Adam Smith Did Not 'Invent' Capitalism

Natasha Chart writes in Sustainable Food (HERE)
Natasha Chart writes in Sustainable Food (HERE)

‘Market Consolidation and Anti-Trust’

“It would have disgusted Adam Smith, the moral philosopher who invented capitalism, to see such powerful monopolies still running the show and claiming to be following the system he proposed to rid the world of mercantilism and all-powerful guilds.

Comment
We know what Natasha means but, for the record, Adam Smith did not ‘invent capitalism’.

The word itself was unknown in English until 1854 (Oxford English Dictionary) and Smith died in 1790. Smith wrote about ‘commercial society’, as practised in mid-18th century.

Moreover, societies are not ‘invented’ by anyone. They evolve of their own volition from the unintended consequences of the actions of individuals over long time periods. Attempts to ‘invent’ societies always fail (e.g., Marxist , socialist and other ‘utopias’, as, nowadays calls for a complete legislative change from modern capitalism to independent, local, entities), and end up with tyrannies unanticipated by their idealistic initiators.

Adam Smith was a philosopher who ‘did nothing, but observed everything’.

He was a fairly severe critic of the existing commercial arrangements of Britain, but also a very moderate realist about the prospects for major legislative changes in the near future. He believed tariff changes would only work if introduced slowly and gradually because of their disruptive consequences for the labourers affected by unemployment, and for the lack of will among legislators and those who influenced them, for example.

He did, however, propose the repeal of the mercantile Acts of the British Parliament, especially those pertaining to the ‘all-powerful guilds’, the Settlement Acts (preventing labourers leaving their parish to look for work in other parishes), the Apprenticeship Acts (preventing skilled and semi-skilled labourers from exercising their skills in places other than where the served their 7-years as apprentices, and preventing the easier spread of new technologies in 'apprentised trades'), and the legislative abuses of the Acts of Navigation (he agreed with the Act in principle when limited to ensuring that Britain had enough seamen and ships to defend it island from naval attack, but thought the all-embracing monopoly of the colonial trade (with North America and the Caribbean) was detrimental to Britain’s (and the colonists’) interests (see Book IV, Wealth Of Nations)

In the event, some of these changes were not affected until the mid (the Navigation Acts) and late 19th century (universal education provisions).

But, of Adam Smith ‘inventing’ capitalism, there is no evidence whatsoever. That he would see modern society as essentially unchanged from 18th century mercantile political economy that he knew so well (timid steps to free-trade in the major economies, like the US and Europe; predominant popular views associated with ‘jealousies of trade’ and beggar-thy-neighbour' popular policies; wars not for defence and often for indeterminate ends; and the dominant practises of local monopolies, etc.,) I do not agree with Natasha that he would be 'disgusted', or even surprised.

Smith well understood the foibles of people, especially in government and the legislatures. In probably the only prediction he ever made - the future supremacy of the USA's economy over all others by the late 19th century - he would feel vindicated
But 'disgusted' - I don't think so.

A Reckless Optimist Meets a Cautious Pessimist

Pete Murphy replies to my post criticising his idea for selective tariffs to address the US trade deficit: "A Reckless Optimist Writes", posted Saturday on Lost Legacy.

Pete Murphy posts on Five Short Blasts Forum HERE:
His recent post is on “Clumsy Trade Policy” and it expounds a new theory of ‘safe’ protectionism by weighting tariffs on manufactured goods by an index of the density of population of a country – the denser a country’s population the more the imposed tariff. [Opening sentence modified following clarification from Pete in the original comments.]

“Gavin, I welcome the kind of constructive criticism and discussion provided by your post and those who have commented. I would just like to point out that I am not a protectionist basher of free trade in general. In most cases, free trade is the right policy.

However, I've discovered a factor that, in some cases, makes free trade tantamount to economic suicide and, I believe, is responsible for completely bankrupting America in the 34 years since our last trade surplus in 1975, during which time our cumulative trade deficit now exceeds $9.2 trillion. I wonder if any other country would be so patient with such trade results for so long? I don't see many volunteers in the global community raising their hands to take over for a while.

In these instances I speak of - trade in manufactured goods with badly overpopulated nations - the blind application of free trade policy is even more damaging (to the reasonably populated nation) than the blind application of protectionism in all of the other cases.

My fondest hope is that some economist of some influence will research the relationship between population density and per capita consumption, and then its effects on trade, as I've done. I think they would be astounded by what they found. It might be a great research project for economics students.

By the way, just a comment about my inclusion of Germany. When I analyzed America's trade deficit in manufactured products with each country, I translated it into per capita terms - that is, divided by the population of the nation in question. How else can one compare the effectiveness of our trade policy with a country like Ireland, let's say, as opposed to a country like China? Using 2006 trade results, I found that the deficit with China was rather unremarkable - nineteenth on the list. Germany, a nation seven times as densely populated as the U.S. and almost twice as densely populated as China, was 9th on the list, with a per capita trade surplus with the U.S. in manufactured goods of $541 per person - three times worse than China's surplus with the U.S. To not include Germany in my list of examples might come across as Asia-bashing.

Also, just as a matter of interest, in case you and your readers are wondering who was no. 1 on the list - it's Ireland. America's per capita trade deficit in manufactured goods with Ireland in 2006 was $4,306 - 25 times worse than the deficit with China. Of our top twenty per capita trade deficits in manufactured goods, eighteen were with nations much more densely populated than the U.S.

And here's an even more revealing statistic: in 2006, we had a $17 billion trade surplus with the half of nations below the world median population density. With the half above the median (same number of nations) we had a $480 billion deficit.

If tariffs in such instances aren't the answer, then there had better be another because a global economy that's predicated upon America enduring an enormous trade deficit in perpetuity is unsustainable, as the global economic collapse has demonstrated.

Thanks for the opportunity to present my case. Best wishes!”


My response:

Hi Pete
Apologies for the delayed reply but we've had more snow than usual this week and, as usual, the country has ground to a halt, though my domestic requirements haven't.

Thank you for your elaboration on your hypothesis, and your well mannered tone, both of which readers may find helpful.

However, it doesn't answer my objection to tariff targeting, which inevitably discriminates against some countries, who will notice the shift in their trade with the tariff imposing country and its effects on their revenues.

It is the noticeable affects of targeted protectionism that starts the 'beggar thy neighbour' spiral to less trade by futile attempts by retaliation to restore the new deficits.

This does not mean that general tariffs are less 'toxic'; in trade wars all parties involved lose, and usually for some considerable time, depending on the mutual retaliation exchanges. If the global system gets sucked into the trade war, then global depression threatens.

The problem is not really confined to international trade; there are domestic causes at work. The trade in manufactured goods in, say, the case of Germany, which you highlight as a possible target for your tariff proposal, is largely comprised of goods which both the US and Germany produce domestically – engineering products such as automobiles, electronics, etc. In these goods many US consumers buy the German imports in preference to US products. As the singer sings, she wants her man to buy her a 'Mercedes Benz' (or, many without singing, they buy 'Volkswagens').

US relative inefficiency in product, design, and marketing, causes the trade imbalance, therefore the solution to the deficit is for US manufacturing the change. Because the US auto-industry is not tackling these sorts of problems, it loses US customers. Blocking German imports reinforces the inefficiencies of US manufacturing and slows down, where it does not stop absolutely, the inevitable changes needed to remove the deficit as it stands. The same is true across all protected industries.

Tariff proposals are an administrative measure to patch up a glaring inefficiency in US manufacturing, where what is needed is the power of the ‘perennial gale of creative destruction’ to impose change on the way US corporations (and their workforces – and, in the US case, their pensioned and about to be pensioned former workforces; and their Unions, and their legislators and those who influence them) who go about their ‘business as usual’, ‘until Hell freezes over’, stubborn resistance to what their trade deficit is telling them.

I called you a ‘reckless optimist’ because you advocated a measure that has a poor history of effectiveness for a world where other countries are not part of the US solution. Germany, alone, is a powerful member of the European Union, with political clout (not on the scale of the USA), but in the not insignificant ‘pond’ of the EU, its potential for creating the necessary momentum for a response to imposed targeted tariffs should not be overlooked. For these reasons, whatever merits your tariff proposals have in theory (itself not yet properly tested), they may have far fewer merits in practise.

Gavin

Tariffs Are No Answer

Three economists, Drs Raymond Richman, Jessie Richman, and Howard Richman, write the
Trade and Taxes Blog HERE:

“Balanced Trade will Create Jobs”

“While the bailouts have given financial enterprises some stability, they haven’t created a single job. During the last two decades we lost millions of good industrial jobs as a result of our huge trade deficits. By restoring our trade balance, we could create millions of good jobs. We can do this at very little cost. Indeed, the solution we recommend would earn hundreds of millions of dollars for the U.S. treasury. Moreover, the trade deficits are the result of mercantilist policies of foreign governments that are the antithesis of free trade. Under World Trade Organization rules, countries experiencing chronic trade deficits with another country are entitled to take remedial actions, such as tariffs and quotas. Free market forces to correct trade imbalances are practically non-existent.

Economic theory describes the mechanism for correcting trade deficits under a system of flexible exchange rates. In theory, the value of a country’s currency should rise when it is experiencing a chronic trade surplus and fall when it experiences a chronic trade deficit. China’s yuan, for example, is believed to be grossly undervalued relative to the U.S. dollar. If the yuan appreciated, Americans would have to pay higher prices for imports from China, while the Chinese would find the prices of American goods to have become cheaper. According to the theory, the U.S. would import fewer goods from China, and China more goods from the U.S. until trade is in balance. The system has not worked. Dr. Bernanke himself has said market forces were not succeeding in reducing the trade deficits because as the result of the huge flow of foreign savings to the U.S. the dollar remained overvalued. He suggested that foreigners should be encouraged to use their savings at home instead of sending them to the U.S. The trouble with his advice is that the trade surplus countries, particularly China but also Japan, Germany, OPEC, and many emerging economies adopt policies to perpetuate and grow their trade surpluses with us. They call their policies export-based development but we call it by its pre-Adam Smith name, mercantilism.

Incoming flows that are invested in new plant and equipment, like new automobile plants, have given employment to hundreds of thousands of American workers. But such investment was a small fraction of the flow of funds to the U.S. as a result of the trade deficits. The latter financed the irrational exuberance we experienced in the securities and housing markets without creating a single job. Indeed, the flow of funds to the U.S. weakened our own savings and investment.

Both the Japanese, until recently, and the Chinese limit imports from the U.S. by requiring prospective importers to obtain the permission of a government agency. In effect, they have been applying a form of import licenses in addition to exchange controls. Although the U.S. government has repeatedly sent missions to complain about such practices, jaw-boning has had little effect, none on Chinese policy. The purpose of international trade is to enable countries to exchange a bundle of goods they value less for a bundle of goods they value more. There is no reason to accept deliberate policies of foreign governments to deindustrialize the United States.

To bring trade into balance, we recommended in our book, Trading Away Our Future (2008) a system of Import Certificates similar to a proposal by Warren Buffett, which we believe violated the rules of international trade. In effect, our proposal would restrict imports by physically limiting the value of the total amount of goods that could be imported from any country with which we have chronic trade deficit. I now believe that to be a poor way of reducing the trade deficits. It would create a bureaucracy to auction off import rights and would inevitably become corrupted by our elected representatives in Washington. Instead, we recommend a cross-the-board tariff at a single rate, say 10 percent, applicable to China, Japan, Germany. OPEC, and other countries enjoying a chronic trade surplus with us. The result works just like flexible exchange rates are supposed to work.

It would act like a revaluation of the currencies of the countries with which we are experiencing chronic deficits. The price of imports from, say, China would rise, reducing our demand for imports from China. Countries could reduce the tariff by importing more from us. In the meantime, our tariff revenues would amount to billions of dollars.

We are left with no alternative except a tariff on all imports from these countries.”

Comment:
The unfairness complained of by the good Drs assumes that the US is a free trade economy. It isn’t. They argue that “trade deficits are the result of mercantilist policies of foreign governments”. However, the politics of foreign trade suffer from protectionist instructs everywhere, including in the USA.

“They call their policies export-based development but we call it by its pre-Adam Smith name, mercantilism”.

I thought this was promising until I got to this sentence. Adam Smith called these protectionist policies part of ‘mercantile political economy’ – he never used the word ‘mercantilism’ (he died in 1790); it is a late 19th-century German word, imported, if you like, into the writings of English speaking economists from then on. Moreover, the policies of mercantile-minded governments never went away from the 16th century onwards in some form or other, and they operate, still today, across the world. It’s called ‘beggar thy neighbour’.

This is illustrated in the article by the statement: “Free market forces to correct trade imbalances are practically non-existent”.

Yes, it’s a world wide phenomenon, against which the WTO is impotent. Governments everywhere cannot deliver free trade because of domestic politics, where these count, and won’t deliver free trade where domestic politics don’t. Governments of all kinds prefer the benefits of cross-border manipulation of exchange rates where they benefit their economies.

So, what do the three Dr Richman’s suggest as their remedy?

“we recommend a cross-the-board tariff at a single rate, say 10 percent, applicable to China, Japan, Germany. OPEC, and other countries enjoying a chronic trade surplus with us. The result works just like flexible exchange rates are supposed to work.”

They also conclude that:

“Balanced trade would create new investment opportunities.”

Oh dear! I assume most Lost Legacy readers will spot the weakness in their policy of imposing across the board US tariffs on all deficit trading countries.

Yes, the success of uch tariff impositions assumes there will be no retaliation by the countries concerned! And retaliation is almost inevitable.

Everybody can play the game of passing their existing, or future, trade problems onto their trading partners. After how many rounds of mutual ‘across-the-board-tariff impositions’, would it take for mercantile economies to slow down the world’s foreign trade? And how many jobs would that cost in America and elsewhere?

If, say, the US has a trade deficit in automobiles – because US consumers prefer the better value (for them) of buying imported models – it may be more sensible to require the US domestic car industry to start over and to dramatically improve its products (electric, hydrogen, and hybrid fuelled model, also tackling the oil deficit). Given an opportunity to enforce change on the US giants – no bail outs – the US government may be missing the golden opportunity to do just that.

However, all governments, including the supposed ‘free market’ US version, are subject to immense lobbying forces capable of influencing legislators where it hurts (loss of political power) and where it benefits (helping to keep them in power and, for some of them, in the living standards to which they have become accustomed).

It was ever thus.

In fact Adam Smith wrote all about it in Wealth Of Nations
in his critique of mercantile political economy (the ‘capture’ of legislators and those who influence them by the vested interests of some UK ‘merchants and manufacturers’) in his detailed analysis of Britain in the 18th century under governments run mainly by rich landowners, who followed the fallacies of the political economists of his day, because they didn't know any better.

Today, there is no excuse for such ignorance, unless you ignore the politcal dimension of political economy.