ‘useless’ and shows why from p 734-737 (their ‘directors’ have no interest in their success, only in their part of them). Their weakness and failure mean members drop out, competition is reduced, and individuals, for a while, enjoy profits (p 737). Parliament attempted to ‘restrain effectually the oppressive and monopolizing spirit which is natural to directors of a regulated company’ (pp 737-8.

He then discusses the structure of joint stock companies. Profits based on shares; cannot trade on own account; their interests connected to the interests of the company; they maintain forts and garrisons; and maintain them properly compared to regulated companies (pp 737-40).

He compares joint stock to co-partneries. Partners cannot sell their shares without the permission of other partners; joint stock members can sell in the market. Partners are liable for their entire fortune for debts; joint stock companies members are liable to the extent of their shares. (p 740)

Joint stock companies are managed by a Court of Directors, and ‘frequently’ meet the ‘proprietors’ (shareholders), who receive a dividend decided by the Directors. Independent ‘adventurers’ buy shares because their risk is limited. Large capitals were raised in this manner in millions, not thousands (p 740).

“The directors of such companies, however, being the managers rather 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 the partners in a private copartnery frequently watch over their own. Like the stewards of a rich man, they are apt to consider attention to small matters as not for their master's honour, and very easily give themselves a dispensation from having it. Negligence and profusion, therefore, must always prevail, more or less, in the management of the affairs of such a company. It is upon this account that joint stock companies for foreign trade have seldom been able to maintain the competition against private adventurers. They have, accordingly, very seldom succeeded without an exclusive privilege, and frequently have not succeeded with one. Without an exclusive privilege they have commonly mismanaged the trade. With an exclusive privilege they have both mismanaged and confined it.” (p 741)

Mark focuses on ‘negligence and profusion’ as the determining characteristic of all joint stock companies, but this was not a feature of the joint stock companies that Smith praised (Bank of England, Bank of Scotland, Royal Bank of Scotland, and others). Also, he reads into ‘this account’ only ‘profusion and negligence’ as hindering keeping ‘private traders out’ when it is the entire problem of their weakness discussed beforehand that fails to stop ‘private adventurers’.

I focus on the problem for the Chartered trading companies engaged at long distances on their lack of ability to ‘maintain the competition against private adventurers’, who were trading in ship loads of cargo each way between England and India at some cost to the Chartered Company (including collusion under bribes of local officials in the matter of customs dues, if they landed or loaded their cargoes in a Company port). This is particularly important as such competition (presented to parliament as ‘ruinous’) required, they claimed, the remedy of a legal monopoly. The power of enforcement east of Cape of Good Hope was devolved to armed Company ships, itself a power open to wide and tyrannical abuse.

Smith’s discussion (pp 740-46) on company structure is interrupted by a long discussion on trade with Africa, the Hudson Bay company (a joint stock company that worked successfully because of its remoteness, climate and short weeks in which the sea was free of ice, plus manned by 120 persons only, and no independent ‘adventurers’ able to interfere, p 743), the Spanish West Indies and the South Sea Company. Smith asserts that ‘Their ill success was imputed, by their factors and agents, to the extortion and oppression of the Spanish government; but was, perhaps, principally owing to the profusion and depredations of those very factors and agents, some of whom are said to have acquired great fortunes even in one year.’

Again, this is a problem exacerbated by distance and time lost in assessing what was going on. All organizations of all kinds, publicly funded armies, navies, small trader shops, co-partneries, regulated companies, joint stock companies, even churches, have been subjected over the years to ‘negligence and profusion’ whenever the perpetrators can get away with it and whenever there is something of value to misappropriate. The foreign trade business in the 16th-19th century was particularly open to such malfeasance independent of the joint stock structure – ship’s cargoes ‘disappeared’ regularly as world trade grew, both from collusive piracy and independent opportunism (and sinking).

Smith gives a case history of the East India Company. In the early years its capital was small (£740,000) at £50 a share, and their dealings ‘not so exorbitant, nor their dealings so extensive, as to afford either a pretext for gross negligence and profusion, or a cover to gross malversation’ (p 747). Its original charter was not ‘confirmed by act of parliament’ and did not ‘convey an exclusive privilege’. It was reconstituted in 1698 (for a while there were two East India Companies) and their rival trading and ‘private traders’ ‘well nigh ruined both’ (p 748).

Smith states the economics: ‘The increase of demand, besides, though in the beginning it may sometimes raise the price of goods, never fails to lower it in the run. It encourages production, and thereby increases the competition of the producers, who, in order to undersell one another, have recourse to new divisions of labour and new improvements of art which might never otherwise have been thought of. The miserable effects of which the company complained were the cheapness of consumption and the encouragement given to production, precisely the two effects which it is the great business of political œconomy to promote’ (p748).

When legislation affecting the company finally settled down, there was a period of prosperity, following its legal monopoly from 1711, and its capital rose to £3 million, dividends were paid and the government received loans. Such events do not pass unnoticed by managers, clerks and cargo handlers, again exacerbated by the distance separating the men on the ground in India (with collusive relatives and others in London’s docks). Smith notes ‘The great increase of their fortune had, it seems, only served to furnish their servants with a pretext to greater profusion, and a cover for greater malversation, than in proportion even to that increase in fortune’ (p 751).

The road to state control was underway, a ‘solution’ with which Smith was likely to be opposed. A governor-general was sent out with four assessors, then a new court of judicature was appointed, as the scandal of the Company’s management became public knowledge. Smith thought it all fruitless:

‘About the prosperity of the great empire, in the government of which that vote gives him a share, he seldom cares at all. No other sovereigns ever were, or, from the nature of things, ever could be, so perfectly indifferent about the happiness or misery of their subjects, the improvement or waste of their dominions, the glory or disgrace of their administration, as, from irresistible moral causes, the greater part of the proprietors of such a mercantile company are, and necessarily must be’ (p 752).

And:

“But if the company were bad stewards, and bad sovereigns, when the whole of their nett revenue and profits belonged to themselves, and were at their own disposal, they were surely not likely to be better when three-fourths of them were to belong to other people, and the other fourth, though to be laid out for the benefit of the company, yet to be so under the inspection and with the approbation of other people” (p 753).

Smith accepts the case for a temporary monopoly: ‘When a company of merchants undertake, at their own risk and expence, to establish a new trade with some remote and barbarous nation, it may not be unreasonable to incorporate them into a joint stock company, and to grant them, in case of their success, a monopoly of the trade for a certain number of years” (p 754.

If this becomes a perpetual monopoly (an aim of mercantile political economy) it is a worse solution, for it merely enables ‘the company to support the negligence, profusion, and malversation of their own servants, whose disorderly conduct seldom allows the dividend of the company to exceed the ordinary rate of profit in trades which are altogether free, and very frequently makes it fall even a good deal short of that rate.’

Smith clearly considered that chartered trading companies, institutions of mercantile political economy, were inappropriate in that role. It was in their nature to fail. He quotes the French economist, Abbé Morellet’s list of 55 joint stock companies for foreign trade that failed since 1600 (p 755). He approved of joint stock companies ‘without an exclusive privilege’ in businesses where ‘Routine, or such uniformity of method admits of little or no variation’, including the banking, insurance, making and maintaining canals, and water aqueducts (p 756), and considered them to be ‘very successfully managed’.

He summarises his main criticism of those joint stock companies formed for general purposes as unreasonable when they ‘exempt a particular set of dealers from some of the laws which take place with regard to their neighbours’, when then cannot show that they are of ‘greater utility’ than the ‘common trades’ and when they cannot show that they need a greater capital than can easily be collected in a private co-partnery, or several co-partneries entering the same trade and, necessarily, competing.

His critique is against mercantile trading monopolies, sheltered by monopoly, buying cheap and selling dear, but burdened by distance (encouraging ‘negligence and profusion) and with insufficient enforceable control exercised by its ‘proprietors’, and by law. He did not misjudge joint stock company structures and did not live to see their legal structures in the 19th century that resolved some of the monopoly problems but, alas, not the ‘negligence and profusion’ of the likes of Enron.

Smith gives some good case material for classes on business scandals; he does not justify being 'utterly wrong' on joint stock companies.

"Mark Hodak on Adam Smith": a debate begins

In case you did not read the 'comments' to yesterday's article Mark Hodak replied to my post, as below, and I replied to Mark's comments (also below).

Mark Hodak writes:

"Gavin,

I don't think that the article you're critiquing is the one I wrote. I don't understand what conclusions about modern corporations you feel I reached were "erroneous."

I understand Smith's antipathy to the East India Company, and I know full well the contest of WON. What does that have to do with his general concern about agency? It seems to me he was perfectly clear (and prescient) about the agency problem of corporations, and it seems equally clear that he didn't think these problems were limited to monopoly trading companies. What am I missing on this point?

As for the claims of what he didn't foresee, I think you're interpreting that as an attack on his intellect, which is an unfortunate read. None of the readers of this article who have provided me with feedback on it have interpreted this as an attack on Smith, but rather an encomium of the adaptability of the markets Smith was wise enough to free.

By the way, the editors picked the word "folly," not me. But I don't think that should have thrown off a calm reader with regards to intent."5:36 PM


Gavin Kennedy replies:

Hi Mark

Thank you for your interesting comments. Clearly we do not yet agree.

Your views on modern corporations and their ‘scandals’ are perfectly legitimate for the 21st century. Linking them to Adam Smith’s critique of the East India Company in the 18th century is not. His rhetoric on this subject reflected the temper of the times when the chartered trading companies were either ‘oppressive’ or ‘useless’; legislators were corrupted to pass Acts of Parliament the legalise monopolies or to ‘buy’ the sovereign’s consent to award Royal Charters to these particular companies.

It took around 18 months to send instructions and receive replies to reports London between India (it takes seconds today), making ‘supervision’ by the board’s directors a nominal exercise, and vast scope for misleading them (where bribes did not do it for them).

The officers of the Company in India, if they survived, made fortunes from corruption, as did, on a smaller but still lucrative scale the rest of the employees from managers to clerks, who traded on their ‘own account’ and filched valuable cargo to and from the Company ships. The economic effect on the Indian economy was also ruinous.

In short, the chartered monopoly trading companies were special cases of the joint-stock company structure and Adam Smith’s critique referred specifically to them. He acknowledged the joint stock structure in other case, though until the later 19th century they were not fully established in law and were more tightly regulated.

Examples of joint-stock companies that he favoured included the Bank of England, 1694; the Bank of Scotland, 1695, and the Royal Bank of Scotland, 1727, which were not corrupt, and which were free of his strictures on what is now known as the principal-agent problem, nor were they as badly managed on anything remotely like the scale of the East India Company. He recommended joint stock structures for insurance and large projects like canals.

The basic difference rested on whether joint-stock companies or any companies in fact, co-partnerys or regulated, were made monopolies or not. This seems to be lost on you. Your agenda you are perfectly entitled to project; my criticism is that you finds it necessary to drag Adam Smith into it by weaving his advocacy around well known selective quotations from Wealth Of Nations, a habit to which columnists in US media are addicted, as well as professors.

Smith was not ‘utterly wrong … about corporations’. You may be utterly right about modern corporations, and no doubt many commentators wrote in to say how much they agreed with you, but that is beside the point. Myths about Adam Smith abound and the general knowledge about Adam Smith in US academe is quite disappointingly low, even among some Nobel prize winners.

You claim, “I understand Smith's antipathy to the East India Company, and I know full well the conte[x?]t of WON”. On the evidence presented in your article in Forbes, I am unable to acknowledge your understanding as other than moderate to low.

Your understanding of modern corporations is high and your students will benefit from you concentrating on them.

I accept your point about the sub-editor being responsible for attaching the word 'folly' to the headline.

Mark Hodak's Fantasy Folly About Adam Smith

Marc Hodak writes in Forbes (25 Octover), “Adam Smith's Folly”(25 Oct)
Mark Hodak asserts:

“Were Adam Smith alive today, he'd be an activist hedge fund manager or a private equity raider. He had a decidedly pessimistic view about corporations. Most businesses of his day were proprietorships or partnerships. He didn't think corporations--joint-stock companies, as they were then called--would amount to much, because badly incentivized managers would inevitably destroy them…
…In other words, managers are invariably prone to waste. They will gold-plate their office equipment and cut out early for their kids' music recitals. And what about stockholder fraud, such a large source of angst among modern governance critics? Smith felt that the possibility of theft existed in every area of commercial life, yet commerce thrived. "Negligence and profusion," what economists now call "agency costs," were different; they were, and are, an inherent result of the separation of ownership and management.

Smith was well aware of the benefits of corporations, including their ability to concentrate large amounts of money into capital-intensive undertakings. But he thought that the costs of agency would always be too high. He believed that those costs scaled up with the business, as that was the experience of his day. Therefore, the bigger a business got, the worse the waste. He frankly didn't see any way around it, even if the corporation had monopoly privileges...

...Early corporations were chartered by the Crown or legislature. In the days before corporate income taxes, this was a novel way for a government to raise revenue. The monarch would grant a corporation special trading rights or other monopoly privileges in return for certain payments. The Crown might even invest money in this enterprise for a share of its dividends, or expect these enterprises to lend large sums to the government at favorable rates. The incestuous relationship between government and corporations no doubt colored Smith's view of these kinds of businesses.

Why was Smith so far off the mark on the survivability of corporations? For one thing, the relationship between corporations and the state has since transformed. Although the incestuous quid pro quo that was prominent in Smith's day remains the norm in most of the world, it's not typical in developed economies. Most western corporations operate without any special privileges, under licenses that are routinely offered to anyone willing to go through some simple administrative processes. The resulting lack of special treatment from the government forces corporations to become ever more competitive in minimizing unnecessary costs, including agency costs.

Nominally, the main tool for controlling agency costs has been board oversight. However, Smith was no more confident in the efficacy of that control than were many subsequent critics of boards, with good reason. Boards get fooled all the time, and they have their own issues with greed. The dramatic reduction in agency costs that made corporations feasible was, in fact, brought about by the development of two other, powerful tools that Smith did not foresee: transparency and internal incentives.

In the 19th century, railroads were the biggest promise of corporations--and the biggest challenge to their existence. Railroads were capital-intensive and operated on such a large scale that no central committee could supervise its operations. Money flowed in and out of the business through countless retail transactions. Railroads were ungovernable by any standards of Adam Smith's time. But the new technology spawned new kinds of organization, and new governance mechanisms to cope with it...

...Their managers simply figured that if they wanted the cash needed to grow the businesses, they needed to make their investors as comfortable as possible…
… Management incentives eventually evolved into tools for motivating even lower-level employees to work hard for the shareholders. Notwithstanding the paternalism of capitalists in his day, Smith could not foresee a sales manager and her family being sent to Aruba for winning a sales contest. How could any company afford to be so generous? Why would they give something like that away? Where is Aruba?
Adam Smith will go down in history as one who foresaw innumerable ways that market processes could adapt and organize themselves to allocate scarce resources between economic agents. He would be quite comfortable--and mighty pleased--with the dizzying scope of trade in every commodity, product and service imaginable, and the incredible wealth engendered by that trade. He predicted that. But he would be surprised by the degree to which economic agents themselves would evolve, that they could scale up dramatically while keeping their agency costs well under control. After realizing how utterly wrong he was about corporations, Smith would probably nod in satisfaction. Or, maybe he'd buy them out and fire the managers.

[Marc Hodak is managing director of Hodak Value Advisors, a firm specializing in the finance and compensation issues of corporate governance and he teaches corporate governance at New York University's Leonard N. Stern School of Business.]

Comment
Like many modern economists teaching in American universities, Mark Hodak reads Wealth Of Nations (or possibly a set of quotations from it) on joint-stock companies, focuses on Adam Smith’s criticism of 18th century joint-stock companies and jumps to erroneous conclusions about 19th-21st century joint-stock companies.

From the post above, I have selected some sentences or parts of sentences to illustrate what I mean.

First, a word about context. Smith’s criticism of joint stock companies concentrates on the chartered trading companies, under Royal Warrant or Act of Parliament, such as the East India Company, with side-swipes at other chartered trading companies governing British trade with other parts of the world. He accepted the benefits of joint stock companies for other purposes.

The relevant part of Wealth Of Nations is found in WN V.i.e.1-40: pp 731-58. pp 746-58.

“He frankly didn't see any way around it, even if the corporation had monopoly privileges.”

Comment
Sorry, wrong way round. It was the state-backed, legal monopoly of the Chartered Trading Companies, in particular the East India Company that was the cause of the problems of management – and its long standing criminality of its people, from the Directors to the lowliest clerk in its employ – and Mark Hodak misses Adam Smith’s point spectacularly.

“The incestuous relationship between government and corporations no doubt colored Smith's view of these kinds of businesses.”

CommentNot quite. Smith also saw a potential role for incorporating the financial interests of merchants into a joint stock company with a monopoly for a ‘certain number of years’ (WN Vi.i.e.30: p 754); the East India Company was founded in 1600 and by the last quarter of the 18th century it retained its monopoly, which Smith found, with good reason, to be unacceptable (it lasted for near on another 100 years). [Also see below].

Adam Smith believed in the efficacy of joint-stock companies for large capital projects to facilitate commerce (canals, etc.,), and for banks (he praised the Bank of Scotland, the Royal Bank of Scotland and the Bank of England, which were joint-stock companies but not chartered monopolies).

“Why was Smith so far off the mark on the survivability of corporations?”

Comment
Hardly appropriate as the East India Company had lasted c.180 years by the time he added his critical views in the 1783 edition and continued on into the 19th century.

His criticism was directed at their vast diversion of scarce capital to enrich the members and employees of the East India Company which could be better invested in productive activity, plus the plunder of the Indian economy for personal aggrandisement of the many thieves they employed.

“brought about by the development of two other, powerful tools that Smith did not foresee: transparency and internal incentives.”

Comment
It took a long time after the Company Acts in the late 19th century brought about ‘transparency and internal incentives’ and even today company fraud on customers, shareholders and employees have some ways to go before they can be (if ever) declared permanently ‘clean’.

To which, for balance, we should add that state-managed organisations are hardly monuments to superbly managed, efficient, and 'honest' organisations.

“Notwithstanding the paternalism of capitalists in his day, Smith could not foresee a sales manager and her family being sent to Aruba for winning a sales contest. How could any company afford to be so generous? Why would they give something like that away? Where is Aruba?”

Comment
Silly claim by Marc Hodak. Adam Smith was not in the prediction of future events business; he seldom looked forward and his whole perspective was historical not futurist. Marc Hodak would know that if he was familiar with Adam Smith’s works.

“Adam Smith will go down in history as one who foresaw innumerable ways that market processes could adapt and organize themselves to allocate scarce resources between economic agents” and “He predicted that..."”

Comment
See above. The only specific prediction of a future event that I am familiar with is his prediction that the ex-British colonies of America would in about a hundred years would become the richer than Britain in produce and therefore in taxation. (WN IV.vii.c.79: p 625)

He avoided predictions and thought the people of the future would deal with the future’s problems.

“After realizing how utterly wrong he was about corporations, Smith would probably nod in satisfaction. Or, maybe he'd buy them out and fire the managers.”

Comment
Fantasy nonsense. I don’t accept he was ‘utterly wrong’ about the chartered monopoly ‘corporations’, which were part of his critique of ‘mercantile political economy’(the main points of which stand true today of modern mercantile practice and should be read in that context.

If Only Modern Economists Would Read and Understand His Thinking

On International Law Reporter (here)
Jacob Katz Cogan writes: “Petersmann: Constitutionalism and the Regulation of International Markets”, which contains this paragraph:

“Since Adam Smith, economists increasingly acknowledge these interdependencies between economic, legal and social order, for example between the economic objective of promoting consumer welfare through legal guarantees of consumer-driven competition and open markets, and the democratic objective of protecting individual self-government and peaceful cooperation among citizens through constitutional guarantees of equal freedoms and social justice.”

Comment
If only; If only!

The majority of modern economists do not consider context beyond Homo economicus, a species of rational, self-interested maximisers, who act without any human characteristics at all and who obey automatically the dictates of sets of mathematical equations.

Adam Smith was just before the beginning of the classical economics (not being ‘ its not likely to be much to do with the evolution of the commercial economy or with much beyond their rational decision models of ‘human action’.

However, if they were somehow to acknowledge a real world of ‘interdependencies’ they would understand much more about how economies and those in them function. We can take it that the above paragraph is a description of what economics should be about, but presently is not.

Adam Smith’s Works show how economics might have developed if only it had continued to apply the lessons of the past to the problems of the present and not chase the futile goal of predicting the future.

I thank Jacob Katz Cogan for showing what might have been.

A Neat Tutoring Aid on the Evolution of Commerce

On Diverse Thoughts (here) the author, Roger Costello, has drawn a most interesting flow diagram of “Mankind’s journey from hunter-gatherers to coins as the instrument for doing commerce”, based he says on Adam Smith’s Wealth Of Nations and Jared Diamond’s Guns, Germs, and Steel.

I could quibble about a few points, such as it leaves out the Age of Shepherding, the direct descendant from Hunter-Gathering (corralling tamable animals for domestication is a darn-sight easier than hunting for them in the aftermath of the last ice-age).

But the general drift of the flow diagram is a fairly accurate account of the emergence of the age of commerce from the age of agriculture and accords well with Adam Smith’s account of the ages of mankind in his Lectures On Jurisprudence (1762-3) and Wealth Of Nations (1776).

I recommend that you follow the link; it might make a good diagram for a tutor's talk on economic history.

Abortion Debates and Adam Smith

‘Gracchi’ on Westminsters Wisdom (25 Oct): ‘The Argument About Abortion’ here:

“Looking at the abortion debate, the most interesting thing about it is that it denotes I think the basis for most modern moral judgements. The basis for most people's morality it seems to me from this and other debates is concepts of empathy. In this sense Adam Smith was right - in that he predicted that the marketisation of society would lead to more empathetic understandings of morality. Whether you are a Christian pro-lifer or a feminist pro-choicer the basic vocabulary with which you talk about religion is exactly the same - its about the sympathy that a particular object should receive.

Phrasing it in terms of rights is a mere rhetorical choice. This also explains to me the presiding causes of our time- the way that pictures of African orphans or victims of the Tsunami can become cause celebre and evoke millions of charitable donations. One of the interesting things about abortion is that it is an issue where empathy can justifiably be evoked on both sides- both the mother and the embryo can be said to deserve our understanding- that makes it a difficult and controversial issue within an age where the dominant moral climate is partly an empathetic one.

Of course there are more principles involved within our moral climate- but I think the abortion debate reveals something very interesting about the way that we think about right and wrong. It reveals how important empathy is in our decision as to which way to go on an issue- that is the way that both sides make their arguments. And it also reveals the way that the language of rights, is in this case at least, more of a trump card than an actual argument.”

Comment
I found this appropriate reference to Adam Smith in the midst of what is often highly contentious debate about abortion.

“Adam Smith was right - in that he predicted that the marketisation of society would lead to more empathetic understandings of morality.”

I absolutely forgive Gracchi’s awkward and inelegant Americanism of ‘marketisation’ – we know what he means (don’t we?).

Why can’t we have more of this kind of reference to Adam Smith which is spot on, absolutely what he intended and in line with his legacy?

For completion and without taking sides, I should mention that Adam Smith expressed his disgust several times about the human practice of 'infanticide' and the 'disposal' of aged members of a community in times of severe deprivation.

Context is Important When Quoting Adam Smith

Robert Reich’s Blog carries this post (24 October):

"Who Pays the Dollars that Finance Bush's War? More on a Fair Tax Burden”

In his discussion of war finance he states (legitimately):

“If we’re serious about national defense – as well as all the other things we need (police, fire fighters, roads, bridges, schools, and clean water, to name a few)- it's your COUNTRY. And the principle for who’s gonna pay should be equal sacrifice.”

And he adds:

“Even Adam Smith saw the wisdom of a graduated tax. “The rich should contribute to the public expense, not only in proportion to their revenue, but something more in proportion,” he wrote. (Wealth of Nations, vol. 2, ed. Campbell, Oxford U Press, 1976, p. 840.)”

Comment
The quotation from Adam Smith is from the Oxford University Press, ‘Glasgow Edition’ of Wealth Of Nations is on page 842, not page 840 and is found at: WN V.ii.e.6.

For accuracy, the context in which Adam Smith is making this wholly acceptable assertion is in his discussion of house rents, which is a commodity widely differentiated by quality, convenience and splendour, and it begins:

“A tax upon house-rents, therefore would in general fall heaviest upon the rich; and in this sort of inequality there would not, perhaps, be any thing very unreasonable.” Professor Reich’s quotation follows: “The rich should contribute to the public expense, not only in proportion to their revenue, but something more than in that proportion.” [WN V.ii.e.6: p 842]

When quoting from Adam Smith, as many do, it is incumbent on the writers to make clear the context otherwise a particular statement by Adam Smith can be given a general meaning, in this case for all forms of taxation, when Adam Smith may have intended to refer to a particular case.

Smith preferred that taxation should fall, where possible, on luxuries rather than basic necessities. Housing is a necessity but housing came in all levels of opulence and was therefore treatable as a luxury for some taxpayers, who in consequence should may more tax on their houses and palaces.

A Person Moans in a Country that at Least 5 Billion Others Would Gladly Swap Places With For His Misery

In what is becoming a typical rant of despair among us, Alfred Sant writes in the Times of Malta.com (24 Oct) here: “Praying mantis”:

“The dominant ideology... which will be with us for a long time: indeed, till we all are dead... is defined by free market mechanisms. They belong in large part to Adam Smith's thesis, that free competition between the factors of production ensures the best price and quality, through a balance between supply and demand, fuelled by the self-interest of all those involved in production, distribution and the rest. Devised at a time when enterprises were relatively small and the room for rapid innovation was enormous, this ideology had its ups and downs... not least when confronted with statist and centrally-planned models of how to organise society.
With the demise of most such "socialist" models, the free market ideology has had a free run in laying out the basis for the ongoing economic and social give and take within modern societies. This has continued to happen despite the fact that organisations and their operating environments have altered immeasurably since Smith's time. From local, industrial organisations have gone multinational, then global. They are no longer First or Second World - many have become Third World-based or owned.

Services as a source of wealth creation have burgeoned, fuelled by the spread of new "service" products that frequently go through conceptual quantum leaps. Technologies - not least in the communications area - morph rapidly. They multiply the available ranges of information on which one decides about lifestyles, as well as about purchasing and selling. Complex bureaucracies take business and governmental decisions, nationally and supranationally.

In this context, Smith's free trade ideas should have rapidly become obsolescent. That is hardly their status at present. How then does one deal with recession and the creation of jobs? How does one conceptualise inflation in order to stub it out? When I was young or younger, the belief still was that Maynard Keynes had gotten it right: the market stayed free and competitive but the state could dig in. To achieve "rational" objectives related to economic growth and social balancing, the state could - by implementing far-sighted investments, tax stimuli, and by restraining or increasing its current expenditure - ensure objectives that are considered by one and all to be desirable. Among such objectives are full to quasi-full employment... a minimal rate of price inflation... a steady and "balanced" growth in capital investment...

The non-market mechanisms deployed by the state would ensure the preservation and enhancement of Smith's free market. Keynes' audacious non sequitur made sense for three decades or so. Then it was abandoned under the political offensives launched during the Reagan and Thatcher years - which made free market beliefs a sine qua non for all reputable members of the intellectual and economic nomenklatura.
We live in a vastly different world to that of Adam Smith. Even so, the new orthodoxy, which, on the surface, embraces his ideas, still seems more robust than the Keynesian compromise...

Because of the mismatch between the reality in which Smith theorised and our reality of today, the new orthodoxy is leading to hard choices where most of us - middle- and lower-income earners - lose.”

Comment
There’s too much in this extract to tackle piece by piece. The alleged ‘free market thesis’ of Adam, Smith is barely recognizable. Alfred Sant calls it an ideology without explaining how Wealth Of Nations, a critique of mercantile political economy, is an ideology. That a free market could be turned into an ideology is perfectly legitimate, but whether Adam Smith held such a view is most doubtful.

However blessed the mid-18th century was by ‘the room for rapid innovation’ it was as nothing compared to the scale of innovation, and its speed, today. Why Adam Smith’s ‘free trade ideas should have rapidly become obsolescent’ is not explained; mercantile political economy has not left the scene by a long way.

The century of colonialism was a great diversion that cost a great deal in blood and treasure which could have been more productively spend on enhancing the capital base and raising through employment many millions of low paid and unemployed people towards opulence.

Adam Smith’s ideas on free trade were not implemented; the free trade that evolved was heavily undermined by the one-way street of colonial ism and the failed experiment with communism.

The reality of attempts to ‘ensure the preservation and enhancement of Smith's free market’ was neither free nor Smithian.

This leads to Alfred Sant concluding: “Because of the mismatch between the reality in which Smith theorised and our reality of today, the new orthodoxy is leading to hard choices where most of us - middle- and lower-income earners - lose.”

This from a citizen of a member state of the European Union, one of the few really rich continents on the planet where many moan but none leave, while many try to enter from the really poor parts of the world because they know what absolute and relative deprivation really means.

Adam Smith on Necessities and Luxuries (the latter may be taxed)

The Bayesian Heresy ('economics, global agenda, current affairs, globalisation, culture and more rants on the dismal science') here:

“Quote of the Day- Adam Smith in 21st Century” by Marshall Jevons.

“Under necessaries, therefore, I comprehend[,] not only those things which nature, but those things which the established rules of decency have rendered necessary to the lowest rank of people. All other things[,] I call luxuries[;] without meaning by this appellation[,] to throw the smallest degree of reproach upon the temperate use of them. Beer and ale, for example, in Great Britain, and wine, even in the wine countries, I call luxuries. A man of any rank may, without any reproach, abstain totally from tasting such liquors. Nature does not render them necessary for the support of life[;] and custom no where renders it indecent to live without them.” (Punctuation corrected: from Glasgow Edition, WN V.ii.k: p 870-1]

Comment
This is an accurate and useful quotation in which Adam Smith is discussing ‘Taxes upon consumable Commodities’. Incidentally, it was not his case against drinking, beer, ale, or wine! [I speak as an abstainer from alcohol].

His more serious point on what constitute the ‘necessaries, conveniences, and amusements of life’ in respect of the ‘necessaries’ would have relevance when assessing the ‘subsistence’ wage that employers would be deemed to pay in Smith’s ‘model’ of how a commercial economy worked in the 18th century.

It might also be relevant when assessing the distribution of income in the 21st century to determine absolute poverty in a rich economy compared to a developing or non-developing (poor) economy. The contents of the necessaries basket of consumable goods at different levels of development would be different.

Defining a low income family in a rich country as living in intolerable poverty is a controversial subject among policy makers and those who influence them. It would be an interesting exercise for modern economists to estimate along the lines that Adam Smith suggested exactly what would be regarded as the minimum creditable requirement for different income groups in today’s world.

I understand that in certain poorer groups, the quality, and presumably the expense, of styled footwear of young adults is a key indicator of what is considered to be respectable among them and not merely whether they have footwear at all.

All ‘likenesses’ of Adam Smith show him to be wearing stylish shoes, he also like drinking French claret and Scottish beer, was stylishly dressed (he had his ‘contraband’ shirts burned when he became a Scottish Customs Commissioner), and lived frugally. His two indulgences were his library collection and entertaining friends for tea.

When Quoting Someone's Views Make Sure You Have Read the Original (all historians should know that!)

Following my new policy of noting when other economics blogs note Lost Legacy, Brad Delong today reports:

“A Gathering of the Clans...
Economic historians, historians of economic thought, practitioners of political economy, and others are painting themselves blue with woad and practicing with staves after reading Stanford's David Kennedy's trashing of Paul Krugman.”

Comment
Quotations from Lost Legacy, Mark Thoma, Angry Bear, and Alex Tabarrock show a welcome consistency in criticising David M Kennedy (no relation!).

Up date: Brad Delong returns to the story with a damning revelation that David Kennedy’s reference to laissez faire as the litmus test of being an economist and shows this is not what AEA founding president Francis Amasa Walker actually said:

“Ah. Stanford's David Kennedy Can't Quote Properly Either...
David Kennedy of Stanford opens his review of Paul Krugman's "Conscience of a Liberal" with a claim that AEA founding president Francis Amasa Walker defined an economist as a faithful believer in laissez-faire, “not... the test of economic orthodoxy, merely.... [But] used to decide whether a man were an economist at all.”
Why am I not surprised that Francis Amasa Walker actually said something very different?” [Read the full extract and Francis Amasa Walker's actual speech here. ]

Absolute Nonsense on 'Digg' About Adam Smith

On a blog called ‘Digg’ (here) I found this in my in-box:

“The Economics Nobel: Giving Adam Smith a Helping Hand”

"Scottish philosopher Adam Smith asserted that when everyone acts out of self-interest, everyone will eventually benefit, as if a benevolent "invisible hand" molds the economy. Economists now know that view is naive: They can prove that in some situations, rational people will act in ways that leave everybody a loser. But such dreary outcomes can s….”

Comment
I am not quite sure what Digg is about and I half recognize the quotation as something published recently, but it most decidedly is not what Adam Smith said, though it is believed by many to be something he might have said.

It is not Adam Smith who was naïve about self interest leading to less than ’benevolent’ outcomes for ‘everyone’. In both Moral Sentiments and Wealth of Nations he was more than alert to the stupidity of that assumption or assetrtion.

In Moral Sentiments he majored heavily on the absolute need for a firm system of justice to deal with individuals acting in their self interest by tormenting neighbours, invading property, engaging in rapine and destruction, and generally pursuing their self interests which in the absence of justice would smash society 'to atoms'.

In Wealth Of Nations he gives over 50 instances in Books I, II, III, IV of instances where individuals act against the public interest in favour of forming monopolies, ‘conspiring’ to raise prices and of ‘clamouring’ to persuade the legislature to erect tariff protection at the expense of the majority of the population, apart from sovereigns engaging in wars for trivial ends from wrong notions of ‘jealousy of trade’.

Any notion that he believed for a second that ‘when everyone acts out of self-interest, everyone will eventually benefit’ is absurd and, frankly ignorant, and exposes the people who assert the nonsense as non-readers of either of his books, plus his Lectures in Jurisprudence, let alone his correspondence.

Modern ‘Economists’ were not the first to prove ‘that in some situations, rational people will act in ways that leave everybody a loser’. Adam Smith said so over 230 years ago. What do they think Adam Smith's Book IV of Wealth Of Nations was about?

That modern economists influenced by neoclassical attributions to Adam Smith of ideas he never held are surprised that game theorists have shown that people can act against others is really a comment on the non-historical approach they have to economics as a discipline.

I am sure their mathematical proofs of Adam Smith’s actual ideas are worthy of a Nobel Prize, and good luck to them, but we less deluded economists who know our intellectual history also know that acting in one’s self interest to the dis-benefit of others is not ‘irrational’ at all – it’s what people do and always have done, and probably always will do. Homo economicus does not exist except in the fertile imagination of the Chicago school.

Adam Smith advanced the proposition that if self interested individuals, acting in the self interest, wish to engage in the domestic business of ensuring their dinner was made available by the 'butcher, the brewer, and the baker', they had better address the self interests of these trades, not their own, and mediate their differences by the process of bargaining.

Selfish individuals can get their dinner only by coercion, or from the scraps made available by those with necessarily limited amounts of benevolence.

Only Jesus (allegedly) fed the multitude with loaves and fish; for mere mortals who do not have sufficient ingredients of dinner to feed many more than their families, they have to obtain what they want from others who want something from them. Smith called it bargaining, which is voluntary and non-coercive.

An Excellent Post by David Warsh on Economic Principals

David Warsh, who writes the Blog, Economic Principals, has featured on Lost Legacy, usually in the critical section, in mild disputes over Adam Smith. This difference between us is not serious nor personal (and having met David Warsh and heard him lecture, he personifies the American gentleman) and if you read what he writes beyond Adam Smith there is always a great deal of interesting good sense.

This is seen in his typically excellent article, An Enormous Pearl, a Little Giant, a Vanishing Hand,(here).

Ignore the ‘vanishing hand’ allusion for the moment and concentrate on his history of the life of Henry Poor (1812-1905) and its relevance to the study of the emerging forms of corporate capitalism, in Poor’s case via the Union Pacific Railroad and others.

Poor’s role as a careful business journalist and student of American business is linked to that of his great-grandson, Alfred Chandler Jr. (1918-2007), whose academic work (MIT, John Hopkins and Harvard) mapped the emergence of the ‘the large multidivisional corporation, not in one industry, but in many’ in Strategy and Structure: Chapters in the History of the Industrial Enterprise (1962) and The Visible Hand: The Managerial Revolution in American Business ( 1977), and “Scale and Scope: The Dynamics of Industrial Enterprise -- A History 1880s-1940s (1990), "a comparative history of managerial capitalism in the United States, the United Kingdom and Germany”.

Chandler continued working from what Warsh calls his ‘intellectual curiosity’ on the evident new trends ‘towards renewed entrepreneurial activity and the disruption of long-established industries only accelerated in the '90s, as Chandler labored on two last works, lively histories of the chemical and electronics industries in the twentieth century. By the time he finished, outsourcing, downsizing, upspeeding, leasing and other such practices had become the norm even in these venerable businesses’.

David Warsh’s account takes in a short history of business oriented magazines, beginning with Forbes, founded by B.C. Forbes (1917), of which James W. Michaels (1921-2007) was editor for 40 years, followed by Barrons in 1919, the Kiplinger Washington Letter in 1923, Business Week in 1929, and Fortune in 1930.

Of what relevance or interest are these matters to economists and social scientists generally? A great deal as it happens, for these sources of information are the contemporary biographies of modern industrial history and a 20th-century version of what Adam Smith was doing in the 18th century.

Economics without ‘looking outside your window’ at what is happening in business organization is like studying the mathematics of ‘72 concentric spheres’ and not looking at the sky at night. David Warsh partly agrees in that economists should do both: ‘Ultimately, though, neither history nor journalism is a satisfactory substitute for penetrating economics.’ I would concur to the extent that the penetrating economics bears a close resemblance to the reality of the world we live in.

For example, modern economics was always dominated by David Ricardo’s ‘law of diminishing returns’, a conclusion drawn from thinking about agricultural imperatives, which overshadowed Adam Smith’s emphasis on the increasing returns in the ‘trifling’ example of pin making, and misdirected economic theory for about 150 years (Alan Young’s 1929 article notwithstanding). That a serious contender for a Nobel Prize is Paul Romer for re-discovering, or rather integrating into the mathematical dreamland of neoclassical economics, increasing returns outlined in Wealth Of Nations in 1776, is a testimony to how far economics has metamorphosed into a subject with limited contact with reality.

Incidentally, Bryan Caplan and Arnold Kling’s Blog (here) contains recent material tracking the increase in the output of pins worldwide, post 1800, to two plants producing all of Britain’s pins by the 1960s, in place of the hundreds in 1800, to a couple of plants in the US, where all ‘18’ operations of Smith’s time are undertaken by batteries of machines, supervised by one or two human operators.

David Wash’s Economic Principals (here)
performs a most useful role for keeping in touch with both the history of economics and the history of business organization. Which you choose to focus on is a matter of your predilection for theory or reality. Ignoring one at the expense of the other is not your best choice.

From ‘invisible hand’ to ‘visible hand’ to ‘vanishing hand’ in one post is an interesting progression. If it leads ultimately to studying markets, as Adam Smith did in Books I and II or Wealth Of Nations) and ignoring the monstrous edifice erected on a literary metaphor dropped into a sentence in Book IV, I shall be pleased.

Understanding how markets work is the first necessary task of economics students; that their tutors go on to mystify a perfectly understandable process with allusions to disembodied body parts, miraculous outcomes, and divine guidance, is regrettable. Pagan superstitions in science have no place.

Is David Kennedy 'the Stupidist Man Alive'?

There are several comments on economics Blogs on the review of Paul Krugman’s book, ‘The Conscience of a Liberal’ (W. W. Norton, October 2007, $25.95 or $15.57 from Amazon), by David Kennedy (positively no relation!), who is the Donald J. McLachlan Professor of History at Stanford University.

Brad Delong, doyen among economist bloggers (here), reviews Kennedy’s NYT's review without mercy:

‘Stanford's David M. Kennedy reveals that he is a serious contender for the "Stupidest Man Alive".’

Brad quotes Kennedy’s review of Krugman:

“Paul Krugman is a justly renowned professor of economics and international affairs at Princeton University. His abundant accolades include the John Bates Clark Medal... a distinction... perhaps even more prestigious than... the Nobel.... [Y]et maybe Krugman is not really an economist — at least not according to the definition offered more than a century ago by Francis Amasa Walker, the first president of the American Economic Association, who wrote that laissez-faire “was... used to decide whether a man were an economist at all.” Most modern economists continue to celebrate Walker’s orthodoxy, and behind it, the classical doctrines of Adam Smith, whose fabled “invisible hand” regularly works wonders of production, distribution, innovation and efficiency, provided it is kept free of the meddlesome “nanny state.”... Krugman [is] the anti-economist...”

Brad concludes:

“David Kennedy thus demonstrates that he (a) has never read Adam Smith, and (b) has little acquaintance with modern American economists--who are (like Adam Smith) much more interested in prescribing how the nanny state should meddle to be effective than in protecting the naked market from interference.”

Comment
First, a clarification on my part: I am not familiar with the ‘politics’ of the personalities who populate American academe and this includes where Paul Krugman stands on the continuum of ‘left – right’, ‘classical – neoclassical’ or ‘seriously competent – wildly not so’, and I cannot judge the accuracy of Brad Delong’s assertion, though as it is Brad’s assertion I am inclined to go along with it.

I treat what David Kennedy has written as they stand. That he quotes Francis Amasa Walker (1840 – 1897!) for his criterion of what constitutes and economist in 2007 suggests he is seriously out of touch, and that he associates Adam Smith with laissez faire supports this conclusion.

Adam Smith was not the author of what passes today as ‘classical doctrines’ (an impossibly broad tent covering Malthus, Ricardo and Marx, from among which I would snatch Adam Smith).

The sentence including, “Adam Smith, whose fabled “invisible hand”, gives the game away. David Kennedy, a professor of American history, refers to the ‘fable’ of the invisible hand, but it wasn’t a fable of Adam Smith’s making; for Smith it was merely a handy metaphor when explaining why opening a domestic market to foreign goods for consumption would lead to higher domestic investment, partly by the foreign products competing with domestic products and partly by the risk avoidance of local merchants preferring to invest their capital locally. As the arithmetical whole is the sum of its parts, if local merchants invest locally instead of abroad, domestic capital formation will be higher than otherwise.

For 18th-century readers of Wealth Of Nations (Book IV.ii.9: p456), who were not economists – more likely to be legislators and people who influence them – he summed this process after clearly explaining it by using a common 17th-18th-century literary metaphor of the invisible hand (see Shakespeare’s ‘Macbeth’, Defoe’s ‘Moll Flanders’ or ‘Colonel Jack’, or Voltaire’s Oedipe: 'Tremble, unfortunate King, an invisible hand suspends above your head’; and ‘an invisible hand pushed away my presents’, etc.,).

The fable of the invisible hand has passed through the string of tenuous development, first as a ‘concept’, then as a ‘theory’, and finally, and banally, a ‘paradigm’!

Its origins are located in the environs of 51st Street, Chicago, and which has been propagated all over American academe, via its graduates and the media, until the fable is now regarded as the reality in all expositions of neoclassical general equilibrium theory (after Samuelson and Debreu) and sanctified by Nobel Prize winners from the Bank of Sweden.

I would expect an historian to know this, or at least to be interested in it.

David Kennedy’s review has received attention (scathingly) from ‘Angry Bear’ (here) and Mark Thoma (here)

Capitalist Competition is Better for the Environment than State Managed Poverty

Prometheus 6's blog (all respect and no restraint):
Under the title, ‘The damn book pile is too high already...’, ‘Prometheus 6's blog (all respect and no restraint)’, quotes an excerpt (here) from a New York Times review of Robert B. Reich’s ‘Supercapitalism: The transformation of Business, Democracy, and Everyday Life’, Borzoi Books (Knopf Inc.):

“ADAM SMITH FIRST DESCRIBED CLEARLY, INDIVIDUALS WHO PURSUE ONLY THEIR OWN NARROW INTERESTS IN A COMPETITIVE SYSTEM OFTEN INADVERTENTLY CREATE WIDESPREAD SOCIAL GAINS. BUT NOT ALWAYS. UNLIKE MANY OF HIS MODERN DISCIPLES, SMITH WAS KEENLY AWARE OF THE INVISIBLE HAND’S LIMITATIONS. INDIVIDUAL AND SOCIAL INTERESTS OFTEN DIVERGE, HE REALIZED, AND IN SUCH CASES, GREATER COMPETITION MAKES MATTERS WORSE. IF A FIRM CAN CUT COSTS BY REMOVING THE FILTER FROM ITS SMOKESTACK, FOR EXAMPLE, IT WILL FEEL GREATER PRESSURE TO DO SO WHEN COMPETITION INTENSIFIES.

IF OUR SOCIAL ILLS ARE INDEED ROOTED IN INCREASED COMPETITION, OUR ONLY RECOURSE, REICH ARGUES, IS TO CHANGE THE RULES. DENOUNCING GREED IS SIMPLY WASTED ENERGY. IF WE WANT LESS INEQUALITY, WE MUST MAKE TAXES MORE PROGRESSIVE. IF WE WANT CLEANER AIR AND WATER, WE MUST ADOPT MORE STRINGENT ENVIRONMENTAL LAWS.”

Comment
The reviewer, or the author, runs two ideas together: that self interest does not lead to social betterment except in special cases (the gist of my criticism of the widespread neoclassical notion that Adam Smith said that self interest always leads to social betterment, which he didn’t) and that this competition leads firms to ‘remove filters from smokestacks’.

This second idea is not entirely, nor mostly true. Smoke filters are not fitted in countries and in times where ignorance prevails and the laws against pollution are not operable. The firm that removes a smoke filter when the law prescribes that they shall be fitted is breaking the law and is subject to judicial process.

Adam Smith was always clear that justice is the main pillar of commercial society. Pollution is not left as an option (any more than child labour is) in modern capitalist societies. It may be in early capitalist societies such as India, China and some other Asian countries, but not in the richer countries.

The reviewer or the author, recognizes that Adam Smith was aware, and said so, 50 plus times in fact, that self interest and selfishness lead to social worsening and not social betterment, and correctly points out that ‘modern disciples’ (mostly self proclaimed) of Adam Smith assert to the contrary, though we can rest assured that they have never read Wealth Of Nations beyond a few second-hand quotations.

Competition is not the root of ‘social ills’; it is their cure. Non-competitive societies, which are usually dictatorships, are always awash with social ills. Russia, China and the socialist countries are the worst polluters and resource wasters. Poverty itself is the worst social ill.

Rich capitalist countries can afford ‘CLEANER AIR AND WATER’ and do ‘ADOPT MORE STRINGENT ENVIRONMENTAL LAWS’ than poor countries. Why Robert Reich turns the heat on the rich capitalist countries, adding yet more opprobrium on the solution to the environmental problem, not its cause, is typical of the genre.

Lost Legacy Cited on Inheritance Tax

Occasionally, other Blogs cite Lost Legacy posts and I am always happy for them to do so, especially when it is from 'friendly' sources, such as today's ASI, though I have no objection to 'hostile' Blogs, of course.

The Adam Smith Institute (London) operates one of the larger economics Blogs in Europe, measured by 'hits', and also, if it was publishable, measured by its influence on legislators and people who influence them.

In its daily 'Round up', www.ASI.org cites and links to my piece on Adam Smith and the inheritance tax debate in Britain both in parliamentary sessionjs and in this week's issue of The Spectator (London), which I discussed in yesterday's posting.

The Spectator posted my response on their comments facility to the article on their online edition (www.spectator.co.uk).

'Benvolent' Invisible Hands Are a Neoclassical Invention not Adam Smith's Naivety

Adrian Cho in ScienceNOW Daily News (15 October) writes, ‘The Economics Nobel: Giving Adam Smith a Helping Hand’,(here):

“Scottish philosopher Adam Smith asserted that when everyone acts out of self-interest, everyone will eventually benefit, as if a benevolent "invisible hand" molds the economy. Economists now know that view is naive: They can prove that in some situations, rational people will act in ways that leave everybody a loser. But such dreary outcomes can sometimes be avoided, thanks to work that today earned three Americans the Nobel Prize in economics.”

Comment
The fact is that Adam Smith did not assert ‘that when everyone acts out of self-interest, everyone will eventually benefit, as if a benevolent "invisible hand" molds the economy.’

This outrageous calumny is a fabrication by neoclassical economists, including winners of the prestigious economics version of the Nobel prize awarded by the Bank of Sweden each year, who by a tenuous slide of meaning use the assertion to give historical credibility to general equilibrium mathematical equations that do not correspond to the world we live in (and never have!).

For Adrian Cho to assert that ‘Economists now know that view is naïve’ exposes a consequential ignorance of what Adam Smith actually wrote about his use of the metaphor of the invisible hand. There are numerous postings on Lost Legacy that make this point and I refer readers to them.

The fact is that Adam Smith’s Wealth Of Nations is literally littered with his examples of significant instances of people ‘act[ing] out of self interest’ to the detriment of everyone else, and from Smith’s historical account it is clear that this has always been so. In Wealth Of Nations, Books I and II, which analyse how markets work in the world he lived in, how they have always worked, and still work, he provides 51 specific examples of the self-interests leading to results far short of them ‘benefiting’ anybody other than themselves.

This contrasts with the single use of the metaphor that has been interpreted variously by some classical and all neoclassical economists as a ‘concept’, a ‘theory’, and even a ‘paradigm’! Hence, this month’s winners of the Nobel prize for ‘economics science’ were not showing Adam Smith’s naivety for believing such assertions about self interest leading ‘always’, or ‘eventually’ to society benefiting.

They were correcting the neoclassical error believed with all the conviction of a religious belief beyond human understanding, as it must be because the role of self interest is well explained as a very human behaviour in both Moral Sentiments and Wealth Of Nations without the intervention of invisible body parts.

That some economists have found in the invisible hand the intervention of a god or a divine spirit in the literary metaphor that was common enough in the 17th and 18th centuries, and long before back into Greek and Roman times, reveals a most unscientific notion totally unexplained or explainable by them or other neoclassical economists.

The negative aspects of self interest when exercised by powerful rulers and monopolists (and polluters!) is indeed ‘dreary’, but it is also normal. Adam Smith's realisation of the prevalence of these historical norms led him to suggest measures, that would curtail them.

Necessarily, this implied legislative intervention - it wasn't going to happen otherwise - and that is why Wealth Of Nations was written to persuade legislators, and those who influenced them, to replace, slowly and gradually, the policies of mercantile political economy , to improve the progress towards opulence, which would reduce absolute poverty, partricularly among the majority of the population.

Disengenuous Defence of Inheritance Tax by a 'Non Dom'

Irwin Stelzer, a director of economic policy studies at the Hudson Institute and a columnist for the Sunday Times and The Spectator writes:

“Listen to Adam Smith: inheritance tax is good” (Spectator, 17 October):

“To meet the criteria of ‘evident justice and utility’, Adam Smith supported a tax on wealth inherited by children ‘who have got families of their own, and are supported by funds separate and independent of their father’. Which is why the Economist classifies Smith as one of the political economists ‘broadly in favour’ of the estate tax.”

I sent a short comment to the Spectator (London), quoting the reference made by Irwin Stelzer (not given by the columnist):

“The death of a father, to such of his children as live in the same house with him, is seldom attended with any increase, and frequently with a considerable diminution of revenue, by the loss of his industry, of his office, or of some life-rent estate of which he may have been in possession.

That tax would be cruel and oppressive which aggravated their loss by taking from them any part of his succession. It may, however, sometimes be otherwise with those children who, in the language of the Roman law, are said to be emancipated; in that of the Scotch law, to be forisfamiliated; that is, who have received their portion, have got families of their own, and are supported by funds separate and independent of those of their father. Whatever part of his succession might come to such children would be a real addition to their fortune, and might therefore, perhaps, without more inconveniency than what attends all duties of this kind, be liable to some tax.” [WN V.ii.h .4: ‘Appendix to Article I and II’: p 859]

Comment
Adam Smith discusses inheritance tax with his usual historical method to give I context. He begins with Roman law and continues through the ‘Scotch’law. In his comments come after differentiating between inheritance while the children still live at home and for them such a tax would be ‘cruel and oppressive’.

Next he discusses the case where the children have left home and set up their own homes. In the former case there is no doubt at his abhorrence of a ‘cruel and oppressive tax’; in the second case he speaks tentatively: they ‘might therefore, perhaps, without more inconveniency than what attends all duties of this kind, be liable to some tax’.

It is fair to assert that ‘might therefore, perhaps’ are less than enthusiastic endorsement on inheritance tax, especially if laid alongside his description of the other inheritance tax as 'cruel and opporessive'.

The context in which Smith discussed the ‘evident justice and utility’ of taxation did not include income tax anything like on the scale that it is in the 21st century. In fact there was none, contrasted with 40 percent income tax and 11 per cent National Insurance (= 51 per cent). To which we can add: Council Tax, Valued Added Tax (17.5 per cent), Fuel Tax, and scores of (stealth) taxes. The Excise has always been with us, plus Stamp Duties. In this context it is difficult to see why Stelzer is so sure of Adam Smith’s support for all inheritance tax.

Turn the page of Wealth Of Nations and Smith comments, with stunning relevance to the current government’s tax policies:

‘There is no art which one government sooner learns of another than that of draining money from the pockets of the people’ (WN V.ii.h.12: p 861)

It may be linked to the status of Irwin Stelzer as a ‘non-dom’ (non-domiciled), or someone earmarked by the Conservatives to be taxed to pay for the raising of the inheritance tax threshold to estates worth £1 million, which attracts 40 per cent tax.

I am not suggesting that his personal circumstances influence his judgement (heaven forbid), but I am suggesting that Irwin Stelzer is less than candid about Adam Smith’s views in their proper context.

Incidentally, Emperor Augustus imposed an inheritance tax of 5 per cent, not 40 per cent.

A Rare Mention of Adam Smith That is Accurate

Michael Miller writes for the Acton Institute (here): ‘Who’s Afraid of Free Trade?’ and includes the following:

“Few things are better for economic growth than free trade. Adam Smith demonstrated the mutual benefit of trade with his famous example of the brewer, butcher, and baker. The butcher has more than enough meat, so he trades it for beer and bread, and vice versa. When people are allowed to trade, everyone is better off. The same thing that happens in a city market takes place globally. Global markets allow more people to trade more goods and services, increasing the amount of goods and lowering prices. Trade creates opportunities for farmers and producers in the developing world and creates more markets for U.S. producers to sell their wares abroad.”

Comment
Correct. Be even better if the USA and Europe did not practise protectionism for their farmers to keep out ‘developing world’ exports of food and other produce, for them to earn dollars to buy manufactured goods and technology from America and Europe.

The Authentic Adam Smith at the Tuesday Club

Last evening I attended a monthly dinner club meeting of the appropriately named ‘Tuesday Club’, the format of which was as ‘speaker’, I spoke for 20 minutes on what was billed by the chairman, Michael Fryer, an historian of credible reputation, as ‘Adam Smith in the 21st Century’.

The unusual format, which worked perfectly well, was for the speaker, during the serving of the first course (‘salmon fish cake with rocket leaves, lemon and paprika mayonnaise), to speak to a theme, and then those present are invited in turn to speak and pose their questions, also during the serving and eating of the rest of the dinner: main course (breast of pheasant with apple and rhubarb stuffing, colcannon potato, sweet (white caramel apple pie upside-down cake with vanilla ice cream)and coffee (and dark chocolate truffle), assisted by generous amounts of red or white wine (and a champagne starter). I stuck to orange juice as I do not partake of alcohol while working. Initially, I didn’t stick closely to the chairman’s chosen theme, but the questions led me that way.

The members of the Tuesday Club (running its monthly meetings for ten years) are interested in and are contributors to intellectual discourse from many walks of life (academics, professionals, business managers, politicians, authors, journalists, plus, last night, a young PR professional – is that a spin doctor?). The manners of their discourse were impeccable – nobody raised their voice; nobody was emotionally distraught, and nobody did other than listen politely, and the chairman, Michael Fry, conducted the affair with a calm dignity and impressive light touch.

It was fascinating to find a small coven of civilised human discourse in Edinburgh, which I felt as an echo of what was the norm in the Scottish Enlightenment, when Adam Smith attended his many club from the informal Oyster Club, where he, Adam Ferguson and the others adjourned after dinner to a side room for claret, beer, and conversation, while the other diners turned to singing and dancing with lady servers, allegedly of a willing disposition, to the more sedate and bewigged meetings of the Royal Society of Edinburgh to listen and comment to serious papers on science (natural and literary) in that age of great hope and anticipation. The long dining room table of the Stack Polly Restaurant, Grindlay Street, added to the historic atmosphere perfectly.

The Tuesday Club is right-of-centre politically. There were conservatives, libertarians and classical liberals present among the 20 diners (one attendee had given a lift to Murray Rothbard!). In my remarks I concentrated first on the authentic Adam Smith, a subject touched on many times here Lost Legacy.

His backward looking perspective to the revival of commerce from the 15th century, his analysis of the evolution of the propensity to ‘truck, barter, and exchange’, the cradle-to-grave urge to self-betterment, the division of labour, the foundations and extent of markets and the ‘slow and gradual’ growth towards opulence. His Moral Sentiments was about the harmony-producing sympathy of each to others in society, and Wealth Of Nations was a critique of mercantile political economy, and not a text book on economics.

In the long sweep of history, the key number was not the ‘average per capita income’ (Gregory Clark), which remained low and unchanged for millennia, but from the gross income of society (GDP), large enough proportions of which were extracted as surplus over average subsistence by the powerful, from which they built the stone civilisations that came and went cyclically for 10,000 years. Sadly, beyond sentiment, the history of the poor was not decisive. When all are poor, they all remain poor for always. Meanwhile, as a minority grew richer, knowledge accumulated, technology and innovation slowly spread, and capital formed.

The mid-18th century was the time where this underlying trend was visible and understood; meanwhile the rest of humanity across the world (Africa, Australia, the Americas) remained in Smith's Age of Hunting, equal but poor; even the powerful in these societies had fewer artefacts than an employed common labourer in 18th century Scotland.

Britain, a thousand years after the fall of Rome, re-reached Smith's Age of Commerce, along with other Western European societies, but all of them fell victim to the notions of mercantile fallacies (jealousy of trade, protectionism, wars for trivial ends, colonies and institutional monopolies) all of which distorted natural economic growth and delayed the spread and deepening of commercial societies, which in due course would raise the opulence of the employed poor and draw into commerce the unemployed destitute and abject poor of which those societies abounded.

This thought haunted and sometimes agitated Adam Smith.

Wealth Of Nations addressed these problems; it is not about laissez-faire; 19th-century corporate capitalism; or minimal ‘night watchman’ state activities. Its paradigm is not the ‘invisible hand’ metaphor; it is about letting markets work, within the law, and using funding from taxation, beyond the need for defence (which costs less than fighting unnecessary wars or suffering invasion), and justice (the main pillar of society), for the necessary role of public works and projects to facilitate commerce, including for the education of all children.

During the dinner a most active set of contributions and questions flowed as impressively as the dinner and drink was served with smooth efficiency by the restaurant’s staff. Subjects raised included the role of property, Adam Smith’s politics, his religious affiliation, the labour theory of value, the East India Company, formation of prices, the invisible hand, what Smith might have thought about the current Prime Minister (also from Kirkcaldy), Smith’s attitude to the Guilds, ‘Das Adam Smith Problem’, Eamonn Butler’s recent primer on Adam Smith (an ‘excellent read’), why the rich should pay more tax than the poor, flat tax, the role of self interest, Smith’s ‘different’ account of the division of labour in Books I and V, and his version of laissez faire.

Now I defy anybody to say that they have participated in such a well-informed audience with such a range of subjects related to Adam Smith at a dinner in a restaurant. The time passed swiftly and there was not a moment where the audience flagged in their enthusiasm to keep probing into, what most admitted was completely new territory regarding Adam Smith and his authentic views.

I realised why the Tuesday Club has lasted eleven years and why it is still going strong. I also saw why right-of-centre political philosophy and ideas remain lively and thriving in Edinburgh, but remain perplexed as to why the right-of-centre parties seem to be so marginalised in Scottish political life.

Maynard Keynes Would Have Benefited from Reading Adam Smith Instead of Repeating Distortions of His Legacy

I reported yesterday that I had read the first three chapters of Paul Davidson’s ‘John Maynard Keynes’ ( Palgrave, 2007: Great Thinkers in Economics; series editor, Tony Thirlwall). I turned to Chapter 4 shortly afterwards and was confronted with assertions by Paul Davidson which I found disappointing. (True, he has not yet read my manuscript on Adam Smith!)

Let me explain. Davidson’s argument about Keynes is developed against a background in which Keynes’ criticism of prevailing economic policy is labelled as an alternative to ‘classical’ economics, in particular the notion of laissez faire, that is, that governments should not interfere in markets or non-performing economies for any reason. Davidson is correct, but goes further.

Classical economics is identified with a fallacious set of policies attributed to ‘the founding fathers of classical economics such as Adam Smith and David Ricardo’ and ‘although the phrase laissez faire does not appear’ in their books, nevertheless ‘the idea is there’. (Davidson, P. 2007: p 22) This erroneous academic consensus on Smith’s legacy continued long after the ‘General Theory’ (1936).

Davidson captures Keynes’ exasperation with the notion of laissez faire as practised by British (post-First World War) and American (post-the 1929 Great Depression) governments, and by 19th-century governments, influenced by the ‘Manchester School’, and John Stuart Mill. Prejudices in favour of laissez-faire ruled in practice and in the universities. But these ideas had little to do with Adam Smith.

All economics courses need to study the history of economic ideas and methods to avoid the glaring error of attributing laissez-faire to Adam Smith, thus giving it an undeserved and uncritical authority. If they had read Adam Smith correctly (in many cases, sadly, if they had read him at all!), the Smithian alternative to laissez faire would have been in contention, instead of the field being left to the socialist and Marxist criticism that regarded markets as the problem, and not the Smithian solution.

Paul Davidson offers supporting evidence from Adam Smith, which he says is ‘in his 1776 classic, The Wealth Of Nations’, where Adam Smith wrote:

‘It is not from the benevolence of the butcher, the brewer, or the bakers that we expect our dinner, but from regard to their own self-interest. We address ourselves, not to their humanity but to their self love, and never talk to them of our necessities, but of their advantage … Every individual is continually exerting himself to find out the most advantageous employment for whatever capital he can command. It is his own advantage, indeed and not that of society which he has in view …. 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 is no part of his intention. By pursuing his own interest he frequently promotes that of the society more effectually than when he intends to promote it.’

The sole reference given for this quotation is: ‘Smith, 1776, p 14’.

Now anybody reading the quotation, and knowing nothing about Wealth Of Nations, would conclude that the ten-line quotation came from ‘page 14’ of Wealth Of Nations, when in fact only the first three-and-a-half lines come from the page 14 (Wealth Of Nations, ed. Canaan, 1937; or find them in Book I, Chapter 2, pp 26-27, Glasgow edition, 1976) These lines refer to bargaining behaviour, not laissez faire, and do not refer to the pursuit of self-interest as interpreted by classical economics; Adam Smith was at pains to stress the need to mediate self interest by addressing the self interest of others. (Search Lost Legacy for many discussions of this very point).

The other six-and-a-half-lines come from a different section of Wealth Of Nations (Book IV. ii. 9. p 456), and refer to the quite different subject of the risk avoidance of merchants, if freed from import protection.

Does this matter? Very much so, because Keynes’ history of laissez faire and self interest only repeated what orthodox economists presumed solely by repetition, to which Paul Davidson added the link to the ‘invisible hand’, which Adam Smith referred to only once in Wealth Of Nations in Book IV, but not in connection with his theory of the origins of the propensity ‘truck, barter, and exchange’, and his theories of how markets work (Books I and II).

Davidson promotes Adam Smith’s use of a common literary metaphor in 17th-18th century literature to the high status of a ‘paradigm’, possibly the slimmest of foundations for any paradigm in any known science.

Keynes’ critique of what he called classical economics stands fairly solid without him having to make any obligatory reference to the quite different purposes of Wealth Of Nations, which by doing he distorts Adam Smith’s legacy in the midst of exposing 21st-century distortions of Keynes’ legacy.

Consider briefly what Adam Smith wrote in Wealth Of Nations, how might we explain why such distortions are important and why, by refraining from them, we also achieve a better insight into the problems that Maynard Keynes addressed, which are still with us?

Wealth Of Nations is an historical (backward looking) account of how Britain’s commercial economy revived from the 15th century to its slow and gradually growing opulence in the second half of the 18th century. He did not project these trends into the 19th century (with the exception of predicting that North American would be the dominant economic power within a 'hundred years’).

Book I and II are about the evolution of the commercial ‘age’ from ‘hunting’, which large parts of the world were still stuck in, towards opulence, where the division of labour and expanding markets were slowly enriching (unequally) societies in Western Europe.

The difference in living standards, not measured by per capita income, though that was slowly changing, but by the gross income of society, between hunting and commercial societies was observable in the lack of accoutrements of the ‘savage’ hunter compared to those possessed by the poorest employed common labourer in Europe. And Europe also showed the detritus of stone monuments of past and current civilisations not found in any scale, or at all, in the ‘new worlds’ of the hunters in Africa, the Americas, and Australia. He explained how commercial societies worked through markets and how (primitive) economic growth was sourced in the net profits of undertakers, renting land and hiring labour in commerce and agriculture.

Book III is a short history of the evolution of economies (much of it expanded from his Lectures in Jurisprudence, and the ‘Early Draft’ in the 1760s). Book IV is a polemic and detailed analysis of the how ruling governments in Europe distorted market relationships in monopolistic town markets, protectionist national policies exacerbated by the jealousies of trade, formed monopoly colonies and trading companies, engaged in fruitless wars (£170 million spent of wars against the French), crippled free labour markets with oppressive legislation and undermined the ‘Perfect Liberty’ of the population (a concept from jurisprudence, not perfect competition).

Smith considered the colonial ventures in North America as a major brake on the natural evolution of markets in Britain and Europe and sourced the problem in the legislatures and among those who influenced them. His model of a distorted economy is made explicit in Book IV.

His critique of mercantile political economy was against those forms of government intervention that were influenced by and for the private benefit of special interest groups, whose exercise of their self-interest led to a lowering of society’s ‘wealth’, which was the annual output of ‘the necessaries, the conveniences, and the amusements of life’.

In Books I and II, he gives over 50 instances of where individual self interest undermines society’s economic growth, few, if any, of which are ever quoted with the same frequency as the single ‘invisible hand’ metaphor in Book IV by those keen to link Adam Smith to the all powerful, even invisible, drive of people exercising their so-called 'beneficial' self interest, from which leaving them alone to rip off from the public higher prices and profits is 'legitimised' in Adam Smith's name! This is a corruption of Smith’s legacy.

Smith did not favour laissez faire (he never mentioned it), nor did he oppose all government intervention (see Book V of Wealth Of Nations), and nor did he consider that free markets (or ‘Perfect Liberty’) were a necessary or sufficient condition for progress towards opulence (see WN IV.ix.28: p 674). In this rebuttal, Adam Smith referred by name to Dr Quesnay and Physiocrats, some of whom advocated laissez faire and were its original source. To link Smith to laissez faire is a major error of attribution.

His view was that if people were left to place their capital where they could make a profit, and were free to ply their trades as labourers where they could earn a wage, then economic growth would be augmented above what it was likely to be where governments, monopolists, protectionists and such like attempted to do this for them.

But note, he stated that in the absence of freedoms to do what they might otherwise do, society still made progress (Book IV). There were circumstances where governments which provided the capital for public projects to aid commerce (Book V), identifying harbours, canals, viaducts, roads, civic amenities such as pavements, street lighting and rubbish removal, as well as police, and, most significantly, public education of all children – a ‘little school in every parish’, all 60,000 of them!), would assist the progress to opulence. Smith’s was not a laissez-faire agenda, and nor was it a socialist charter. The prerequisite for continuing progress was the existence of active commercial markets. Also, public funding did not mean public management (that's a 20th century trade union 'achievement').

Where private capital was too risk averse, or where it would be unprofitable, he saw a role for government-funded activities. Consistent with these 18th-century thoughts, it is not beyond safe sense to see how Adam Smith’s approach could be applied to the kind of 20th and 21st-century problems identified by Maynard Keynes and others in certain circumstances.

If modern economists read what Adam Smith actually wrote and resisted rummaging around second-hand selected quotations of what he is alleged to have written, it could be that his Works and approach might prove a fruitful source in the study of the consequences of the continuity of mercantile political economy that has so bedevilled the recent history of Europe and North America.

I should add this is a specific criticism of Paul Davidson’s attributions to Adam Smith in support of Maynard Keynes’ misattribution to him of the Manchester School’s version of laissez faire and the beneficial effects of over riding self-interest, in common with the dominant ideas of the 20th century. It is not a criticism of Paul Davidson’s excellent presentation of Maynard Keynes’ original ideas expressed in The General Theory, with which I concur from what I have read so far.

Confusion in a Church

“Self-sacrifice, not self-interest, vital to stewardship”
By Rt Rev. Duncan M. Gray III, writes in the Jackson Clarion Ledger (here):

“However, the guiding principle in the efficiency and efficacy of our culture's way of doing things is the "invisible hand" of Adam Smith's capitalism and not Yahweh, the God of Abraham, Isaac and Jacob. The church is notoriously fuzzy in its attempts to be faithful to the latter.”

Comment
Such confusion in one paragraph! Misuse of the metaphor of ‘the invisible hand’; associating Adam Smith with ‘capitalism’ 70 years before the word was invented after Smith had died (1790); and complete myopia in describing the mercantile states (protection and colonial imperialism) as anything to do with free trading commercial societies.

New Book on Keynes Pleases Me, But Won't Please Everybody

The first of 17 volumes for the Great Thinkers in Economics series, edited by A. P. Thirwall, has been published by Palgrave Macmillan. It is by Paul Davidson and is titled simply: John Maynard Keynes.

I have read the first three chapters and it promises to be a controversial account of Keynes life and economics. It describes 'Keynes' and his 'revolutionary views' and shows what he was trying to do in macro-policy betwen the wars and for a short-time after the end of World War II. This is likely to be criticised by many recent economists.

Having worked for a couple of years on Adam Smith and recognised that most interpetation of his work has been totally misrepresenteative of his legacy, I feel a certain affinity with Paul Davidson, whose account of the treatment of Keynes also shows that many modern economists also misunderstand his purpose in The General Theory, echoes much of what I found in modern accounts of Adam Smith, and the question that remains whether I shall continue to see these parallels between the two philosophers turned political economists.

Keynes stood out against what he called 'Classical Economists', into which he lumped Adam Smith, a challengeable error in my view, and the neo-classical paradigm took root and flowered, and co-incidentally 'Keynesian' policy consensus went into decline in the monetarist controversies. Much that is described as 'Keynesian' is quite different from The General Theory (again in my view, and perhaps Davidson's) and his legacy suffers a fate not that different from Adam Smith's.

Paul Davidson's John Maynard Keynes, retails at £55 in the UK and is availabe on Amazon or from bookshops (IBN 978-1-4039-9623-7). So far, it's a good read. I shall report when I finish reading my copy.

My 'Nobel Prize' Suggestion

The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel will be announced on Monday.

There’s much angst among the Blogs with the usual suspects predicted to be in the running.

Greg Mankiw, a leading Blogger, Harvard Professor, author of one of (if not the biggest among the) economics textbooks and, according to some quarters, a contender himself, expressed his opinion that the winner(s) should be drawn from those who are most cited by other economists in peer-reviewed journals.

I suppose that such a criterion would weight in favour of an author working on current concern if taken recently or in favour of a long-established economist with 40 years of journal exposure on multiple subjects in his bag.

My own suggested nomination for the past two years has been for Professor Jagdish Bhagwati of Columbia University (NY).

I shall stick with him for this year too (and for next, as I have little confidence in the selection criteria used in the selection process when it comes to academic economists).

Now We Have an 'Invisible Fist' as a 'Buddy'!

Angry Economist (here)
presents a paragraph for what I hope is purely for rhetorical effect and not because he believes in invisible body parts, much as ancient savages and educated religious people believed in invisible gods:

“The Invisible Fist of the Market”

“Free markets avoid a whole world of hurt. The invisible fist of freedom does it for us. When you can't coerce people into buying your product, or selling you theirs, many bad outcomes simply never happen.

Isn't it great having a big invisible buddy on your side? Unfortunately, he's easily offended by well-meaning acts of coercion. If you're not careful, he can invisibly slip away and you won't realize he's gone until you need him. Just a cautionary note. Don't assume that free markets will protect you if you've allowed them to become state-controlled markets.”

Comment
This is really sad. A common 17th and 18th-century literary metaphor that Adam Smith used for the irresistible subsistence distribution, which rich landlords had no choice but to do in self preservation (Moral Sentiments) and for the risk aversion (Wealth Of Nations) of merchants, has been metamorphosed by modern economists from a disembodied body part into a tangible presence in real world markets. Smith did not use the metaphor in his analysis of markets.

Angry economist makes the metaphor (something that never existed) into ‘big invisible buddy’ whom, he asserts, is on our side! More, the invisible ‘buddy’ can (I kid you not) ‘invisibly slip away and you won't realize he's gone until you need him’. If he’s invisible is ‘he’ (note the gender identification) like the wind, felt and heard but not seen?

Why do bright people, including Nobel Prize winners, purvey this nonsense? The ignorant have an excuse. What is your excuse for believing in ghosts?

Has the modern Chicago-influenced economist returned to the intellectual ignorance of the pagan believer in superstition, against whom Smith mocked in his 'juvenile' ‘History of Astronomy’ essay?

The ‘pagans’ had an excuse for believing in Jupiter’s ‘invisible hand’, which was a religious belief in the ‘invisible’ but powerful god, manifested in a stone statue, glowering over Rome from the Capitoline Hill and for which public disbelief in his role as protector of the Emperor was punishable by a ghastly Roman death.

Is the conventional religion of invisible hands equally powerful in that it means scholarly ‘death’ from asserting that the Emperor is naked? Is the pernicious tenure system worth the prostitution of academic integrity by publicly affirming that markets are ruled by a disembodied spirit when you know how they work and so did Adam Smith (Books I and II of Wealth Of Nations, neither of which mentions invisible hands, feet or fists)?

Is economics a science or a cult?

Sometimes I wonder.

[You can receive a copy of my paper, ‘Adam Smith’s Invisible Hand: from metaphor to myth’, by mailing me at gk aT ebs Dot hw (dOt) ac (doT) uk. Your address is deleted after the paper is posted; you will not receive any other mail unless you ask me separately]

David Kelly's "Heresy" Spreads; Adam Smith 'Libelled'

Doug Mataconis posts on the The Liberty Papers Blog (here) reproduces ‘The Heroes Of Capitalism’ by David Kelly (described as a ‘philosopher’, which might explain his elementary confusion of Bernard Mandeville (1724) with Adam Smith):

‘In an article that appeared in yesterday’s Wall Street Journal, but only became available for free access today, Philosopher David Kelley marks the 50th anniversary of the publication of Atlas Shrugged by noting the novel’s central accomplishment, celebrating as heroes men and women who even today are still considered villains by a large part of society’

The article comments, without criticism of its ‘Mandeville’ confusion with Adam Smith, the paragraph from the original WSJ article, which I commented on in my post yesterday:

“Economists have also known for a long time that trade is a positive sum game, yet most defenders of capitalism still wrestle with the “paradox” posed in the 18th century by Adam Ferguson and Adam Smith: how private vice can produce public good, how the pursuit of self-interest yields benefits for all. Rand cut that Gordian knot in the novel by denying that the pursuit of self-interest is a vice. Precisely because trade is not a zero-sum game, Rand challenges the age-old moral view that one must be either a giver or a taker.’

And adds: “as I’ve noted elsewhere is the singular accomplishment that Ayn Rand should be remembered for. While the moral principles she wrote about had been part of the academic literature of Western Civilization for some time, they had never been popularized before in the way that Ayn Rand did. Because of that, it’s fair to say that there’s an entire generation of libertarians, and businessmen, whose first encounter with the idea that there isn’t anything wrong with profit, and that success isn’t a dirty word, came from a woman named Ayn Rand, and a book called Atlas Shrugged.”

Clearly, Ayn Rand (another philosospher) equated profit and selfishness for rhetorical effect and may have cross-influenced (‘contaminated?) Chicago economists at the time, who misread Adam Smith to create a Chicago version of him quite different from the man from Kirkcaldy. The autobiography of Alan Greenspan suggests the contamination linkage, fom which he appears to be retracting.

Read also the comment on the Liberty article posted with it by Chepe Noyon.

Apart from the commentator’s reference to the invisible hand (‘What’s important here is the Invisible Hand — that’s the device (the marketplace') that diverts selfishness — usually a vice — in a productive direction. Adam Smith wasn’t puzzled by the basic concept: he enunciated it 150 years before Ayn Rand came along. So let’s not lionize selfishness. Selfishness is not good. It often leads to results that are bad for everybody else. But capitalism and the marketplace are able to harness that selfishness and make it useful. So let’s raise a glass to capitalism — not selfishness’), he discusses the difference between capitalism and selfishness brilliantly.

So for Doug Mataconis it's one step backwards and for Chepe Noyon its three steps forward. For Lost Legacy that's welcome progress!

A Post That Presents Adam Smith as he Intended

David Hoopes addressing Smith’s wider views on markets versus state management of economic decisions, presents a 99.9 per cent correct version of them (the other 0.1 per cent slight blemish is his mention, en passant, of the ubiquitous ‘invisible hand’, but let’s ignore that slightest of slips on grounds that to err is human...).

His article, ‘Why Are Markets So Scary? Some Things (Liberal) Academics Get Wrong’ is posted on Organisation and Markets (11 October) here :

He quotes from ‘Two very good papers can aid in a deeper understanding of the invisible hand.’ (Treat the reference to the metaphor as an inevitable knee-jerk reaction from the standard presentation of Smithian political economy whenever the word ‘markets’ is mentioned!).

The first paper is “James Q. Wilson’s ‘Adam Smith on Business Ethics’, from which he notes that “Adam Smith assumed people will behave with a moral sense. Wilson,” and comments: “By suggesting people be allowed to make decisions based on their own self interest Smith was not advocating selfishness and greed. What then was he advocating?’ The second is ‘ Harold Demstez’s “The Theory of the Firm Revisited” , who asks: “Is central economic planning necessary to avoid chaotic economic conditions?” The great achievement of the perfect competition model, what Demsetz argues should be called perfect decentralization, is its abstraction from centralized control of the economy.’

David Hoopes states that: ‘Few who have lived in these economies yearn for their return. Only those [that] have no idea of what it is like to have so many choices removed idealize such a life. How many academics would like living in a planned economy if planners decided the economy needed fewer academics and more farmers (cultural revolution anyone)? How many Hollywood actors would like living in an economic system where they were paid the same as everyone else, where central planners chose scripts, and where the government decides what kind of entertainment people “need?”

He concludes correctly: ‘Further, not only did Adam Smith not promote greed, but he believed in human sympathy and other virtues necessary for an economic system centered on liberty.’

It is such a change to have modern day economists actually understanding Adam Smith’s legacy that it is an undisguised pleasure to read their posts.

I recommend that you read David Hoopes’s full post on the Organisation and Markets Blog.

A Classic Example of the Re-writing of Adam Smith's Legacy

Henry C. K. Liu, Chairman of a New York-based private investment group, writes (12 October) in Asia Times online, Kowloon Hong Kong, an interesting article: “Super Capitalism, Super Imperialism”, Part 1: ‘A Structural Link’ (here) and the following caught my eye:

“Adam Smith published Wealth of Nations in 1776, the year of US independence. By the time the constitution was framed 11 years later, the US founding fathers were deeply influenced by Smith's ideas, which constituted a reasoned abhorrence of trade monopoly and government policy in restricting trade. What Smith abhorred most was a policy known as mercantilism, which was practiced by all the major powers of the time. It is necessary to bear in mind that Smith's notion of the limitation of government action was exclusively related to mercantilist issues of trade restraint. Smith never advocated government tolerance of trade restraint, whether by big business monopolies or by other governments in the name of open markets.

A central aim of mercantilism was to ensure that a nation's exports remained higher in value than its imports, the surplus in that era being paid only in specie money (gold-backed as opposed to fiat money). This trade surplus in gold permitted the surplus country, such as England, to invest in more factories at home to manufacture more for export, thus bringing home more gold. The importing regions, such as the American colonies, not only found the gold reserves backing their currency depleted, causing free-fall devaluation (not unlike that faced today by many emerging-economy currencies), but also wanting in surplus capital for building factories to produce for domestic consumption and export. So despite plentiful iron ore in America, only pig iron was exported to England in return for English finished iron goods. The situation was similar to today's oil producing countries where despite plentiful crude oil, refined petrochemical products such as gasoline and heating oil have to be imported.

In 1795, when the newly independent Americans began finally to wake up to their disadvantaged trade relationship and began to raise European (mostly French and Dutch) capital to start a manufacturing industry, England decreed the Iron Act, forbidding the manufacture of iron goods in its American colonies, which caused great dissatisfaction among the prospering colonials. Smith favored an opposite government policy toward promoting domestic economic production and free foreign trade for the weaker traders, a policy that came to be known as "laissez faire" (because the English, having nothing to do with such heretical ideas, refuse to give it an English name). Laissez faire, notwithstanding its literal meaning of "leave alone", meant nothing of the sort. It meant an activist government policy to counteract mercantilism. Neo-liberal free-market economists are just bad historians, among their other defective characteristics, when they propagandize "laissez faire" as no government interference in trade affairs.”

Comment
Henry C. K. Liu’s article consists of some correct accounts of the Adam Smith’s views plus some incorrect assertions.

Adam Smith criticised mercantile political economy, as espoused by British governments since at least Elizabethan times, and much of his criticism of government intervention was aimed at its mercantile economic policies and not at against all government interventions in general.

That this has been, and is now almost completely, mistaken as an advocacy of laissez-faire policies is absolutely correct. It was not until John Stuart Mill’s Principles of Political Economy, the dominant textbook of the 19th century, that Adam Smith was mistakenly identified as an advocate of laissez-faire, words he never used, though he was thoroughly conversant with those French Physiocrats who used the term and what they meant by it.

This error is often compounded by mistaking his advocacy of the Perfect Rights’ jurisprudence theories of Grotius, Pufendorf, Carmichael, and Hutcheson as being about laissez faire when in fact they are quite different subjects. Those Chicago neoclassical economists, who confused the two because of their similar sounding policies, though they refer to quite different meanings and contexts, exposed their relative ignorance of 17th-18th century moral philosophy.

Henry C. K. Liu’s assessment of the mercantile prohibitions of manufacturing in the British American colonies, imposed by the legislature under the persuasive influence of domestic manufacturers, was an expression of its mercantile policies and these affected the example of iron ore manufacturing. Adam Smith, in Book IV of Wealth Of Nations, heavily criticised this policy.

However, Liu quotes the date ‘1795’ as the trigger of the British ‘Iron Act, forbidding the manufacture of iron goods in its American colonies, which caused great dissatisfaction among the prospering colonials.’ By 1795, and since not long after 1776, British mercantile political economy had no influence on the now independent ex-colonies. Adam Smith died in 1790, and British economic legislation had no effects on the fledgling free states of America. The inhabitants were no longer 'colonials'! They were free to expand manufacturing, to trade with any country they wished, and they ran their own political economy.

Wealth Of Nations was not a textbook in economics; it was a polemic against British mercantile policies. If this is not understood, then Wealth Of Nations remains full of 'conundrums', such as Book V on the Expenses of Government, which amount to advocay of a substantial state sector, not just in defence and justice, but also in public works and institutions in support of commercial activity and progress towards opulence (including a national education sector partly funded by taxation and partly by private subscription, starting at the individual parish level, or upwards of 65,000 local schools).

Henry C. K. Liu continues:

‘Friedrich List, in his National System of Political Economy (1841), asserts that political economy as espoused in England, far from being a valid science universally, was merely British national opinion, suited only to English historical conditions. List's institutional school of economics asserts that the doctrine of free trade was devised to keep England rich and powerful at the expense of its trading partners and it must be fought with protective tariffs and other protective devices of economic nationalism by the weaker countries.’

Comment
List was a proto-German nationalist whose book, The National System of Political Economy (1841) and sicussed on Lost Legacy several times, launched a near paranoid attack on Adam Smith, asserting that his advocacy of free trade was a ‘sham’ to somehow mislead the world and that by free trade the British parliament cleverly used it as cover for its domination plans for the world.

The fact is that Adam Smith’s advocacy of free trade against mercantile protectionism and colonies was perfectly genuine. The 19th century application of British mercantile policies, which List complained about, or rather sought a German response to by imitation, continued unbroken from the 18th century when Smith wrote his books on perfect liberty and free trade (Moral Sentiments, 1759; Lectures on Jurisprudence, 1762-3; Wealth Of Nations, 1776), and through to the 21st century. There has never been a time when Britain ceased its (NOT Smith’s!) mercantile policies, latterly in the imperialist decades.

It was the almost complete avoidance of free trade and continued colonial involvement as in India (which Adam Smith attacked) by successive British governments and the great disconnect between what British legislatures, persuaded by ‘merchants and manufacturers’ said and did (of which the imperial venture into Empire was the most prominent folly), and what Wealth Of Nations and Moral Sentiments advocated, that is the lasting distinction of the Smith from Kirkcaldy and what his legacy has been transformed into by neoclassical epigones and post-Smithian politics.

Unfortunately, Henry C. K. Liu is not alone in his misunderstanding of Adam Smith’s legacy.

Adam Smith Ideas Are Not Represented in 'Atlas Shrugged'

Following yesterday's plea for help in locating the full text of the WSJ article, 'Capitalist Heroes' which contained the sentence below, I have received a full text from a reader (for which many thanks).

The article was written by Mr. David Kelley, author of "A Life of One's Own: Individual Rights and the Welfare State" (Cato Institute, 1998), and who is the founder of The Atlas Society.

"Capitalist Heroes
Wall Street Journal - USA
... in the 18th century by Adam Ferguson and Adam Smith: how private vice can produce public good, how the pursuit of self-interest yields benefits for all."

You can find the article here.

The affiliation of its author, Mr David Kelly, to the CATO Institute is surprising, not for the reviewer's interpretation of Ayn Rand's novel, Atlas Shrugged, but for his interpretation of Adam Smith philosophy. Does the WSJ not have editors and fact checkers?

The slightest acquaintance with Adam Smith's two published works, Theory of Moral Philosophy (1759) and Wealth Of Nations (1776), should cause concerns about attributing to Adam Smith the 'virtues of selfishness'. Such ideas were wholly the from Bernard Mandeville and his Fable of the Bees (1724).

Adam Smith was born in 1723 and he sharply criticised Mandeville in Moral Sentiments (TMS VII.iv.: 'Of Licentious Systems': pp 306-14), 'leaving no doubts as to his critical attiude towards Mandeville's ideas.

Wealth Of Nations does not endorse Mandeville's claims on the virtues of selfishness and makes clear that self-interest, or self-love, is not a synonym for selfishness.

The question arises as to why David Kelly writes as if Adam Smith did assert anything remotely like mandeville's licentious notions? He certainly did not get this notion from reading Adam Smith (at least not from the Adam Smith born in Kirkcaldy in 1723).

Call for Help

Anybody help me read this article in the WSJ?

A tantalising extract from an article in today's Wall Street Journal is blocked by subscription and I wonder if any reader has access to it who can send it to me?

"Capitalist Heroes
Wall Street Journal - USA
... in the 18th century by Adam Ferguson and Adam Smith: how private vice can produce public good, how the pursuit of self-interest yields benefits for all. ...
See all stories on this topic"

Comment
The statement that follows Adam Smith's name is not anything that he subscribed to. It appears to be a statement from Bernard Mandeville's 'Fable of the Bees', which is often wrongly attributed to Adam Smith by the usual coterie of misquoters, under the influence of the Chicago version of Adam Smith, a hologram with no connection to the Adam Smith born in Kirkcaldy.

I would appreciate any help for comment on Lost Legacy.

Send a copy to gavin at negweb dot com

Thanks

Gavin

New Book on 19th Century Mercantile Protection

Nick Gillespie write ‘French Wine and the Fable of Free-Trade Britain', a review and interview with John V. C. Nye, author of War, Wine, and Taxes: The Political Economy of Anglo-French Trade, 1689-1900, in the reasononline blog.

‘John V.C. Nye debunks the conventional wisdom that Britain was a free-trade nation during the 19th century. If you look at actual trade policy rather than the self-aggrandizing pronouncements of politicians and ideologues, argues Nye, Britain remained a bastion of protectionism and mercantilism throughout the century. In comparison, France, often derided by contemporary free-marketers, was wide open to trade. In concise and eminently readable prose, he tells a story in which well-connected special interests and government officials joined forces to line their own pockets while reducing the choices available to consumers.

In answering the question, "Why do the British drink beer and not wine?," Nye not only advances our understanding of the past, he shows how economic policy can often have a major effect not just on trade but on national identity.’

Comment
I have long suspected from what I know of British 19th century politics, national economics policy, and the mercantile political economy of colonies, which under various British governments drifted into imperialism that the free trade rhetoric of that century was somewhat suspect, if not actually phoney.
Hence, I commend the interview to you (here).

Adam Smith exposed mercantile political economy and the failures of colonialism for diverting scarce capital into lines of activity it may not have gone into in the absence of such policies. The cost was to impact on the rate of prgress of society from subsistence towards opulence for the labouring order.

A Conservative Reviews Gregory Clark's 'AFTA'

Steve Sailer reviews Gregory Clark’s ‘A Farewell to Alms’ on VDARE.com (here) 8 October:

‘A Farewell To Alms: Why Did The Industrial Revolution Happen Where It Did?’

‘In the process, Clark offers a stunning rebuke to economists:

"God clearly created the laws of the economic world in order to have a little fun at economists' expense. In other areas of inquiry, such as the physical sciences, there has been a steady accumulation of knowledge over the past four hundred years. … In economics, however, we see instead that our ability to describe and predict the economic world reached a peak around 1800. In the years since the Industrial Revolution there has been a progressive and continuing disengagement of economic models from any ability to predict differences of income and wealth across time and across countries and regions."

In other words, economists were closer to understanding the wealth of nations in 1776 when Adam Smith wrote The Wealth of Nations than they are today.
The pioneering economic works of Smith and Thomas Malthus (1798) accurately described the world before the Industrial Revolution that was just getting underway then with the employment of the steam engine in cotton mills.’

Comment
Steve Sailer is a robust columnist for VDARE (after Virginia Dare, the first European child born in what became the USA). He contributed several posts to the AFTA debate on Econ Library Blog in August/September (see Lost Legacy archives and follow the main debates).

He promises a second article next week on AFTA and its implications for the developing world.

Kirk Hamilton's Perspective on Institutions is Worth Reading

The debate on what caused growth and from growth the wealth of nations deepens. In addition to reading Gregory Clark’s ‘A Farewell to Alms’ (Princeton University Press), ‘Angry Bear’ (‘slightly left of center economic commentary on news, politics, and the economy’ Blog) here 8 October carries and important reference to a World Bank economist’s report, Where Is The Wealth Of Nations?: Measuring Capital for the 21st Century and a report of an interview by Richard Bailley with the author, Kirk Hamilton, on the Blog: reasononline (here), ‘Our Intangible Riches: World Bank economist Kirk Hamilton on the planet’s real wealth’.

Both Angry Bear and Richard Bailey discuss the report (available here) , which makes an important contribution, especially on the vexed question of the importance, or otherwise, of institutions (broadly defined), which Gregory Clark found ‘unimportant’ in England’s case.

That’s quite a lot of reading to get through (Richard Bailey’s interview covers the main points of Hamilton’s theses), but I urge you to read his report in full.

I have not yet got down to re-reading Gregory Clark’s important book (the usual return to Edinburgh chores are not yet completed) but I am looking forward to doing so.

(Thanks to Angry Bear for the refereneces)

John Nash Did not Invert Adam Smith on Bargaining

Much confusion about Adam Smith’s analysis of bargaining relations originates in the neoclassical paradigm and has spread into media discourse by default. For example, ‘persondem’ writes: ‘Beautiful Minds Needed to Reach Across the Divide’ in BlueNC Blog (‘the people’s think tank’)(7 October) here:

“Adam Smith posited that self-interest promotes the most efficient use of resources and so results in the best outcome for the wellbeing of the public. John Nash turned that around by suggesting that even in a non cooperative setting (like politics) the best results are attained by acting not with self-interest, but with consideration for the desires and actions of all the players on the field….

…John Nash is certainly a mathematical genius, but his greatest contribution just might be in providing our crowded society with a model of living that let's [sic] us be individuals, with individual goals and aspirations, but working in such a way as to provide the best outcome for all of us who must share life on planet Earth.”

Comment

‘persondem’ writes an interesting, and for some of his politically minded readers of the ‘Democratic’ persuasion, an arresting, post. It certainly advocates something different to the usual flair of “bash ‘em" politics for inter-party relationships. However, that is not my purpose in drawing it to your attention.

Its author confuses the presentation of Adam Smith’s ideas and those (allegedly) of John Nash with a Hollywood scriptwriter’s version of them. The film ‘A beautiful Mind’ played havoc with the facts of John Nash’s biography, and those of his wife, but more importantly libeled Adam Smith in the process. Worse, it inverted Smith’s ideas to allow the scriptwriter to ‘have a go’ at Adam Smith, or rather, Chicago’s fantasy version of him, giving name recognition credibility to a fable about his ideas, and to portray John Nash as ‘correcting’ the alleged ‘father of economics’, a hate figure among Hollywood anti-business script writers.

First of all, the statement that ‘Adam Smith posited that self-interest promotes the most efficient use of resources and so results in the best outcome for the wellbeing of the public’ is not quite what Adam Smith said, nor all of what he said about self-interest. Acting in one’s self interest is one of the drivers of human endeavour, but he made it quite clear that selfishness is neither necessary nor sufficient for a commercial society to operate, nor for the society to be harmonious.

Seeing that John Nash is elevated to a criticism of Adam Smith’s alleged views we should consider what he and Adam Smith said about the ‘bargaining problem’, so called by 20th century economists, who regarded, before Nash, that while prices were determinate in supply and demand, bargaining was ‘indeterminate’. This was more to do with modern theory and the need to have mathematically determined ‘solutions’ than anything to do with Adam Smith.

Attempts by early modern theorists to ‘solve’ the so-called bargaining problem failed because it is difficult to write equations for the process of negotiation. You can see examples in the work of F. Zeuthen (1931: ‘Problems of Monopoly and Economic Warfare’) and many post-war economists (a selection is in: Oran Young, ed. 1975: ‘Bargaining: formal theories of negotiation’, University of Illinois). In each case, though the maths called into service became more sophisticated (from simple ratios to calculus) the theme is the same: bargaining is about degrees of relative coercion. This is a neoclassical belief; not Adam Smith’s.

Adam Smith set out his theory of bargaining in Chapter 2 of Wealth Of Nations: ‘Of the Principle which gives occasion to the Division of Labour’. It is quite, even totally, different from a theory of coercion. First, he states that the division of labour leads to ‘general opulence’, and he identifies that it ‘is the necessary, though very slow and gradual consequence of a certain propensity in human nature… the propensity to truck, barter, and exchange one thing for another.’

Because in modern society each individual stands in ‘need of the cooperation and assistance of great multitudes’ and because it would be ‘vain for him to expect it from their benevolence only’, he has to ‘interest their self-love in his favour, and shew them that it is for their own advantage to do for him what he requires of them’.

The preferred mode of achieving these goals is by bargaining, which is not coercion (if you are forced to comply you are not bargaining!). Smith defines the bargain explicitly: ‘Give me that which I want and you shall have this which you want … and it is in this manner that we obtain from one another the far greater part of those good offices which we stand in need of’.

This leads to his most famous quotation (this and those above are on pages 25-27, WN: I.ii.1-2):

‘It is not from the benevolence of the butcher, the brewer, and 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 advantage.’

For 35 years I have seldom ceased to be amazed that so many – near unanimous among neoclassical theorists – can quote that paragraph so often and so seldom fail to read Smith’s explicit words in their ordinary meaning and yet claim to be articulate in the English language!

That those fewer, who are familiar with John Nash’s contributions, can find contradictions between John Nash and Adam Smith is also bewildering. Nash did not ‘invert’ Smith’s teaching; he gave expression to them, indirectly: So to state that Nash ‘turned [Smith] around by suggesting that even in a non cooperative setting (like politics) the best results are attained by acting not with self-interest, but with consideration for the desires and actions of all the players on the field…’, is breathtaking in its collision with the facts.

John Nash wrote two path-breaking articles: 'The Bargaining Problem', Econometrica, 18, pp 155-62; 'Two Person Co-operative Games', Econometrica, 21. pp 128-40. I am fairly confident that the Hollywood script writers, who wrote the fictional repudiation of Adam Smith, did not read them before crafting their nonsense. If you haven’t read them, you should.

I shall not summarise them here other than state that: a) John Nash analysed a solution to the bargaining problem and did not analyse the process – he started at the end solution and skipped the process (and anyway his assumptions were neoclassical and unrealistic); b) his solutions implied exactly what Adam Smith said in his comments on the propensity to exchange.

The bargainers converse by offering each other what the other person wants in exchange for what they want in return. Eventually, an agreed exchange become possible, as each adjusts their opening offers addressing the other party’s ‘self-love, and they never talk to them of our own necessities, but of their advantage’. Persuasion (a key characteristic of human discourse, wrote Smith in Moral Sentiments) involves showing how the exchange benefits the other party and definitely not by how it benefits yourself: ‘If you give me the items for my dinner, I shall give you in exchange this amount of money’.

A Smithian definition of negotiation would be: ‘the process by which we obtain what we want from people who want something from us’. Because negotiation is voluntary, the other party can decline to transact with us – each party may exercise its veto on any and all proposed solutions – because negotiation isn’t coercive. If negotiation is seen as a form of ‘economic warfare’, it produces images of coercion that does not work well in practice. Of course, coercion may happen in any human transaction but it does not in the overwhelming majority of inter-personal nor inter-commercial negotiations that take place somewhere each moment.

Strikes, boycotts, sanctions, harassment, warfare, and such like, certainly are practised, but these are pressures external to the negotiation process and seek to circumvent it. They do not define it. They do not play any part in Adam Smith’s ideas on bargaining.

John Nash’s solution to the bargaining problem employs exactly the same outcome as is found in Smith’s; parties exchange items which they value less than the items they receive which they value more.

‘persondem’ seems unaware of this coincidence of views between Adam Smith and John Nash; he is misled by the Hollywood film; readers of Lost Legacy have no such excuse.

Are Lists Worth the The Ego That Feeds Them?

CurrencyTrading.Net is running a list: ‘Top 100 Academic Blogs Every Professional Investor Should Read’ compiled by Jessica Hupp (here)

Lost Legacy has been placed at: ‘67’ and is described as: ‘Adam Smith’s Lost Legacy: This blog discusses the legacy of Scottish political economist Adam Smith’.

Comment
Lists are nothing much to shout about or to be taken too seriously.

One thing struck me was that Lost Legacy may not do enough discussing of ‘Adam Smith’s legacy’, and too much of the misuse of it that is common in world media, campuses, journal articles and textbooks.

I think it may be useful for me to increase the quota of Adam Smith’s ideas as he wrote them and I shall be increasing this area much more for a while to see how readers react. For the record, I am indifferent to my position on a list.

En Route for Edinburgh

I am travelling back to Scotland from France today and I have had a busy time these last few days with the necessary social arrangements on departing the village, including visiting the mayor on local matters, neighbours in social matters, and peparing the house for the winter shutdown.

Inevitably, there are domestic chores too, of which my share are not insignificant (in my view anyway!).

Much as I love Edinburgh, I also love this small corner of France - le pays perdu - and the people who inhabit it. It takes years to become part of a village life with the French; some outsiders never manage and miss so much when they don't. The French state has its own way of working and understanding its logic (though often inconvenienced by it) makes life a lot easier for outsiders.

Scots are on the whole more amenable to ordinary French people than many Les Anglais, who never seem to quite get it when living in a foreign country. In shops, people hear our (or mine) version of French and say 'Anglais?', to which we reply, 'Non, Ecosse!' The genuine reaction of welcome is so obvious it's so pleasing. Of course, we have English neighbours who are well integrated, but the majority who moan to us, as if we are on their side, about their version of the latest, to them, French 'attrocity', will never understand why French people can be 'rude' to them...

Anyway, enough of this rural philosophising! I have to pack those of my books that will return with me; my key books of Adam Smith's, mainly. My sister-in-law took back last week my 'Farewell to Alms', which I shall need at the University library when I read some of the references. I have my partially completed ms of the fourth edition of my Everything is Negotiable (Random House, 1982), due for delivery next month - it's from my former day job at Edinburgh Business School and sells well - a welcome portion of my pension earnings too.

Next week I am speaking at the Edinburgh Dinner Club, a sort of 21st-century version of one of the 18th-century Enlightenment Clubs that Adam Smith attended regularly. My subject is Adam Smith's relevance today. It has an unusual format. The guest speaker has 20 minutes during the dinner to speak and then each attendee speaks to the subject in turn. Remarkable! Given the selective audience, known for their intellectual approach to right-of-centre politics, it should be fun.

OK. Family calls (I cook breakfasts everyday) - they're arriving in the kitchen. To work, indolent Kennedy, to Work!

Wikipedia Is Not a Good Source For Understanding the Invisible Hand

In what for me was a slightly nostalgic piece about IMB tracing developments after the short era of the IBM360 machines by Irving Wladawsky Berger: “Welcome to Adam Smith’s World” at Always On: the insider’s network (AOBlog) (here). I read it with interest because I remember those years well and also because it contained this:

"Adam Smith, an 18th century Scottish philosopher and economist, is generally considered the father of free-market, free-trade capitalism. The seminal expression of those policies was An Inquiry into the Nature and Causes of the Wealth of Nations, published in 1776 and generally regarded as the first work of modern economics

“Smith introduced the famous metaphor of the invisible hand - "the free market, while appearing chaotic and unrestrained, is actually guided to produce the right results by this so-called invisible hand." It clearly applies to IBM’s situation. While we survived our near-death experience, most companies do not. Given enough time, it seems almost inevitable that in highly competitive industries like IT, companies, no matter how powerful their position, will get in trouble in the marketplace when the environment in which they once flourished changes significantly. They are victims of the invisible hand. Some will be able to reinvent themselves and overcome their troubles, but more often than not, their problems will prove lethal.To a greater or lesser extent, every industry in the private sect goes through its own invisible hand struggles when its underlying technologies or markets change. This is never pretty. In the struggles to survive, some companies will even slip into the kind of malfeasance that we saw from Enron, WorldCom and other companies when the dot-com bubble burst.

Comment
Adam Smith did not introduce the ‘famous metaphor of the invisible hand’, despite what Wikipedia says. It was fairly common in 17th-and 18th-century literature, and long before then too in Greek and Roman times.

Free markets are not ‘actually guided by an invisible hand’. That is mysticism and while widely accepted by modern trained economists it is quite nonsensical if you think about it. Given, by definition, that nobody has seen the so-called invisible hand, how does anybody know that there is one? Is it of divine origin? Where’s the science in that?

It is a metaphor, not a reality; Adam Smith’s explanations of how markets work (Books I and II of Wealth Of Nations) make no reference to invisible disembodied body parts, nor, frankly, does he need to rely on a metaphor for what he explains perfectly clearly.

However, I agree with the last sentence of the piece: “The unpredictability of free markets is one of the most intriguing aspects of Adam Smith's world”. Correct!

So what happens to the invisible hand while free markets are behaving unpredictably?

Reuter's Chief, Tom Glocer on Alan Greenspan and Adam Smith

From Tom Glocer’s Blog (Chief Executive Officer of Reuters [BETA])here: “Alan Greenspan and Adam Smith”:

“In a private chat after the event [opened by Prime Minister Gordon Brown], I had the chance to explore further with Dr. Greenspan the observation he made during his formal remarks that after a long and distinguished career as a central banker, he had concluded that human beings were naturally inclined to create and fall victim to speculative financial bubbles (e.g, the tulip bubble, the South Sea bubble, and, more recently, the equity and housing bubbles). While this somewhat psychological explanation might seem at odds with the classical economic position often ascribed to Adam Smith, Dr. Greesnpan noted that one needed to read the far better known and widely read The Wealth of Nations alongside Smith's other great work, The Theory of Moral Sentiments.”

“In reaching for a more holistic interpretation of Adam Smith's legacy, Dr. Greenspan is, of course, very much in keeping with the recent work in behavioral economics which has come to challenge the view that all market participants are fully rational actors who will only act in their own self-interest. If this summer's market shenanigans are any indication, this more humanistic side of the "dismal science" will be working overtime on new empirical data.”

Comment
I hope this is not an indication that having realised the limitations of rational homo economicus (a wholly modern construction designed to make the mathematical modelling simpler) people like Alan Greenspan, and perhaps Tom Glocer, are not going to encourage another diversion into the hopeless quest to ‘mathematicise’ human beings as if they are wooden pieces on a chess board (the illusion of ‘men of system’, as Adam Smith put it) with no principles of motion of their own.

Adam Smith never believed in a homo economicus, nor anything like it. Moral Sentiments is about humans as multi-motivated and complex individuals within societies, the main principle of which is that individual interests are mediated by the ‘mercenary exchange of good offices’ and the mediation of conflicting interests through ‘conversation’, ‘exchange’, and ‘learned’ acceptable behaviours in the proximity of others (the impartial spectator).

Gregory Clark remarks several times in ‘A Farewell to Alms’ (apologies for the absence of references but I sent my copy back to Edinburgh with a family member who returned early) that Adam Smith asserted that 'humans are all the same’, an assertion well off the pace in fact. He (with Hume) agreed that human nature, in all its complexity (its ‘rich tapestry’) endures but this is quite opposite to the idea that we are all the same, a manifest error obvious from looking at members of the same family, let alone everybody else.

The rational homo economicus, neoclassical school may well be guilty of such manifest nonsense, but not Adam Smith. Even the ‘bubbles’ phenomenon affects a small minority to participants; the rest of use read about them.

People are not universally identically rational; their self-interest does not always lead them to do the same things, and it certainly does not lead them (disembodied hands notwithstanding) to benefit society and, sometimes does not benefit even themselves.

That Alan Greenspan is restless with his lifetime’s adherence to the Chicago version of Adam Smith, is encouraging. That he and others are edging towards reading Smith’s ‘Theory of Moral Sentiments’ is excellent news. It might help them if they re-read Adam Smith – the joined-up version, otherwise known as his Wealth Of Nations, instead of the series of selected quotations that commonly makes up their knowledge of what he was about.

I am doubly pleased that Tom Glocer, the CEO of Reuters, is aware of the need for this reading list because Reuter’s journalists, who question opinion formers who utter incorrect attributions to Adam Smith, could help turn the tide in restoring his lost legacy.

Chicago Glen Smith Confuses Chicago Adam Smith With the Kirkcaldy Adam Smith

Glenn W. Smith: 'Could You Explain a Vote Against Children's Health to the Children?' (find it here: (‘PROGRESSIVE BOOKS, MOVIES, AND MUSIC- FOR PROGRESSIVES, BY PROGRESSIVES, ON BUZZFLASH’) at BuzzFlash – Chicago), gives us this harmless nonsense:

“Would you tell them that once upon a time there was Adam Smith, who revealed the existence of an "invisible hand" and a "free market" that would ultimately make all things right and just even while creating temporary injustices?”

Comment
It’s a no-holds-barred contentious piece if you are of a Republican persuasion and a bit too strident if you’re not. (I’m neutral: I don’t vote in the US.)

For my comments on the so-called invisible hand scroll through Lost Legacy.

It’s plausible that a Republican politician said: ‘a "free market" that would ultimately make all things right and just even while creating temporary injustices", but it’s not what Adam Smith said or implied.

He wrote about perfect liberty as an ideal state but candidly reminded people that perfect liberty was not a situation that had ever existed, and was not likely to be found in the world. Perfect, or natural, liberty was not Adam Smith’s idea but was part of the theory of jurisprudence developed by philosophers like Grotius, Puffendorf, Carmichael, and Hutcheson, and which Smith was taught at Glasgow 1737-40, and which he taught in turn from 1751-64.

Some neoclassical economists (who were not taught moral philosophy, and most of them would not be familiar with its history or subject) have elided perfect liberty into perfect competition. Worse, people who were influenced by them, have linked Adam Smith to ‘free markets’, as if they are all the same thing, and in the ultimate nonsense using Smith’s name, they speak as if anything like a ‘free market’, or ‘perfect liberty’ operates anywhere in the United States, nor anywhere in Europe.

Markets in the real world are not in equilibrium, do not clear perfectly, and cannot be modelled except under assumptions absolutely impossible to apply in the real world. The ‘good news’, stated by Smith, is that real markets do not have to be ‘perfect’, nor need ‘perfect liberty’ be a pre-condition for Adam Smithian growth, which is the same as real world growth, but I suspect Glenn W. Smith doesn’t know that (nor, perhaps, does the President or his advisors).

Adam Smith's Central Role for Justice

In The Kenyon Review (1 Oct) by Tyler Meier (here) there is an article, ‘On Intellectual Property and Copyright, Pt. II’, reporting ‘an exchange between Meg Galipault and Stuart Bernstein on intellectual property and copyright issues’, conducted during the summer months of 2007.

It includes this statement by Stuart Bernstein, a New York-based agent representing over 20 working artists. He began representing writers in 1995:

“Market forces is another matter. Even Adam Smith believed in a vigorous justice system and reasonable regulation.”

Comment
The bald statement, ‘Even Adam Smith’, stands out as a misleading understatement of Adam Smith’s views on the role of justice. Stuart Bernstein must have assumed that his listeners knew nothing of Adam Smith that would connect him to be in favour of ‘a vigorous justice system and reasonable regulation’.

This is clear evidence that knowledge of the real Adam Smith (the one born in Kirkcaldy, Scotland in 1723) is extremely limited among listeners to a discussion hosted by Kenyon Review and its readers.

If there is one founding principle of Adam Smith’s analysis of human society that pervades all of his Works, including his two books, Moral Sentiments (1759) and Wealth Of Nations (1776), and his students’ notes of his Lectures on Jurisprudence (1762-3), it is the central role of justice.

Without justice society ‘would crumble into atoms’, and a ‘man would enter an assembly of men as he enters a den of lions’ (Moral Sentiments, II.ii.3.4: p 86). Justice is the ‘pillar’ of society and is the second duty of civil government (WN Book V.i.b.1: p 708): ‘that of protecting, as far as possible, every member of it’.

So, to suggest that ‘even’ Adam Smith believed in ‘a vigorous justice system and reasonable regulation’ must be confusing the Kirkcaldy Adam Smith with the ‘Adam Smith’ hologram created by 20th-century Chicago neoclassical economists.

Gregory Clark Acknowledges that Adam Smith's Ideas May Not Be Represented by 'Modern' Economists

In all of the debate over Gregory Clark’s new book, A Farewell to Alms (Princeton University Press) – surely destined to become a major contributor to economic policy in the coming years – it is clear that the author is listening in an area of interest to Lost Legacy, namely comments on his earlier remarks about Adam Smith.

In an article, ‘Wealth and the culture of nations’, published in The Malta Independent (online) 1 October (sorry no URL; it didn’t come down with the Google Alert), Gregory Clark leads with this paragraph:

“Modern economists have turned Adam Smith into a prophet, just as Communist regimes once deified Karl Marx. The central tenet they attribute to Smith – that good incentives, regardless of culture, produce good results – has become the great commandment of economics. Yet that view is a mistaken interpretation of history (and probably a mistaken reading of Smith).”

Comment
Its first sentence doesn’t seem to offer much comfort, though it is qualified as applying to ‘modern economists’.

And note what follows: ‘The central tenet they attribute to Smith’. He criticises what ‘modern economists’ (by which he must mean those economists of the ‘neoclassical school’) ‘attribute to Smith’.

And he adds:

‘Yet that view is a mistaken interpretation of history (and probably a mistaken reading of Smith).’

Who said that the age of reasoned debate is over, that scholars cannot escape their entrenched views even if their ideas are challenged authoritatively and based on checkable evidence?

In the debate, hosted on Econ Library Blog over the past few weeks by Bryan Caplan (to which I contributed modestly; see August-September archives), I criticised Gregory Clark’s conventional attribution of neoclassical assertions to Adam Smith as if he spoke in their language or shared their mathematical abstractions. He certainly did not subscribe to perfectly competitive markets, Solow’s exogenous growth theory, or the ‘Washington Consensus’.

Adam Smith wrote extensively on what causes people in nations to create wealth, namely the annual production of ‘the necessaries, conveniences, and amusements of life’ – not the necessary and convenient places for dictators, corrupt democrats and outright rogues to deposit stolen money from aid donors, investors and the people, for their own amusement.

In the article in question, Gregory Clark makes some interesting comments on how to change the culture of ordinary people in developing countries, and countries recovering from communism, in order to promote development.

A strong feature of the transfer from communist planning towards open markets within the iron grip of a dictatorial communist party, has been the massive number of successful entrepreneurs from among the overseas Chinese population, long resident within capitalist markets (Hong Kong, Taiwan, Malaysia, Singapore, North America, and Europe) who have returned to their family’s birthplaces, and funded many start-up businesses, expanded existing universities (many impressive buildings), bringing with them deep contacts with the hi-tech industries in the countries they have come from, and, crucially, have introduced licensing of mass market branded products for their own and for export markets.

This fits well will some of the ideas Gregory Clark advances in today’s Malta Independent. It’s worth reading for that, and for the disassociation of Adam Smith with the ideas of ‘modern neoclassical economists’.