An Excellent Review of The Failings of Neo-classical Economics

In Reality Base Blog (HERE)a book review by John Gray in the London Review of Books, is reported (25 November):

“Animal spirits and what else is wrong with neoclassical economics”

“A much discussed book this year has been Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism by George Akerlof and Robert Shiller.

He credits Akerlof and Shiller for their evisceration of neoclassical economics for assuming at its core rational behavior of human beings—conceiving them to be a species, homo economicus, that is not us. Gray goes beyond this and points out that even if we all were homo economicus, important parts of the future are always unknowable and cannot be quantified and factored into market decisions as probabilities. A third theme of the review is the hubris of the neoclassical school in assuming that the magic beans they had discovered would work in any environment and that, indeed, no other doctrine would lead to economic abundance. Unaccountably and regrettably, these ideologues appear not to have noticed in the real world the massive contradictions to that view. A few excerpts:

. . . . The trouble with prevailing theories, in Akerlof and Shiller's view, is that they assume human beings are more rational than they actually are. 'This book, which draws on an emerging field called behavioural economics, describes how the economy really works,' they claim. 'It accounts for how it works when people really are human, that is, possessed of all-too-human animal spirits.' . . . .

. . . . If economists have failed to explain repeated crises, it is because they have interpreted economic activity through an unreal model of rational decision-making. Thinking of human behaviour in this way allows them to claim a high degree of precision for their discipline, which is presented as a kind of applied mathematics. But they have left psychology out of their equations.

. . . . The fact that markets are flawed seems novel only in the context of the economic orthodoxy that prevailed between the wars, and in the run-up to the recent crisis. It is wrong to imply, as Akerlof and Shiller do, that the classical economists believed otherwise. 'Just as Adam Smith's invisible hand is the keynote of classical economics,' they write, 'Keynes's animal spirits are the keynote to a different view of the economy – a view that explains the underlying instabilities of capitalism.' Here they are endorsing the caricature of Smith propagated by neoliberal ideologues anxious to confer a distinguished patrimony on an illegitimate intellectual offspring. . . .

If Akerlof and Shiller's grip on the history of economic thought is shaky, they also fail to grasp why Keynes rejected the idea that markets are self-stabilising. . . .

[I]n his canonical General Theory of Employment, Interest and Money (1936) he concluded that there was no way anyone could make forecasts. Future interest rates and prices, new inventions and the likelihood of a European war cannot be predicted: there is no 'basis on which to form any calculable probability whatever. We simply do not know!' For Keynes, markets are unstable less because they are driven by emotion than because the future is unknowable. To suggest that the source of market volatility is unreason is to imply that if people were fully rational markets could be stable. But even if people were affectless calculating machines they would still be ignorant of the future, and markets would still be volatile. The root cause of market instability is the insuperable limitation of human knowledge. . . . .

The central flaw of the economic orthodoxy against which Keynes fought in the 1930s was to imagine that an insoluble problem – human ignorance of the future – had been solved. The error was repeated in the 1990s, when economists came to believe that complex mathematical formulae could tame uncertainty in the murky world of derivatives. . . .

. . . . Hayek said that governments could never know enough to plan the economy successfully – a claim vindicated by the miserable record of central planning in Communist countries. At the same time, he attributed near omniscience to markets, and never doubted that if left to its own devices the economy would liquidate mistaken investments and return to equilibrium. Against this, Keynes had shown that there is no market mechanism that ensures revival; economic contraction can be self-reinforcing, and only government action can then create a way out."

Comment
This is more like it. Not having read Akerlof and Shiller’s book, I cannot blindly endorse everything they may have said, but their charge against “Homo economicus”, also made regularly on Lost Legacy, and their objections to mathematical modeling of economics, which precludes humans behaving as they really are, is very welcome.

Nobody actually reading Adam Smith would conclude that humans are, or will become, rational calculating machines, or that economies are closed systems in general equilibrium, and thus predictable, let alone always prone to the working for the public good in a Dr Panglossian “best of all possible worlds”.

That markets are better, in an acceptable sense, than their alternatives is a modest requirement, as the experience of Soviet central planning and the accompanying tyranny, is adequate testimony. But that is where we start from, not where we end.

The hubris of a belief in a predictable world, and events in it, is a serious flaw in the modern “science” of economics. Smith, like the later Keynes, did not endorse the myths of predictability – hence there are few, perhaps only one or two, specific predictions in Wealth Of Nations - one being that the former British colonies in North America would be wealthier (measured by the “annual output of the necessaries, conveniences, and amusements of life” within a century of 1776).

Nor was the 20th-century re-invention of the metaphor of "an invisible hand" as a comforting assurance that whatever the moral failings, or externality-induced misery, that was inflicted by individual "merchants and manufacturers" (to which we can add some governments some of the time, and a few governments all of the time), on the rest of society, was somehow a social benefit.

It wasn't, and economics as a "science" can only delude its practitioners into believing such nonsense by denuding its "models" of human beings. This charge cannot be made against Adam Smith.

Research Project to Challenge Modern Economists on Their Invisible Hand Explanations

I returned to more serious research today for my larger project on the invisible hand. This work has gone slowly up to now because, as I have mentioned, I am waiting for Warren Samuel’s paper to be published (now set for later this year in a collection edited by Jeffrey Young and is to be published by Cambridge University Press). I considered it prudent not to go too far ahead in case Warren’s promising treatment made my own redundant, or, in the unlikely event that Warren was off target in some fundamental way, my own paper may have required considerable re-work.

Research develops its own pace, sometimes like walking through treacle into dead-ends, tinged with boredom, and at other times flies along under an exciting momentum from the pieces falling into place, opening new insights, re-constructed ideas, and closing the gaps in understanding.

Having dealt with Adam Smith’s meaning of “an invisible hand” in two papers for the Econ Journal Watch (May and September), I am now working more intensely on phase 2, so to speak, (and have been since 2008) which analyses how and why the invisible hand metaphor was taken up, mainly in the middle decades of the 20th century, by modern economists, in part to make an ideological case for markets (sometimes tinged with theological claims and assertions) over the challenges from both creeping state capitalism and Soviet-style central planning. The other part, included genuine enthusiasm among economists from the 30s to the 70s from their pursuing lines of research into general equilibrium theory.

The problem, which I have been focussed on since my preliminary work from 2003, for my book, Adam Smith’s Lost Legacy (2005), is why modern main-stream economists embedded their theories of “invisible hand” in capitalist markets and, simultaneously, attributed to Adam Smith the role of progenitor of their work.

I have been unable to read into Smith’s works anything remotely like these modern attributions – the fact that they do not qualify for such roles on the basis of what he wrote remains, for me, in stark contrast to what senior colleagues in the discipline claim to have found.

This next project is my attempt to answer this dichotomy from what distinguished economists assert they have read in Moral Sentiments and Wealth Of Nations (and his essay on the History of Astronomy) by coming at the problem from the other direction:

What exactly do modern economists claim for their “invisible hand”, where did these views originate (Chicago, MIT, LSE, and so on, and what evidence is there for such a role in their models of modern economies (general equilibrium, growth theories, welfare economics, business cycles, and recent history)?

I shall report from the research front occasionally on Lost Legacy and share my progress with readers.

The Hesitant Hand by Steve Medema: Review Part 2

In the ‘Hands of Adam’ Steve Medema shows his class as an historian of economic ideas. I found his account of the role of self-interest in commercial society very fair, without the usual cliché errors found in many accounts.

Starting from the proposition in Moral Sentiments that our benevolence towards others diminishes as social distance increases without damaging the social fabric because all others have degrees of overlapping benevolence right across society, and benevolence is not, and cannot be, the sole, or even major force, for exchange behaviour, and, fortunately for human habitation and procreation, it is not necessary that it be so.

A society, we are reminded in TMS can exist with loving relationships, and it is well when it does, but it can also exist without such feelings provided there is a ‘mercenary exchange of good offices’.

Enter here the famous assertion by Smith of the ‘butcher, the brewer, and the baker’ and our need when engaged in an exchange transaction to appeal to their interests not ours (be ‘other centred’; never selfish). Steve shows that for Smith, self-interest is not a ‘one way street’ – what a lot of senseless twaddle would be saved if miss-readers of Smith would get that right!

Steve correctly sets out self-interest in Smith’s lexicon:

‘that the pursuit of self-interest serves the best interests of society as a whole, that self-interest and the social interests are partners rather than enemies’ (19). Self-interest should be facilitated rather than restrained.

The explanation of why this was true for Smith is wonderfully clear, though, Steve notes, ‘Smith is at once vividly descriptive and maddeningly vague’. Echoing Mirabeau (thinking you serve yourself, you serve others), the individual attempts to employ his capital where he expects to earn the highest return, and in doing so, he generally neither intends to promote the public interest, nor knows how much he is promoting it’, followed by the famous metaphor of ‘an invisible hand’.

Steve comments:

‘An invisible hand – this is a specific as Smith gets. What Smith meant by this is anyone’s guess, and plenty of guesses have been offered, ranging from God to government’. But whatever it is, Smith was convinced of its propensity to channel self-interest in socially useful directs’(20).

I can agree with that formulation as it encompasses Smith’s proper use of a metaphor, which is to explain something by adding ‘beauty’ when ‘so adapted that it gives due strength of expression to the object to be described and at the same time does so in a more striking and interesting manner’ (Smith: Lectures in Rhetoric and Belles Lettres, 1763).

A great deal of wasted ink and paper would be spared if only economists would read the nine paragraphs of Wealth Of Nations leading to the metaphor of the invisible hand and see how simply caps his technical description of economic and social process leading to people thinking they are serving themselves when in fact they serve general society, by his employing the common 18th-century metaphor of ‘an invisible hand’. Steve’s compromise treatment is masterly.

Smith develops the sense of ‘congruence’ (Steve’s word), even ‘harmony’ as ‘some would say’ (I prefer potential ‘congruence’) between private and social interests, to his critique of mercantile political economy and Physiocracy, both of which, Steve shows, inevitably distort by monopolies and misguided government interventions (those promoted by lobbying for special, especially corrupt, interests) and thereby interfering with the otherwise free actions of individuals judging their best interests in moral and legally constrained codes of behaviour and acting accordingly.

Here Steve highlights something that is worth developing (21). The absence in Smith’s work of a critique of the ‘internal logic’ of mercantile or Physiocratic thinking: on their own terms they promote the ends they seek (the accumulation of gold or the growth of agriculture output) – as China seems to be sliding towards in buying up the planet with its mountains of US treasury bills and hoping to hold down peasant incomes.

Smith disagreed with their consequences – state action by the former theories (necessarily at the sacrifice of liberty) versus growth of real wealth (the annual output of the ‘necessities, conveniences, and amusements of life’) through individual self-interest in conditions of liberty.

Steve confronts the conundrum of self-interested actions can be malign. Some voices, bought and paid for, advocate absolute freedom for corporations and individuals, the consequences of which are discussed widely. Unfortunately, the remedies (especially from the environmental lobby) of which involve draconian interventions by uncontrollable governments, agencies and neighbourly busy-bodies, plus ‘that insidious and crafty animal, vulgarly called a statesmen or politician’ (WN IV.ii.39).

Steve recognises that Smith was never a one-track voice for everything changing at once. He was far more pragmatic; never an ideologue. He did not make many predictions, nor did he expect much to change, except ‘slowly and gradually’, perhaps in many cases never quite reaching its end goal. He said as much in respect of free trade ever becoming accepted in Great Britain this side of ‘utopia’.

His message was that competitive markets were generally better than state grand plans. He didn’t even consider that ‘natural liberty’, as was envisaged by the Physiocrats, was a necessary condition for the spread of opulence – if it was, he opined, it is unlikely that any country would ever have progressed towards it (WN ix.28: 674).

Nor, Steve observes, were the necessary roles of government minimal (23) – Smith was not a laissez-faire purist or even near being so. The list of proposed roles for the state, collected in Book V and elsewhere scattered throughout Wealth Of Nations, is quite long, and probably much longer than the purveyors of Smith, the laissez-faire advocate, realise. Steve covers this material with both conviction and economically.

Smith, says Steve:

‘was not, as some have imagined, a proto-modern. Smith’s view of man is not economic man with his rational, single-minded pursuit of his self-interest’. Furthermore, Smith did not argue that private action was optimal, in the modern efficiency sense, nor even that it was superior to governmental alternatives. Smith considered the link between private and social interests partial and imperfect, but he was also of the mind that self-interest, properly channelle, tended to engender positive results, rather than negative ones, and that government interference with its operation in the economic sphere would generally lead to inferior results’ (25).

I think we can sum up Smith’s approach as being: ‘markets where possible; the state where necessary’.

Steve’s last line in this chapter is evocative:

‘Self-interest, then, had finally found legitimacy’.

[In Part 3 we move on to the ‘Harnessing of Self-Interest’ with ‘Mill and Sidgwick and the evolution of market failure’.]

Mythical Basis for a Theory

Linda Naiman writes at the Creativity at Work Blog HERE:

“Taking Responsibility for the Whole”

“Built into the concept of capitalism and free enterprise from the beginning was the assumption that the actions of many units of individual enterprise, responding to market forces and guided by the ‘invisible hand’ of Adam Smith, would somehow add up to desirable outcomes.

“But in the last decade of the twentieth century, It has become clear that the ‘invisible hand’ is faltering. It depended upon a consensus of overarching meanings and values that is no longer present. So business has to adopt a tradition it has never had throughout the entire history of capitalism: to share responsibility for the whole. Every decision that is made, every action that is taken, must be viewed in the light of that kind of responsibility.”

Comment
The “assumption” that market forces were “guided by the ‘invisible hand’ of Adam Smith” add up “to desirable outcomes” was not “built into the concept of capitalism and free enterprise from the beginning”.

That is a modern myth spread widely and repeatedly from the 1950s by modern economists (though it was earlier taught in the Chicago oral tradition from the 1930s). It was backdated to Adam Smith to give the myth high-level approval, as if he had made the metaphor of ‘an invisible hand’ a central theorem of his analysis of 18th century commercial markets (he never knew of ‘capitalism’, a word invented in English for the first time in 1854 – see Oxford English Dictionary).

Smith used the metaphor of ‘an invisible hand’ only three times in nearly a million words: once only in his Essay on Astronomy, written from 1744 to 1758, unpublished in his lifetime and published posthumously in 1795; once in Moral Sentiments, 1759; and once in Wealth Of Nations, 1776.

In no sense was the metaphor about “responding to market forces and guided by the ‘invisible hand”. In fact Smith discussed how markets worked in Books I and II in Wealth Of Nations without any mention of ‘an invisible hand’. That he is alleged to have done so is a myth – a sort of ‘academic campus myth’ like those ‘urban myths’ we hear so much about.

Modern economists blessed their mathematical models of general equilibrium with quasi-miraculous foundations and it was used also to proclaim the self-evident superiority of capitalist institutions and markets over the then prevailing counter-claims of the centralized planned economies of communist rivals.

Modern economists ‘over egged the pudding’, as we say in English. Markets are superior in most cases to non-market institutions and do not need the imaginary aid of so-called invisible hands, and certainly not associated with Adam Smith's isolated use of the metaphor, a wholly innocent victim of the purloining of his legacy.

That there may be a role for regulation, made on a case-by-case basis and not as a catch-all cop out, is quite consistent with Adam Smith’s moral philosophy and political economy.

Smith was NOT opposed on principle to intervention in some markets; his outright opposition to the forms of government inspired interventions from the 16th century in Britain through policies which he described as ‘mercantile political economy’ (many features of which remain active today) should not be taken as evidence for his general views on the levels of government promoted interventions.

Smith in Wealth Of Nations identified several important areas for government intervention – such as in banking regulations (even if it was contrary to his principles of ‘natural liberty’ when the security of people was at stake) - and in weights, measures, quality of cloths, gold and silver, the Mint, and post offices. He advocated public funding of in ‘public works’ (roads, bridges, canals, harbours, town cleanliness, and pavements) and in public institutions (education and aspects of health). He also advocated the separation of church and state.

His general policy is best summed as ‘markets where possible’ (operating under the justice system - an independent judiciary, Habeas Corpus, and trial by juries) and ‘public works where necessary’. Which is a far cry from the so-called ‘night watchman state’ (actually an idea of Ferdinand Lassell’s, the firebrand 19th century socialist, not Adam Smith’s).

Invisible Hands that 'Step In'

Hans Wagner at Daily Markets writes on ‘Bond Yield Curve And The Stock Market’ HERE:

“In theory, rising interest rates should be good for stocks. Rates tend to rise when the economy is recovering from a down turn. However, higher rates can also be a determent to an economy that is recovering. That is why the Federal Reserve is keeping short-term rates near zero. However, controlling long-term rates is much more difficult. The hidden hand of Adam Smith steps in and forces all entities to deal with the realities of economics.

When rates go up, many investors seeking safety, who had been buying stocks, opt for bonds to receive their yields tempting. When investors perceive they can get better returns from long-term bonds than from stocks it takes money out of the stock market. This tends to put downward pressure on stocks prices. In addition, companies that sell long-term debt will pay more now that rates are higher. This reduces their earnings power.”

Comment
Hans Wagner writes a clear, concise, and accurate account of the Bond Yield Curve, accepting that the BYC is a possible prediction; more of a guide from the past for possible, but uncertain, future behaviour.

The authorities can attempt to influence future behavour by manipulating current and future yields, which may have a desired affect or may meet with stubborn resistance as opinions diverge and losses mount for some.

What investors in stocks and bonds do in their anticipations of the future is down to their usual perceptions of risks. Here, Hans employs a metaphor to skate over the effects of investors’ judgements: ‘The hidden hand of Adam Smith steps in and forces all entities to deal with the realities of economics.’

He does not explain how an ‘invisible hand’ is able to ‘step in’ (more a role for a foot). In practice investors do what their degree of risk avoidance influences them to do. The ‘realities of economics’ are not read from a textbook - more likely from professional advisors angling for commissions to advise them or subscriptions to their newletters – and opinions may differ about the ‘realities’ of ‘economics’.

In short, if investors follow the advice or their best guess and behave according to the Bond Yield Curve’s predictions of future yields, assuming they find and trade with others offering contracts carrying interest rates according to their fancies, and assuming these prove profitable in practice, then Hans would ascribe their behaviour to ‘the invisible hand’ with a ‘foot’ attached. Of the others – there are always others – who behave differently, they have shrugged off the ‘invisible hand’ and have side-stepped its ‘foot’.

Why not say so, by explaining the role of the yield on the risk perception of investors, as identified by changing interest rates on short and longer term bonds compared to alternative perceptions of earnings from future share prices?

If stuck, try admitting that its all down to differences of opinions, backed by trades in shares and bonds? Of course, for a professional advisor to admit that what people do is respond to changing prices and yields would hardly be worth a fee or commission, or the price of a publication.

That’s where a widely shared quasi-religious belief in invisible hands ‘step in’ to obfuscate behind a veil of ignorance and a multitude of opinions. It's the difference of opinions that makes the market in shares and bonds (acknowlegements to the American author who said something similar about horse racing, but whose name I have forgetten this morning).

On Reducing Adam Smith to a Metaphor

Emanuel Derman writes in Emanuel Derman’s Blog: ‘ Economics as Economics’(7 May) HERE:

“Last week I spent a day at the Perimeter Institute in Waterloo, Ontario. It's a sort of institute for advanced study devoted to theoretical physics, and they had a meeting on The Economic Crisis and its Implications for The Science of Economics (sic).

One thing occurred to me in connection with trying to create a workable economic theory. Everyone is motivated by analogies: economics as physics, economics as collective phenomena with phase transitions (cellular automota, agent-based theories, which sounds sensible) economics as a gauge theory with a local invariance group (which sounds beautiful but maybe overambitious), economics as evolution, economics as biology, economics as computational neurology.

But if you look at new theories that burst on the world successfully -- Darwin on the origin of species, Adam Smith on the invisible hand, Freud on the subconscious, Marx on capital -- they weren't driven by analogies. They looked at the world with fresh eyes and made up an explanation for what they saw. Not everything is a metaphor.”

Comment
Extraordinary thinking represented here, with deep irony too. Everything goes well for Emanuel Derman until his last paragraph.

Among ‘new theories that burst on the world successfully’, he includes Adam Smith. Allowing for a bit of hyperbole, we still have trouble recognizing that ‘Adam Smith on the invisible hand’ burst on the scene, which is more than a stretch of the imagination.

Adam Smith might be said to have ‘burst on the world successfully’, if by that is meant his Moral Sentiments and Wealth Of Nations, but ‘Adam Smith on the invisible hand’?

The invisible hand’ was hardly noticed for 100 years; some ‘burst’!

Worse, Smith who used the words once only in each book, certainly ‘looked at the world with fresh eyes and made up an explanation for what [he] saw’ but he did not use the ‘invisible hand’ as ‘an explanation for what [he] saw’.

Smith explained what he say, taking near on a million words in doing so.

Emanuel Derman, ironically is right: ‘Not everything is a metaphor’, but the invisible hand was a metaphor. It didn’t explain anything; it substituted for one!

Smith had already explained what he saw when he observed, analysed, and wrote about how markets worked in Wealth Of Nations (Books I and II). His use of the well-known, 18th-century literary metaphor, of ‘an invisible hand’ in Book IV, was not a ‘new theory’; it wasn’t even a theory, it was a simple metaphor, and was most certainly not comparable to, say, ‘Darwin’s Origin of Species, … Freud on the subconscious, Marx on capital’, or even Adam Smith himself on the nature and causes of the wealth of nations.

That 'Not everything is a metaphor' is absolutely right; so why does Emanuel Dearman reduce Adam Smith so precisely to the metaphor of 'an invisible hand'?

Adam Smith on Liberty

Today’s Tomas Estrada-Palma Message (‘I am the great grandson of Don Tomás Estrada-Palma, the first elected president of Cuba, 1902-06). HERE:

Preface to the Post:

‘Tomás Estrada-Palma: LocaAnnapolis, MD, United States’

‘Let entrepreneurs into Cuba, keep the tax low and watch the economic explosion happen. Whenever there are more jobs than workers the wages and benefits are driven upward. That's because entrepreneurs compete for a limited supply of workers. Those who lose the competition will not be as successful because they can't grow without more laborers. Finally, the first modern society on the planet will be populated by people who are neither slaves to the pharaohs of industry nor government. Cuban workers will have the best job security in the world!'

The Post:

Stock Manipulation (23 April)

‘What's going to happen? Adam Smith wrote that the invisible hand of the marketplace always corrects the price of everything eventually. What the Treasury Department is futilely attempting to do is to re-inflate the stock market bubble. They will fail dramatically and very soon. The bubble is going to pop and the drop will be much more significant than if the government would have just left things alone.’

Comment
I posted the Preface because for its contents, because Tomas Estrada-Palma, deserves to be saluted and respected by all who believe in Liberty.

His later post is less clear. Adam Smith did NOT write that ‘the invisible hand of the marketplace always corrects the price of everything eventually’. Smith wrote that markets determine the ‘the price of everything eventually’.

There were no invisible hands involved in Adam Smith’s writings about markets, as can be seen in Books I and II of Wealth Of Nations.

That is a myth invented in the middle of the 20th century by modern economists (download my paper, ‘Adam Smith and the invisible hand: from metaphor to myth’, from ASLL Home Page: click where invited to do so).

Tomas is correct: ‘the Treasury Department is futilely attempting … to re-inflate the stock market bubble.’ And burdening current and future generations with immense debts that will have to be repaid from taxation.

On Cuba’s future, I am sure it would be in safe hands if its people elect a (small) government to be ‘at peace, introduce easy taxes, and a tolerable administration of justice’ (Adam Smith, 1755).

The best response to Castroism is not bloody revenge nor mass persecution of his acolytes: let the people create prosperity based on justice and competitive markets. Keep an eye out for monopolistic tendencies and special pleading for privilege; stamp out corruption, fraud and favours.

And above all secure the people with Liberty.

A Humourist and the Invisible Hand

Geoff Elliott, Washington correspondent of The Australian (‘on-line newspaper of the year’) HERE:

‘A mishap on freedom highway’

‘In that 2007 interview O'Rourke had just finished a book on Adam Smith. Smith's famous The Wealth of Nations, with its theory about the invisible hand of markets, is the bedrock for libertarian economic thought and on what O'Rourke has pinned decades of witty observations, starting in Rolling Stone and proceeding to 12 books such as Holidays in Hell, Eat the Rich and Give War a Chance.

One has to feel sorry for PJ, though. This is the man who calls all politicians dingbats and wished the hell government just got out of the way. Now he's like someone walking through the ruins of their house asking, "What the hell just happened?"

Smith, though, remains as relevant as ever, he says. The market is now doing its job, despite the best efforts of government to stop it. In O'Rourke's view, channelling Smith, throwing trillions in taxpayers' money at the problem is folly.
"How, then, would Adam Smith fix the present mess?" O'Rourke wrote in the Financial Times recently. "Sorry, but it is fixed already. The answer to a decline in the value of speculative assets is to pay less for them. Job done."

"You know Adam Smith was much better on the whole speculative bubble thing," O'Rourke tells me. "He had that nailed. Smith has a recognition, unlike others with greater technical expertise, that you are mainly talking about psychology here. Simply, Smith saw bubbles as more to do with the human desire to fool itself."

Bubbles and mania are nothing knew. But clearly there was nothing in Smith's writings that allowed the likes of O'Rourke to predict the mother of all economic meltdowns, and O'Rourke sounds slightly chastened when he speaks of the events of the last 12 months.

"What we just saw was a terrific overvaluation in every asset class. It is pretty remarkable, really. We just had huge runaway inflation - Weimar Germany standards - but it was in credit and money supply."

P.J. O'Rourke will lecture in Sydney on April 21 and in Perth on April 28 on "Invisible hand v visible fist: securing the future wealth of nations" for the Centre for Independent Studies. The Australian is co-sponsoring the visit. For details and bookings, call (02) 9438 4377, email events@cis.org.au, or visit: www.cis.org.au

Comment
P. J. O’Rourke is famous for his writing style and his book on Adam Smith’s Wealth Of Nations, deservedly is a best seller, though I have reservations about some of his interpretations, notably on his swallowing and then regurgitating the unreliable, and incorrect, Chicago/Samuelson/ Friedman invention about Smith’s so-called theory of an ‘invisible hand of markets’.

My essay, ‘Adam Smith and the Invisible Hand: from metaphor to myth’ discusses what Adam Smith actually wrote when using (once only) The Metaphor in Wealth Of Nations and rebuts claims, popularised in the 1950s in academe, about The Metaphor being a theory of markets. Readers can download an early draft (2008) HERE

That some economists, and their readers, have gone from worshipping mythical invisible beings and hands (‘pusillanimous superstition’ according to Smith) when discussing how markets work to confusion and dismay when the myth turns to shadows, is instructive.

The real damage to Adam Smith’s legacy occasioned by the invention of the myth of the invisible hand, in lieu of understanding how markets actually worked (fully explained by Adam Smith without mentioning disembodied body parts at all in Books I and II of Wealth Of Nations), has been enormous. Some economists turned Smith’s single use of the popular 18th-century metaphor into a religious experience – it became in effect the ‘Hand of God’ – and added a perfectly redundant and misleading mysticism to the very real, earthly experience of humans in societies.

That markets, and the exchange behaviours associated with them, have a long history in the long march of our species from brutish ignorance to modern science is not a ‘miracle’, nor evidence of ‘providence’, nor the consequence of a gentle guiding force of invisible beings, with or without hands. Humankind achieved it all by itself, for good or ill.

We do know that when human societies, for whatever reasons, curtailed, suppressed, or abandoned institutions dominated by voluntary exchange, they languished in the poverty of the alternatives to markets.

P. J. O’Rourke favours markets, but does not (yet) understand them. His popularisation of Wealth Of Nations, while a noble quest, perpetuates the modern myths of those ideologues who faced up to the collectivist challenges of the Cold War decades.

He now turns his wit to the bust part of the cycle after its boom, making his highly-readable presentations in Australia likely sell-outs without too much marketing effort. He does not show signs that he understands his own contribution to the boom in his romance with the myths of modern economists.

Some thoughts on ‘Spontaneous Order’ Type Explanations

The market, explains Hayek is “the result of human action but not of human design.” I agree wholeheartedly with that statement. The problem comes next when we try to explain how the processes of human action become the outcome known as market solutions.

I am not convinced that the concepts of 'spontaneity', or 'invisible hands', in their modern guises (since the 1950s) advance science as an explanatory mode for understanding complex fields like markets, social change, and social evolution.

The problem I have with ‘spontaneity’ is in its inadequacy for explaining how markets work; it substitutes a conclusion (spontaneity) for a process. In its ‘invisible hand’ guise, I have criticised it on Lost Legacy for its mystical tones. It is a particular target for my criticism of modern attributions to market forces, though in fact, markets have been well understood since Adam Smith’s days. He did not need, nor did he use, an ‘invisible hand’ non-explanation to analyse market exchanges through price signals in Books I and II of Wealth Of Nations, though modern economists slip the metaphor in at every opportunity and, today, many believe that the metaphor of 'an invisible hand' is the explanation.

Human action in markets has history behind it. The propensity to ‘truck, barter, and exchange’ did not appear spontaneously; it was not an innate faculty that humankind were born with. It emerged over untold millennia and, in a sense, it still is emerging in its contests with that prime alternative to voluntary exchange, that of violent plunder, theft, and coercion, which I have attempted to explain in my papers, The Pre-History of Bargaining, Parts I and II; and about which I may soon be re-writing into an accessible book.

People learn, as they do in most cases of human-to-human exchanges, to barter and exchange through processes like mutually beneficial reciprocation (‘quasi-bargaining’), Gift exchanges common to all human cultures, and the simultaneous exchanges of modern bargaining, all of which have a long history and pre-history. I agree with Jim Otteson that people are engaged in exchange across a wide variety of social fields (Otteson, J. 2002: Adam Smith’s Market Place of Life’, Cambridge University Press).

Human knowledge is passed on and absorbed by generations in all aspects of life, which need not mean that lessons once learned are adopted, but neither do they need to re-invent everything in the knowledge base. But humans are thinking actors as well, and the proclivity of trying to ‘improve’ how they and others act is ever present, not least because any form of human action has positive and negative outcomes (if only in the opinions of some observers).

My main consideration in this post is not to present a new theory. That themes of modern ‘explanations’, such as ‘spontaneous order’, and, to an extent, that of the attribution to Adam Smith of what modern economists call the ‘invisible hand’ phenomenon, do not explain, indeed obfuscate, what Adam Smith stated was the purpose of philosophical science, namely, to reveal the ‘connecting principles of nature’, which ‘abounds’ with:

‘events that appear solitary and incoherent with all that go before them’… ‘by representing the invisible chains which bind together all these disjointed objects, and endeavours to introduce order into this chaos of jarring and discordant appearances, to allay this tumult of the imagination, and to restore it, when it surveys the great revolution of the universe, to that tone of tranquillity and composure which is both most agreeable in itself, and most suitable to its nature’ (Adam Smith: 'History of Astronomy', II.12: pp 46-47).

General themes, such as ‘spontaneous order’ and ‘invisible hand’ explanations move away from science in my, necessarily, humble view, in contrast to Smith's use of the example of uncovering the ‘connecting links’ with his parable of the loadstone under the table actually moving the pieces of iron on the table, which an uninitiated observer thinks are moving miraculously on their own! But once explained by the physics of magnetic fields, the ‘miracle’ (such as an invisible hand explanation) disappears (Smith, 'History of Astronomy', II.5 p 40, 42), but when it is left unexplained, notions of ‘mystical’ orders and ‘invisible’ body parts, take on a credibility of their own

In Moral Sentiments and Wealth Of Nations, on the two occasions only where he uses The Metaphor of an invisible hand, he explains the cause of the supposed 'miracle' first and introduces The Metaphor last. I think the science of the explanation is more important than The Metaphor, and I offer the thought that we should concentrate on the science, not The Metaphor.

Taking my analysis of Adam Smith's two cases (the Astronomy incident of the Roman god Jupiter, is sui generis), I have shown exactly what Smith indicated were the causes of the so-called invisible hand 'events'. In Moral Sentiments, the landlords did what they could not avoid doing in three ways: first, they used some proportion the food output from their land for their own consumption (not all of which went into their limited stomachs - they could also 'sell' some amount of the food output for purchasing other goods that were not restricted by the size of their stomachs - jewellery, fancy clothes, artefacts, and luxuries, or their consumption of their profits); secondly, they used another proportion of the output for next year's sowing (no seeds, no food); and thirdly, they paid some of their output as the subsistence for their peasants and their families to survive the winter to do next season's farming, herding, and so on. All fully explained; no 'invisible hand' at work; we can see the loadstone!

In Wealth Of Nations, he described how the psychological state of degrees of risk-avoidance led some wholesale merchants to trade with the colonies for compensating higher profits, under a regime of the monopoly Navigation Acts and the power of the Royal Navy; and he described the circumstances that led some other merchants to invest locally, even for lower, or not much less of the same profits, which added to national output (because the whole is the sum of its parts – the more parts the larger the whole). Again no need for an invisible hand, except as a metaphor, which is the proper use of metaphors (Adam Smith: Lectures in Rhetoric and Belles Lettres, {1762-3]).

Briefly, I think the science of the explanation for events is far more important than the themes of 'spontaneous order' and the metaphor if an 'invisible hand'. I offer the thought that we should concentrate on the science and not the themes.

Gary Makes a Good Point

A comment from ‘Gary’, with whom I have been debating The Metaphor of the ‘invisible hand’, as Adam Smith used it and as it is used today by modern economists, set me thinking after I had responded (see below to my post "A Reply to a Commentator" and the two comments appended therein.

This is a quote from Gary’s comment:

‘One of my disagreements is in the use of the term "invisible hand". In reading your paper (and the examples in this post) it's hard to ignore the fact that none of the references you cite used the term "invisible hand" (The Metaphor if you prefer) the way Adam Smith used it - in reference to economics.

Most use the term in reference to God, Providence, or other supernatural force. A few use it in reference to natural forces such as wind; there are a few military references; but none use it in reference to economic principles.

It may be a mistake to say the Adam Smith "coined" the term "invisible hand", but after reading your paper and other sources over the past few days, I believe it's still accurate to say he was the first to use The Metaphor in the context of economic principles.

The closest thing of which I'm aware previous to Adam Smith is "The Grumbling Hive: Or Knaves Turned Honest" by Bernard Mandeville http://www.effor.com/blog/index.php/the-grumbling-hive"

That poem effectively describes what the "invisible hand" means today, even though Mandeville never used the term.’

My initial response was as follows:

“On Smith's use of The Metaphor, I am not sure I agree completely with you.

Smith did not write about 'economic principles' in his use of the invisible hand. His first use was about pagan religion (History of Astronomy); his second was about feudal landlords avoiding his peasants and retainers starving to death, dsespite their psychological delusions of 'beauty' (Moral Sentiments); and the third was about risk-aversion - another pyschological impulse (Wealth Of Nations. All covered by prior use by other authors.

When he did write about how markets work, Book I and II, and how commercial society evolved (Book III) he did not use The Metaphor at all.

The users of The Metaphor in economics were the post-1950s modern economists, not Smith.

Smith is often confused with Mandeville - selfishness and greed etc.”

I thought about this exchange over-night (I am like that) and think I should record that in all the years in which I have been debating The Metaphor on Lost Legacy (since 2005) and in seminars, correspondence, and from reading articles and books from professional economists and academics from other disciplines, I cannot recall an occasion in which anybody before Gary who has raised such a sensible objection to the case that I expound about Smith’s use of The Metaphor.

This is quite striking. It’s not striking because Gary made a knock-out blow to my case – my response suggests why I do not accept his point - but he did make a significant point that I had not thought of before.

The Metaphor, as Adam Smith used it in the three occasions he did so - credulous beliefs of ‘savages’ and pagans (History of Astronomy), consequences of the psychological ‘deception’ of the ‘man of enterprise’ (Moral Sentiments) and the psychology of the risk-avoidance of the wholesale merchant (Wealth Of Nations) – was transposed by post-1950s modern economists, such as Samuelson, Friedman, and their graduate classes of US and UK economists, into a supposed invisible and mystical force within markets and without content or any identifiable mathematical term in their modern equations, which supposedly are representative of how markets work.

I have stressed how the popular literary Metaphor was used by Adam Smith as a ‘figure of which can have ‘beauty’ if it ‘is so adapted that it gives due strength of expression to the object to be described and at the same time does this in a more striking and interesting manner’. As such, The Metaphor is representative; it does not have substance; it is not identical to its object, and neither is it a ‘concept’, a ‘theory’ or a ‘paradigm’ (see my 2008 paper, “Adam Smith and the Invisible hand: from metaphor to myth”, downloadable HERE:

Adam Smith used The Metaphor to give ‘due strength of expression’ in ‘a more striking and interesting manner’ of the ‘beauty’ of the consequences of rich feudal landlords who were deceived by the flattery of their possessions into providing subsistence to the poor peasants who worked for them, and likewise to the consequences of the risk-avoidance of some merchants who invested their capital locally. That was Smith’s contribution, typically keeping his feet on the ground, so to speak, because he explains what goes on before adding a metaphor.

However, and this is the ultimate significance of Gary’s intervention in our debate, the post-1950s generations of economists who transposed The Metaphor from Smith’s psychological drivers of landlords and merchants, into an unexplained ‘theory’, ‘concept’, even ‘paradigm’, of how markets work by ascription, devoid of content or explanation, and in doing so they added a mystical layer of assertion over what the science of economics is supposed to explain.

Where Adam Smith, and others who came afterwards, diligently explained, without notions of invisible 'hands’ or ‘beings’, more associated with ‘pusillanimous superstition’ than with scientific analysis, the post-1950s generations of supposedly modern, scientific economists, with batteries of mathematical techniques at their disposal, did, was and is to take their science back to rest on a primitive mumbo jumbo, which would not be out of place among the credulous generations of the Middle Ages and those who lived even earlier.

And they have done this all in the name of Adam Smith in a sorry attempt to give their ideology an authority it does not deserve, under the driving force of that dangerous notion that there is an invisible force (some credit it to God) at work guiding the self-interests, even selfishness, of entrepreneurs, unbeknown to them, that magically, somehow, turns even the most sordid of actions into social benefits, of which those who suffer, or lose out, or are inconvenienced, some without their limbs, others without the lives of their loved ones, have at least the comfort of being told that public good can come from public bad!

Worse, legislators and those who influence them, buy this crap and are encouraged to give the perpetrators of and the beneficiaries from, this lie in the illusion that it is true because The Metaphor says so.

That is what, no less, is at stake in the, rather lonely, battle to retrieve Adam Smith’s legacy from the epigones.

My thanks to Gary for raising these issues in a coureous ‘more striking and interesting manner’. His passionate advocay of free markets is in good, visible, hands!

Misreading Adam Smith, I hope Accidentally

From the Princeton University press Blog, announcing a new economics title HERE:

“Adam Smith, Meet Captain Hook: The Upside of Pirate Greed” by Peter Leeson

“In 1776 Scottish moral philosopher Adam Smith published The Wealth of Nations. In it, he described the famed “invisible hand.” According to Smith, individuals pursuing their self-interests are led, “as if by an invisible hand,” to promote others’ interests as well.

Your grocer, for example, wants to serve his own interest—he wants to make money. But to do so he must serve your interest as well. He must provide you with the highest quality groceries at the lowest possible price or you’ll patronize a competitor that does instead. The grocer doesn’t care about you, of course; he doesn’t even know you. He cares about himself, but in serving himself he serves you too.”

Comment
Peter Leeson, BB&T Professor for the Study of Capitalism at the Mercatus Center at George Mason University and author of the new book, The Invisible Hook: The Hidden Economics of Pirates and he also blogs at The Austrian Economists, is almost right and spoils the accuracy of his interpretation of the grocer’s pursuit of his self-interest in serving her customer’s self-interest, which in turn serves hers.

Yes, we serve our self-interest best in exchange by serving the interests of others.
But, I am not sure of his accuracy of interpretation in his first paragraph:

“According to Smith, individuals pursuing their self-interests are led, “as if by an invisible hand,” to promote others’ interests as well.”

That is not what Adam Smith wrote. He did not write anything about “as if by an invisible hand”. The quotation marks around this statement suggests that Adam Smith wrote those words; he most certainly did not.

There is no ‘as if’ attached to ‘led by an invisible hand’. Peter Leeson has added them and incorrectly wrapped them in quotation marks.

Also the way the sentence is written implies that Adam Smith was making a general statement applying to all individuals in all cases; he wasn’t.

He wrote about a specific set of individuals (some but not all wholesale merchants) whose risk aversion to foreign trade led them to prefer to deploy their capitals in their domestic locality, despite the higher monopoly-driven profits from trading with the British colonies in North America under the protection of the Navigation Acts, enforced by the Royal Navy.

These individual decisions meant domestic annual product was higher than it otherwise would be, and because the whole is the sum of its parts, the domestic economy, and resulting employment and output, were greater than they would otherwise be.

Having explained all this clearly and adequately, Smith summarises his explanation, with the well-known 18th-century literary metaphor of ‘led by an invisible hand’ (WN IV.ii.9: 456), which applied in this one specific case and ‘in this, as in many other cases’, but not all cases, as the over 70 examples he mentions along the way of self-interests not being beneficial to society in Books I, II and III of Wealth of Nations.

In fact, Smith analyses how prices are determined, how markets work, and how the ‘great orders’ go about their business without mentioning ‘an invisible hand’ at all.

Professor Peter Leeson should have written his sentence as:

“According to Smith, SOME individuals pursuing their self-interests are led IN MANY BUT NOT ALL CASES, “by an invisible hand,” to promote others’ interests as well.”

By generalising Smith’s thinking in the manner he did, Professor Leeson repeats the mantra of some ultra-conservative-minded propagandists for State Corporate Capitalism (which they are perfectly entitled to assert in their own names), but their assertions are their own and have nothing to do with Adam Smith.

Free Capitalism and Free Markets

C. Rick Koerber, of Free Capitalist Blog, discussed on Lost legacy, on Wednesday last (“Origins of the Word 'Capitalism'), has responded with a long commentary HERE:

My criticism of Rick Koerber’s article by focussed on the generality of his statements about the ‘Origins of the Word Capitalism’, which suggested a lack of specific knowledge of its origin and conclusively failed the report its origins, the presumed purpose, at least to this reader, of the article. It also offered a number of misleading origins, including that of Adam Smith’s role.

That some people believed this or that about origins of the word, capitalism, is no defence. The title of the article is specific: ‘Origins of the Word Capitalism’, and I expected a statement of what are verifiable facts of its origin somewhere in the article. But Rick did not state anything factual about the origin at all. Instead, he made misleading generalities about what others may have said, including Karl Marx, for example. This is what drew my attention and on which I commented.

My approach, as always, is educational; I stated the facts about the origins of the word, so that Rick and others could display command of the subject in future. Not knowing with whom I was dealing, but taking his statements at face value, I made no concession for his vague language and his failure to answer his own question.

I think clarity on these points is essential if he wants to promote market solutions to allocation and distribution issues in the 21st century. I added, for information, some facts about Adam Smith because it seemed to me that Rick did not appreciate his role.

Adam Smith did not write about ‘capitalist’ economies; he wrote about ‘commercial societies and markets’ (see his Lectures in Jurisprudence, [1762-63] 1978, and his Inquiry into the Nature and Causes of the Wealth Of Nations, [1776] 1976, Liberty Fund, Indianapolis, Indiana).

He did not even write a textbook on economics, mainly because there was no definitive and widely-agreed body of ideas suitable for a textbook treatment at the time (a discipline requires such a body of agreed material before it writes textbooks for wider study; by the time that body of knwoledge was acquired, the discipline had moved on from Adam Smith, at some cost in understanding).

Smith wrote a critique of the state-managed, mercantile society of mid-18th-century Britain and the consequences of the monopolistic British colonies of North America, with a subsidiary polemic against the activities of the Royal Chartered trading companies, then prevalent, especially the odious East India Company.

It should also be noted that the core ideas of Wealth Of Nations formed parts of his lectures to Moral Philosophy for students (aged 14-17) in his classes at Glasgow University from 1751-64. His main lectures were on ‘ethics’ and these appeared as his Theory of Moral Sentiments (1759), which I think, in its six editions, is a more significant book than Wealth Of Nations (five editions, while he was alive), because Moral Sentiments is about lasting themes for individuals in society, more so than his albeit brilliant polemic against 18th-century State-mercantile policies. But that is a personal opinion.

Because Smith did not mention the word ‘capitalism’, Rick and Seth argue that this, by itself, does not mean that he did not write about what became capitalism, per se. That is, of course, true. However, the fact remains that what he did write about was not the phenomena we now call capitalism.

The differences between his outlook and what happened after the influence of the popularly-called ‘industrial revolution’, was a long process.

It was characterized by an evolution of power-, not hand-, driven machinery. In Smith’s account he was concerned with ‘manufacturing’ in its original meaning, ‘by hand’. He did not foresee the evolution of what became the modern banking system of finance capital, nor an accelerating technological revolution (electricity, chemistry, etc.,) and what became eventually a mass-consumer market, associated with continuous increases in per capita income from sustained general economic growth, which changed many of the fundamentals in Europe and North America to an unrecognizable degree.

The agricultural sub-structure of the economies known to Adam Smith were subjected to major structural changes, from near dominance of society into agriculture becoming a minor segment of ‘GDP’, for example; from mainly local markets (fairs, market days, small shops) to ‘national’ and ‘world’ business–to-business markets, with movements of unimagined large capitals across Europe and the Atlantic, now the Pacific; from local ‘dearth’ of food (even famine) to general food security, but with national ‘depressions’ (‘business cycles’); the beginnings of ‘State macro-management’ of national economies, and to the continuation, but on an ever larger scale, of national capitalist producers with State political objectives, accompanied by substantial lobbying of legislators and people who influence them; extra-state activity of large trade unions, and protest-driven, populist political parties and powerful NGOs; all of which sum to a world vastly different from Smith’s concerns and horizons.

In Smith’s world. Government expenditure was dominated by military procurement; today, though in total much greater, it rarely rises about 7 per cent and mostly is under 3 per cent of GDP.

Indeed, Adam Smith did not predict forward to a possible future; he is characterized by ‘looking backward’ in his outlook; he was not in the prediction business. A rare ‘prediction’ that he made was on the prospects for the former British colonies in North America, while discussing the eventual outcome of a theoretical union between the mother country and its colonies, was that in ‘little more than a century [1880], perhaps, the produce of America might exceed that of British taxation’ (and, interestingly, the seat of the British government ‘would remove itself from’ London to the former British colonies) [ WN IV.vii.c.79: pp 625-26].

In the main, Adam Smith’s perspective was an historical account of how and why society, as it was, had developed in the manner that it did. The shadow of the Fall of Rome, and its affect on Western Europe, from 5th century, the ‘barbarian’ invasion and the destruction of functioning Roman markets, and their slow revival from the 14-15th centuries to the revived commercial societies on the 17th-18th centuries, were Adam Smith’s focus. His books are replete with classical references, both literary and historical.

To which Smith added long chapters on the negative affects of ‘mercantile political economy’, which dominated all European governments, but held back the natural ‘spread of opulence’, especially among the majority families of the labouring poor, matched by the perfidious monopolizing spirit of many ‘merchants and manufacturers’, feeding off the ignorance of the landlord aristocratic order, which dominated the legislature and those who influenced them from among the educated middle order.

People quote Adam Smith (selectively) who clearly have never read Wealth of Nations (otherwise they would know all of the above) and have never read Moral Sentiments (otherwise they would know about how societies are dependent on the quality of justice and the moral behaviour of its participants). Homo economicus, a late 19th century invention, played no part in Smith’s thinking, yet is attributed to him by careless commentators.

Hence, Lost Legacy reacts to expressions of, albeit unintentional, lapses from those who refer to his political economy as if it would be at home with modern State-Capitalist societies. True, the nefarious behaviours of which in kind, in many crucial areas, have hardly changed from the mercantile fallacies of Smith’s time.

If they read Wealth Of Nations at all they would recognize how modern States pursue the same fallacious policies of ‘jealousy of trade’ – hostility to trading partners – and protectionism. Why does Europe, and the even larger US, require tariffs against poorer countries’ exports with a political passion that is as absurd now as it was when Smith wondered why there were hostile tariffs against the import of a few Irish cattle, when even if all of them were sent to Britain it would hardly affect the British meat market? This is why Smith’s general critical approach has resonance today, if quoted carefully.

The quotation from Professor Mark Skousen is interesting in this regard:

“The main character is Adam Smith…[His] captivating philosophy of natural liberty and the invisible hand rapidly became the central character of modern economics as the industrial revolution and political liberty exploded on the scene, and create a new era of wealth and economic growth over the next two centuries."

Adam Smith, like all moral philosophy students of Scottish Universities at the time, was introduced to Natural Law philosophy, as enunciated in a direct line, by 17th century philosophers, Grotius and Pufendorf, and by 18th century, Carmichael, and Hutcheson. Natural Law was and remains a set of ideas of jurisprudence (how civil governments ‘ought’ to be managed).

Natural Law was not a part of ‘laissez-faire’, though it is often confused with it, and, incidentally, Adam Smith never used the words ‘laissez-faire’, though he was familiar with them and what they meant from his contacts with the French Physiocrats (1764-66). He often refers to the natural law theories of natural liberty, which underlay his jurisprudential theory of individual rights. He was not, however, a purist and insisted there were justified exceptions to natural liberty Wealth Of Nations [WN II.ii.94: p 324].

I am not convinced that the origins, content and application of what Professor Skousen calls the “captivating philosophy of natural liberty” is understood by him when he goes on immediately to link it to “the invisible hand” as part of that same ‘captivating philosophy’. It wasn’t and isn’t.

Smith’s singular use of the metaphor of ‘an invisible hand’, mentioned only once in Moral sentiments (TMS IV.10, p 184), and only once in Wealth Of Nations, (WN IV.ii.9: p 456) was not a ‘theory’, captivating or otherwise; it was a literary metaphor that had nothing to do with markets. (See Lost Legacy, passim, for scores of explanations of the alleged role of ‘an invisible that are miscredited to Adam Smith.)

The ‘invisible hand’ was ignored by commentators on his books, including Malthus, Ricardo, Mill, and Marx, and was only joined to economics discourse when leading economists used it to beautify their theories of the triumph of their analysis from the mid-1950s.

Finally, I was not commenting on Rick’s sincerity, nor his enthusiasm for ‘capitalism’, which I may share, though I prefer freer markets to ‘corporate capitalism’, as I prefer Liberty to democracy (many of the world’s ‘democracies’ are alien to Liberty.

Non-History of a Famous Economist

Politonomist - Kelowna,B.C.,Canada, writes “A History of Famous Economists”, HERE:

“1776 marks the beginning of what most consider to be the birth of economics - the legendary Scottish Adam Smith publishes his lassiez-faire-supporting-invisible-hand-equilibrium work, An Inquiry into The Nature and Causes of the Wealth of Nations - colloquially known simply as, The Wealth of Nations. The work is unquestionably canonical in economics, so much so that one economist we interviewed bravely claimed “it’s more important than the Bible; even to non-economists!”

Smith, in the Wealth of Nations proposed a disproportionate number of ideas about the organization and performance of markets that survive today - nearly 300 years later, and an economic revolution or two after the publication. The concept of an “invisible hand,” which Smith barely even mentioned in his book, is widely associated with the text and Adam Smith himself. The invisible hand referred to the market structure that simply appears to organize itself, and, furthermore the simple organization of a market, even after a catastrophic or unexpected economic crash - generally returning itself to pre-disasterous state with no intervention by a greater body, whatsoever.

The book is a difficult read for modern economists, so much of the knowledge extracted from it is passed along to future economists through other, more modernized theories. At the time, there was no field of economics, there was no conception of “capitalism,” and feudalism was still a rampant force leftover from the middle ages in Europe. Much of what is discussed in the book makes very little sense in a modern context - but still, the concept of an equilibrium market, where various negative forces may be applied, generally from interventionism and negative economic situations, holds strong to this day.

Many economists question whether classical economics is truly the foundation for neoclassical economics based on a number of common rejections - particularly the development of Smithian value theory, where a distinction is made between market price and natural price. If, for example, neoclassical economics is the current development of classical economics - when did each start and end? Economic historians do clearly define these periods, focusing on the response to other rejections, as we do here."

Comment
Parts of this summary are almost correct; others are not correct at all.

“Adam Smith publishes his lassiez(sic)-faire-supporting-invisible-hand-equilibrium work, An Inquiry into The Nature and Causes of the Wealth of Nations”

Smith did not support ‘laissez-faire’, nor did he express an “invisible-hand-equilibrium work” (wrong on both the “invisible-hand” and on “equilibrium”).

Wealth Of Nations is not “a difficult read for modern economists”, unless they are illiterate. True, it is a different read to the common modern textbook because it is not an economic textbook.

“The concept of an “invisible hand,” which Smith barely even mentioned in his book, is widely associated with the text and Adam Smith himself. The invisible hand referred to the market structure that simply appears to organize itself…”

The invisible hand was not a concept – it was a metaphor – used only once in Wealth Of Nations, which at a stretch could be deemed to be “barely even mentioned”, though why “Politonomist” doesn’t just say “once” is surprising.

The invisible hand metaphor when used once by Smith did not refer to “market structure” at all, nor was it about a structure that “appeared to organize itself”. If anything it conformed to the arithmetic rule that the ‘whole is the sum of its parts’.

Smith’s writing on markets did not have “the concept of an equilibrium market”; it noted that the market price would ‘gravitate towards' natural price, sometimes undershooting, sometimes overshooting which is not an equilibrium. Prices are determined by the ‘higgling and bargaining’ of real people who are not governed by pure rational thinking – that’s why they ‘higgle and bargain’!

“Much of what is discussed in the book makes very little sense in a modern context” can only be believed if the author does not realize what the Wealth Of Nations was about.

Much of what Smith wrote about is still with us – the damaging role of the State in a commercial economy, when its legislators and those who influence them were guided by false doctrine of ‘mercantile political economy ‘ (still with us!), monopoly practices (still with us!), tariff protectionism (still with us!), problems of balancing the needs of public expenditure and the ability to bear taxation (still with us - perhaps even worse today!), wars for unimportant ends (sometimes still with us!), and meddling and unnecessary interventions in micro-management of people’s lives, under the influence of politicians (still with us, only more so!).

It is not clear what is meant by “the development of Smithian value theory”.

If it is meant to be the distinction Smith draws between ‘natural and markets prices’, then this may misunderstand what Smith was on about; basically the difference between how buyers and a sellers observe their interests to the value in exchange – buyers are not interested in a seller's costs, only in price; sellers are interested in their costs because price must cover their costs plus a profit.

If it is about Smith’s theory of exchangeable value, this is probably the most misunderstood element of Wealth Of Nations, mixed up as it often is with a supposed Labour Theory of Value, which Smith did not extend to commercial society because of the role of property once mankind left the forests.

Adam Smith cannot be understood by reading modern accounts of what he is supposed to have written, plus quotations from him at second, or tenth, hand, often out of context.

Politonomist should, I respectfully suggest, read Wealth Of Nations (and Lost Legacy).

Saturday Snippets

In MuniWireless HERE:

“EarthLink is back where it was - in good old dial-up - which continues to thrive in the United States because Americans are waiting for Adam Smith’s Invisible Hand and the miracle of the free market to bring high-speed (i.e. fiber) broadband service.”

Comment
They’re in for a long wait for metaphor, and ‘miracles’ anyway, according to David Hume, are ‘lies’.

Markets, on the other hand, are fully understandable phenomena and will work, assuming consumers want to buy what is offered for sale at the prices they are willing to pay, and the State and its search for ‘winners’, gets out of the way.

Crosscut.com (‘news of the great nearby’), HERE:

“Adam Smith’s invisible hand works best when the pickpocket’s hand isn’t also at work.”

Comment
The invisible hand metaphor doesn’t work at all because it is only a metaphor, not a real phenomenon. As for ‘pickpockets’, they are dealt with by the very real laws of justice that underpin all societies.

Booman Tribune (HERE):

"The invisible hand of Adam Smith seems to offer an extended middle finger to an awful lot of people"---George Carlin

Comment
When ignorance predominates, vulgarity asserts itself.

A Physicist Finds the Invisible Hand Ain't There

A book is reported on the credit books Blog (HERE):

“Dynamics of Markets or Perspectives on Positive Political Economy:
econophysics and finance” by Joseph L McCauley, Cambridge University Press, 2007

“Standard texts and research in economics and finance ignore the absence of evidence from the analysis of real, unmassaged market data to support the notion of Adam Smith's stabilizing Invisible Hand. In stark contrast, this text introduces a new empirically-based model of financial market dynamics that explains the volatility of prices options correctly and clarifies the instability of financial markets. The emphasis is on understanding how real markets behave, not how they hypothetically 'should' behave.”

Comment
Professor McCauley is Professor of Physics at the University of Houston.

Modern economists like laud it over its sister social sciences because they regard our discipline as being akin to hard sciences like physics and not part of the sloppier ‘word’ sciences like sociology, psychology, anthropology, and such like (though there is in fact a great deal of quantitative work using hard data in these 'inferior' disciplines).

Well, hubris is well known to be an uncertain friend, especially when physicists begin to look over the advanced mathematical texts of modern economics and find them ‘primitive’ compared to where the hard sciences have moved on to since the 19th century (where economics is still stuck).

The first sentence ("Standard texts and research in economics and finance ignore the absence of evidence from the analysis of real, unmassaged market data to support the notion of Adam Smith's stabilizing Invisible Hand") summarises brilliantly the obvious problem, which Lost Legacy warns about daily:

‘how does the metaphor of an invisible hand actually work?’, or, more pointedly, ‘where is the invisible hand in the equations of, say, general equilibrium?’

Of course, there isn’t any such role for the invisible hand in their equations, not just because it cannot be modeled, but because it was always a literary metaphor and not a variable.

Smith treated the metaphor as such (he lectured in rhetoric too), as did most of his contemporaries and readers through to the late 19th century, when political economy slid into naked economics and finally into pure mathematics in mid-20th century.

From this, its exponents and popularisers found in the lonely metaphor a lovely magical allusion to something sacred and ‘nice’ to justify their version of the efficacy of markets.

The intention was perfectly worthy; markets were under the assault of the Soviet/Chinese ‘alternatives’ of full state control; of leftwing social democratic governments in Europe nationalizing the ‘commanding heights’ of the economy, with ambitions for state planning, and the Cold War was in earnest (Khrushchev, remember, threatened to ‘bury’ capitalism).

Any edge that economists could offer that favoured markets was welcomed by those not enamoured by the prospect of socialist state planning.

But, by grasping at ‘invisible hands’, falsely crediting them to Adam Smith, still a revered name in economics, and sliding over the absurdity of the notion, contradicted many times in Wealth Of Nations (over 50 times in Books I and II) – when markets were corrupted they were done so by humans, including by ‘merchants and manufacturers’, let alone capitalist-state interventions – they left the discipline open to ‘the Emperor is bare’ refrains when the hard sciences took a look at what such notions actually implied. Like Joseph L McCauley they findd them wanting.

Human behaviour does not comply with the hard sciences of physics, chemistry, atoms, electrons, orbits of planets or galaxies, gravity and space travel.

Smith warned about such illusions anout how human behave in Moral Sentiments when he talked of people not complying like wooden chess pieces, which are moved about the chess board by the hand that moves them. People have “a principle of movement of their own”. (TMS VI.ii.2.17: p 234; 1972 ed. Kessinger Rare Reprints, p 207)

Socialists and social democrats have never understood or accepted that basic flaw in their reasoning.

The real beauty of markets is not that there is an invisible hand – they don’t need one, and Smith never said they did – but that they work without the need for central direction; they need only the coordinating signals from relative prices, and while there are flaws and defects in them (after all, they are operated by humans) they are much better than all known and tried alternatives.

Legislators and Outcomes Are Not as Intended

Steve Gilbert posted on the Sweetness and Light Blog (26 December), "What Has Been Obama’s Plan All Along?" HERE:

“It should come as no surprise, then, that we have a tendency to take our free-market system as a given, to assume that it flows naturally from the laws of supply and demand and Adam Smith’s invisible hand. And from this assumption, it’s not much of a leap to assume that any government intrusion into the magical workings of the market— whether through taxation, regulation, lawsuits, tariffs, labor protections, or spending on entitlements—necessarily undermines private enterprise and inhibits economic growth. The bankruptcy of communism and socialism as alternative means of economic organization has only reinforced this assumption. In our standard economics textbooks and in our modern political debates, laissez-faire is the default rule; anyone who would challenge it swims against the prevailing tide.

It’s useful to remind ourselves, then, that our free-market system is the result neither of natural law nor of divine providence. Rather, it emerged through a painful process of trial and error, a series of difficult choices between efficiency and fairness, stability and change. And although the benefits of our free-market system have mostly derived from the individual efforts of generations of men and women pursuing their own vision of happiness, in each and every period of great economic upheaval and transition we’ve depended on government action to open up opportunity, encourage competition, and make the market work better.”

Comment
I pass over the subject of the post about Obama; it is not relevant to my comments on the above two extracted paragraphs and I do not comment onm politcs in other countries.

The political economy summed in the extracts is only the media’s version of Adam Smith, who never linked his chapters on supply and “effectual demand” to anything to do with the metaphor of “an invisible hand” (only mentioned once throughout Wealth Of Nations). Nor was Adam Smith linked to ‘laissez-faire’ in his lifetime; he never used the words and, if anything, considered those who used them, such as the French Physiocrats in the 1760s, were too extreme in their ambitions for commercial economies.

Adam Smith never flinched from swimming “against the prevailing tide” (neither does Lost Legacy on these matters.) Hence , I am pleased that the first sentence of paragraph two, “It’s useful to remind ourselves, then, that our free-market system is the result neither of natural law nor of divine providence”, is so clear and unequivocal.

Why? Because the advocates of myths about Adam Smith and laissez-faire and invisible hands, quite often go on the link him to “the magical workings of the market”, a wholly superstitious assertion.

Markets did emerge “through a painful process of trial and error” but not via “a series of difficult choices between efficiency and fairness, stability and change”.

True, individuals may have made choices, but wholly without any ‘system’ of ‘equity, fairness, stability, and change’ in mind. All those sorts of assertions are a post-event reconstruction by ideologues.

As is the idea that “government action” opened up “opportunity”, encouraged “competition”, and made “the market work better”, which is so contrary to historical fact as to be breathtaking.

Elizabethan governments certainly intervened with 'good' intentions – to increase the pace of commercial changes in 16th century – but in almost (I may have missed some) every case the result of their legislative interventions (The Statute of Apprenticeships – for ‘quality’; the town Guilds – to ensure regular supplies of produce to consumers; and the Settlement Acts – to curb local burdens from beggars and ‘welfare’ scroungers) was the opposite and unexpected because they removed competition and didn’t increase it; the Guilds restricted competition and raised monopoly prices; and instead of settling people these laws prevented it.

Legislative intentions are processed by people and people have interests that can and do work against the intentions of the legislators, giving the legislators the benefit of the doubt for the sake of the argument (I reserve judgment on the intentions of those who influence them).

An Evolutionist Speaks Out About Economists' Pretensions About Science

Massimo Pigliucci, professor in the departments of Ecology and Evolution, Stony Brook, NY, contributes an important piece of work in the Blog,
Rationallyspeakingout.org (‘a site devoted to positive scepticism') (HERE):

“Economics learns a thing or two from evolutionary biology”

“Economics is supposed to be a solid discipline, founded on complex mathematical models (and we all know math is really, really difficult). They even give Nobel prizes to economists, for crying out loud! And yet, economics has always had to fight off the same reputation of being a “soft” science that has plagued sociology, psychology, and to some extent even some of the biological sciences, like ecology and evolutionary biology. Indeed, like practitioners in those other fields of inquiry, some economists admit of being guilty of “physics envy,” that is, of using the physical sciences as the model for what their field ought to be like. Turns out even the assumption that a good science should be modeled on physics is “flawed,” to use Greenspan’s apt phrase.

“A recent article by Chelsea Wald in Science (12 December 2008) puts things in perspective by asking how it is possible that so many smart people in the financial sector made irrational decisions over a period of years, despite clear data showing there was a problem, and eventually leading to a worldwide economic crisis that is at the least poking at, if not shaking, the foundations of capitalism itself.

Part of the answer is to be found in the persistent idea in economics that “markets” work because people are rational agents who act in their own self-interest and have perfect, instantaneous access to relevant information about the businesses they are considering investing in. Economists are not stupid, and they know very well that perfect rationality, complete information and instant access are all light years away from the reality of how markets operate. And in fact recent models have relaxed these assumptions to some extent. But it is so much more tractable to model things that way! After all, physicists do it too: remember those problems in Physics 101 that started “consider a spherical cow…”?

“Perhaps not surprisingly, there is another science that has been inspiring economists for some time now: evolutionary biology. The old “efficient markets hypothesis” underlying classical models is being replaced by the “adaptive markets hypothesis,” where Adam Smith’s invisible hand becomes more directly analogous to natural selection.”

”As evolutionary biologists have found out, natural selection is not an optimizing process, but a satisficing one, meaning that it produces whatever outcome happened to be achievable at a particular historical moment and that works “well enough” for the problem at hand. Moreover, it does so while “wasting” a lot of resources and often marching straight into dead ends (just think that over 99% of the species that ever existed went extinct). The emerging picture is much more realistic than the rationalist paradigm, but it sure is a lot more messy too.”

“There is another lesson to be learned from evolutionary biology that will not make economists, or the public at large, particularly happy: when complex systems evolve over time the paths they take is contingent on historical accidents (as opposed to being deterministic, like the laws of macro-physics, outside quantum mechanics). Sociologists, psychologists, ecologists and evolutionary biologists will readily tell their economic colleagues that it is certainly possible to explain past events (the extinction of the dinosaurs, the dot-com bubble) by the use of sufficiently complex causal-historical models. What seems to be out of reach, however, is precisely what economists want most: predicting the future, the hallmark of “good” science.”

“The moral of the story is that all of the above is not a failure of economics, sociology, psychology, ecology or evolutionary biology. It is the predictable outcome of the fact that these sciences deal with complex, historical systems, unlike much (though not all) of physics. The real assumption we need to get rid of is the highly persistent and pernicious one that physics is the golden standard by which all other sciences ought to be measured. Now if we only could convince federal funding agencies of that...”

Comment
What a breath of fresh air from Professor Massimo Pigliucci! I wish (more in hope than expectation) that fellow economists will read all of his article. But because there are large dollops of research-grant money – and even bigger salaries from financial institutions (and government agencies) – available to smart-talking economists, who tell the grant agencies exactly what they want to hear, there is a steady demand for the services of 'future predictors' and no amount of their constant failures to do better than tossing a ten-pence coin could do, will curb the willingness to believe those in the prediction business.

It’s at least as bad as the historians of the immediate past, when they already know what has happened, who cannot agree on what caused, led to, or contributed to whatever is the latest ‘fine mess’ we’re in.

The historical precedents for this quite silly state of affairs goes back to classical times, and almost certainly farther back than that. Romans believed in ‘omens’ and fortune tellers, and even great generals, who pitted their lives against formidable foes, eagerly listened to what soothsayers and mystics had to say about the next few hours in decisive battles.

Among economists, we have bought the unscientific myth that if we spend a century creating beautiful mathematical models of an imaginary economy, without people in all their complexity and unpredictability, and our competence is judged by our understanding of the model, but not the reality of real economies!

We are a ‘hard’ science and much ‘superior’ to ‘wishy-washy sociology, psychology and history, even though it is well-known that humans are not ‘well behaved’ like physical objects. We are not like wooden pieces on a chess board, as Adam Smith put it.

It is worrying too that just as more economists begin to realise that “the old 'efficient markets hypothesis' underlying classical models is being replaced by the 'adaptive markets hypothesis,' into which realisation, the oldest nonsense in modern economics (invented as a mass myth from the 1950s), is being re-introduced into the latter, under the guise that the metaphor of “Adam Smith’s invisible hand”, such that it is to be regarded as “more directly analogous to natural selection.”

Please spare us from this spurious nonsense; it’s bad enough that the proponents of the so-called scientific basis of economics have got away with their claims that the mystical disembodied body part was the ‘most important idea’ of modern economics, which is something that they never got from the texts of Adam Smith (see my paper: 'Adam Smith and the Invisible Hand: from metaphor to myth’, 2008 and downloadable from the homer page of Lost Legacy).

The myth of the invisible hand is a fabrication to support propaganda for corporate bodies to behave with all the monopolistic spirits and protectionism of the ‘merchants and manufacturers’ of his day, against whom Adam Smith railed in Wealth Of Nations because they persuaded legislators and those who influenced them (and they ‘bought’ not a few) to assist them in narrowing the competition and raising prices.

Follow the link to read Professor Massimo Pigliucci’s short article HERE.

Santa Clause and Invisible Hands

‘Chuck’ (claiming to be ‘a fictional character in a fictional on-line magazine’) writes the Chuckling (on line magazine) Blog, HERE:

“Annual Xmas post”

“Like you, we live in a superstitious nation in which the airwaves are saturated with references to all the worst sorts of mumbo jumbo. And children, you know, are very susceptible to that kind of nonsense, especially when they see it on tv.”

“The reality is that wars and recessions, boom times and depressions will come and go and Adam Smith’s "invisible hand" will continue to assure social results that are beyond the ability of a regular Joe to influence.”

Comment
Adam Smith’s so-called ‘invisible hand’ is a myth. It was manufactured in the mid-20th century from a single instance in Wealth Of Nations (1776).

It is a law of arithmetic that the whole is the sum of its parts, and in Smith’s case, the metaphor is about the consequence of individuals acting in accordance with their degrees of risk avoidance, to which he appended (once only) the popular 18th-century literary metaphor.

The mythical invisible hand sits well in a ‘superstitious nation’ when economic commentaries ‘are saturated with references to all the worst sorts of mumbo jumbo’, in which otherwise intelligent economists ‘are very susceptible to such kinds of nonsense, especially when they’ they hear it from Nobel prize winners who claim the authority of Adam Smith for its provenance.

Given what has been made Adam Smith’s singular use of the metaphor in Wealth Of Nations in Book IV, entirely absent from any connections to his clear explanation of how markets work in Books I and II, the widespread belief in the magical powers of ‘an invisible hand’ applied to markets is akin to believing in Santa Clause at Christmas.

Santa is a harmless enough mythical story to entertain little children, but such beliefs become a serious source of error when legislators and those who influence them believe in invisible hands, supposedly guiding people’s behaviours, especially when there exists a strong set of behaviours, well documented by Adam Smith, who warned of the power of certain behaviours to damage the very economies supposedly benefiting from them.

Merry Christmas readers.

Now back to grading exams…)

Neoclassical theories Do Not Explain How Modern Economies Function

‘Crisis papers: editorials and other articles’ posts (16 Dec) on Democratic Underground.com (HERE):

“Theory vs reality: why market absolutism fails”

“The Perfect Market"

”Neo-classical economists, and their political acolytes, are convinced that “free markets,” completely undisturbed by government interference, yield optimum social and economic results. For example:

“In the free market, the individual would have to produce a good that the other person desired in order to receive a good in return. Adam Smith's "invisible hand" of the market guides all participants in society to promote the best wishes of everyone else by pursuing his own wants and desires.” (Jacob Halbrooks)

To sum up: “Economic man” and “perfect markets” are abstract constructs which, due to their clarity and simplicity, allow theoretical economists to devise complex mathematical models. However, they have no counterparts in the real world, which compromises the application of these concepts in public policy.”

Comment
Overall, most of the criticism of neoclassical economics contents in the article I have written myself in Lost Legacy. However, there are caveats that I would make in case this is taken as my agreeing that criticism of neoclassical economic theory amounts also to criticism of markets in the real world. It most certainly does not; neoclassical economics is not the same as real world markets.

Markets are real; modern economics is a theory, and theory in social sciences should be judged by how it reflects the real world. The theory that the earth was ‘fixed’ and ‘unmoving’ at the centre of the solar system was ‘elegant’, increasingly complex (72 separate vortices to make things ‘fit’ badly), and also utterly wrong. Observations eventually corrected the foundational error. But the constituent elements making up the solar system were predictable and hardly changing, unlike the constituent elements making up an economy.

With markets, observations of how they ‘worked’ led to theories about them closely related to what was observed, and a ‘foundational’ theory about them, as in Adam Smith’s 'Wealth Of Nations’, appeared before mathematical theories about markets from the 1870s were applied, refined, and given a ‘life’ of their own in the 20th century.

Scores of the brightest economists from mid-20th century onwards detached from observing how markets were evolving from those that Adam Smith had written about and how they were changing. The theorists wrote increasingly complex models of how their models worked, not how markets worked. In time, the scores became thousands and they trained tens of thousands of students about the ‘beauties’ of the models of markets. Precious few of whom observed what was going on around them (they ceased to look outside their windows).

Long detached from the real world inhabited by real humans, economists refined their assumptions about 'Homo economicus', ‘rational behaviour’, ‘perfect markets’, ‘growth theory’ and ‘general equilibrium’, until they came to believe that their ‘as if’ models were true factually as well as ‘proven’ mathematically. Those who had the attention of legislators and those who influenced them, turned their abstractions into policy absolutes and have few claims to ‘making a positive difference’ in how the world performed – and in developing countries their performance record is not good.

That ‘perfect free markets’ as an abstraction had never applied as a reality, (Smith, for example, never used the words ‘laissez-faire’) was ignored; they became a principle assumption of policy, even though the active presence of ‘big government’ falsified assumptions about ‘perfectly free markets’. Worse, the manifest competitive failings of corporate giants, which needed attention on grounds of competitive justice, were vocally protected on the authority of prominent economists on grounds that any corrective intervention was an ‘abuse’ of ‘free markets’!

Even policies that were perfectly compatible with Adam Smith’s advice on how to deal with legislative abuses by some ‘merchants and manufacturers’ were resisted, aided and abetted by lobbyists of legislators and those who influenced them from interest groups funded by the same abusers. These real and powerful active forces in ‘free’ markets' do not appear in the equations of general equilibrium.

Worse, the theorists of modern economics, from the very top of the profession right through to the keenest, brightest, and most convincing of graduates of the top schools, truly believed (yes, with almost religious conviction) the metaphysical assertion of Jacob Halbrooks, as quoted above, namely, that ‘Adam Smith's "invisible hand" of the market guides all participants in society to promote the best wishes of everyone else by pursuing his own wants and desires’.

And they believe this nonsense despite the contrary evidence of exactly what Adam Smith said in Wealth of Nations (WN IV.ii.9: p456); they neither “look outside their windows”, nor read the books that they misquote from.

So, in the abstract world of neoclassical markets, they introduced into them a mystical, abstract, and wholly imaginary force that is their sole claim to the relevance of their abstractions for the real world, namely that “an invisible hand”, disembodied, ubiquitous and multi-talented, ‘leads’ each and every player to do exactly what they are required to do by a mysterious force (some actually credit it to God!) that guides their every transaction, of which there must be trillions taking place each working hour, irrespective of the outcomes, into a utopian perfect harmony. Not only is this wishful thinking; it is contrary to ordinary facts.

It’s nonsense, but unlike the harmless fun of the myth of Santa Clause visiting each child with presents once a year, the myth of an invisible hand is pernicious when economists, who should know better, come to believe that it exists as the guiding principle of markets.

I have sometimes felt, when addressing my peers with the gist of my paper on the invisible hand myth (downloadable from the Lost Legacy home page), that I am spoiling their party by pointing out that, like Santa Clause, it is a myth.

First of all, Adam Smith did not relate his use of the metaphor of ‘an invisible hand’ to market transactions; this was an invention of neoclassical theorists, aided by propagandists (some paid, others out of their misguided, convictions) for the activities of large corporations, which corner markets and act non-competitively, and in some cases destructively.

Added to the waste and destructiveness of big government, the combined effect of monopolistic corporations and bad government is an indictment of the economics profession’s inability to realize their shortcomings as the subject is presently constituted. Economists who understand how markets work in the presence of big government would have something worthwhile to contribute, but economists, who onlyunderstand how their models work in the abstract, fall far short of what is needed to guide policy makers.