Adam Smith's Economics of Freedom; J. Montgomery

John Montgomery ADAM SMITH'S ECONOM'IICS OF FREEDOM THE REPUTATION of Adam Smith's The Wealth of Nations has survived its bicentennial, which is not always the case with anniversaries of weighty scientific or literary works. But Smith's portrayal of the free market economy remains the cen terpiece of economic theory, often challenged but never replaced. And, even after the passage of more than two centuries, it clearly speaks to the economic dilemma of today. To start with one misconception, economics did not begin with the great 18th-century Scotsman, Adam Smith. Economic thought can be traced back through St. Thomas Aquinas all the way to Aristotle. Nor was Smith the first economist. In his time there was a group of theorists in France which antici pated some of his ideas. They are now known as the Physiocrats, ex cept that they called themselves Mr. Montgomery is a newspaperman and writer on socioeconomic issues who lives in Closter, New Jer sey.

economistes. In England at the time many pamphlets, tracts and books on economic questions were being written by businessmen, bankers and scholars of various sorts. The domi nant point of view then, Mercantil ism, thought of economics as strat egy in the comp~tition among trading nations. This fiJist epoch of the "sci ence" of economics did not begin with Adam Smith; it culminated in him. What Smith did in the watershed year of 1776 wa~ to come out with a great tome of a thousand pages with the abridged title of The Wealth of Nations. In time it was to become a blockbuster in eConomics and it has been called one of the world's truly great books. Wh.at Smith did in the book was to survey all the scattered ideas and writiDjgs about economics before him and· then assemble them into a coherent whole which, for the first time, compelled the recognition that economics was and deserved to be a single, speeial field. In Adam Smith political· economy, as it was 48 THE FREEMAN January known then, was the beginning of modern economic thought.

The complete title of his book was An Inquiry into the Nature and Causes of the Wealth ofNations, and that well describes his point of de parture. Economic debate in the 18th century focused on the source of na tional wealth. Was it agriculture, labor or commerce? The answer sug gested by the quickening of business activity in England at the time was commerce. Not Just Precious Metals, But All Items of Commerce The Mercantilists held that wealth was gold and silver, mostly acquired in foreign trade. But Smith saw it differently: Wealth was the nation's production of the "necessaries, com forts and conveniences of life" or, as he also put it, the "annual produce of the land and the labor of the peo ple." This is what is now called GNP, gross national product. As for the source of this wealth, Smith started with what economists would call a "labor theory of value." For Smith and his followers, and for all Marx ists to this day, human labor was the ultimate source of wealth.

Smith pointed out the great in crease in human productivity yielded by what he called the "division of labor ," that is, the growing practice of splitting up the job of making something into separate tasks as signed to different workers. In effect, he was describing an early stage in the development of mass produc tion and, to illustrate it, he chose the pin factory of his time. He asserted that "... a workman not educated to this business ... nor acquainted with the machinery em ployed in it ... could scarce, per haps, with his utmost industry, make one pin in a day, and certainly could not make twenty. But in the way in which this business is now carried on ... One man draws out the wire, another straights it, a third cuts it, a fourth points it, a fifth grinds it at the top for receiving the head; to make the head requires two or three distinct operations; to put it on, is a peculiar business, to whiten the pins is another; it is even a trade in itself to put them into the paper; and the important business of making a pin is, in this manner, divided into about eighteen distinct operations, which, in some manufactories, are all per formed by distinct hands, though in others the same man will sometimes perform two or three of them. I have seen a small manufactory of this kind where ten men only were em ployed, and where some of them con sequently performed two or three distinct operations. But though they were very poor, and therefore but indifferently accommodated with the necessary machinery, they could, when they exerted themselves, make among them about twelve pounds of pins in a day. There are in a pound 1982 ADAM SMITH'S ECONOMICS OF FREEDOM 49 upwards of four thousand pins of a middling size. These ten persons, therefore, could make among them upwards of forty-eight thousand pins in a day."

Thus, Smith made his point about the productivity realized by means of the division of labor-and in a small shop employing ten men at the very beginning of the Industrial Revolution. Smith went on to describe how the division of labor operated not just in a shop or factory but also in a whole national economy made up ofdiverse, 'specializing firms and industries in the different localities and regions, taking advantage of local differ ences in climate, soil, location, nat ural resources, the characteristics of the local population: all of those things which can make possible more efficient and lower-cost production of particular goods than can be ac complished elsewhere. And, simi larly, Smith described an interna tional division of labor in the production of commodities for for eign trade among the diverse na tions and regions of the world. EconomicGrowth From that starting point, Smith went on to describe the system of production of goods in a national economy and outlined what he con ceived of as the forces which led to the "progress of opulence," or what today would be called economic growth. He saw the production of material wealtfu, that is, of goods, as requiring thre~ things: the division of labor, the widening and extension of markets for!the goods produced, and increasing ,"stock," his term for production equipment, machinery and working capital.

In Smith's scheme, it was the ac cumulation of capital which led to the progress of opulence from an ag ricultural econpmy to manufactur ing to commerce. The resulting in creased output of food and other goods necessary to life permitted the survival of a larger population which, in turn, meant further extension of markets, a larger and more skilled labor force, and further accumula tion of capital. ,In this way he saw the economy spiraling to higher and higher levels of development, rais ing the whole sQcialorder with it. It was an optimistic, almost buoyant view which was largely justified by the times he lived in but was not to survive its author by very long. It was Adam, Smith's description of how a mariklet economy worked which was the! starting point of a complex theoretical system which would become. the new "science of economics." HiE? theory of markets would be elaborated and refined by economists throughout the 19th century, and it bas remained center stage in the 20tb century, at least in the negative se~se of growing dis agreement and retreat from it after 50 THE FREEMAN January the debacle of theory in the Great Depression. But the theory of mar kets is too central a part of econom ics to be quickly set aside, and much of modern economic debate has amounted to repeated attempts to dislodge it in favor of corrective or alternative formulations.

Market Pricing In effect, Smith conceived of the economy of a nation as one vast whole with immense internal com plexity but with interaction and in terdependence, of internal forces which were self-adjusting and self regulating. In Smith's scheme the market was not a place but the to tality of exchanges-that is, of buy ing and selling-of the products of all the different occupations and in dustries in the national economy. At the center of this were prices, con stantly changing in accordance with the laws of supply and demand and, in turn, balancing supply and de mand not just for goods but for the resources, both human and ma terial, needed to produce them. As for those resources-land, la bor and capital, needed in varying proportions to produce each good their prices, mediated by supply and demand, directed them to those places and those employments where they would produce the most for the economy and the population as a whole. Of course, money spent by one person iS'money received by another. So, in Smith's system, those prices were also income: rent for the landlords, wages for laborers, and profits for the capitalists and busi nessmen. These people, making up the three great classes of the popu lation of Great Britain in his time, divided up the total income gener ated by the national economy, which amounted to the prices paid for all of the goods and commodities produced-that is, for all the "nec essaries, comforts and conve niences" of the people, the sovereign consumers for whom the system op erated.

The Role of the Businessman In Smith's market theory people were not only the beneficiaries but the moving parts of the system: householders, workers, farmers, land owners, manufacturers, merchants and traders, all of them rational eco nomic men (and they were almost solely male at that time) who were free to pursue their own gain, the best return for their own contribu tions to the economic life of their communities and the country. To Smith, the key to the success of the system was the capitalist business men, whom he referred to as "under takers," in the sense that they were the ones who undertook business ventures. For it was the "undertakers" who coordinated the movements and combinations of all the other participants in the econ1982 ADAM SMITH'S ECONOMICS OF FREEDOM 51 omy for their best possible employ ments under existing conditions. Smith mistrusted businessmen. In one of the best known passages in his book, he wrote: "People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a con spiracy against the public, or in some contrivance to raise prices." But he gave them credit for being the sav ers who accumulated capital for new business ventures, without which there would be no economic growth.

He wrote that in contrast to the workers, who were forced to spend all they earned on the necessaries, and the idle rich, who squandered their incomes on the comforts and conveniences, the capitalist busi nessmen put off immediate spend ing for consumption to some extent and set aside part of their profits for investment in future undertakings, with no guarantee that the capital they risked might not be lost in an unsuccessful venture. Mobilityand Competition Smith set forth two linked and in dispensable conditions to be met if the economic system he described were to work: There must be free movement for all in the system so that each man might seek the best opportunity for his labor or re sources. And there must be free competition among all, for the buyer's shilling, for markets, for labor and for jobs. There must be no monopolies or icombinations in re straint of trade or limiting entry into new fields,:and no government granted privileges for a favored few.

Smith railed a.t! the dense thicket of government regulations and restric tions of his time, which he saw as preventing the :fluid and free move ment of men and capital throughout the economy that was necessary for prosperity and growth. Smith sensed, an order in the eco nomic universe:, not imposed from above but somehow the outcome of the almost infinite number of trans actions in the e~change economy. It has been said that the nature of this order was the "mystery" he set out to solve in his book. Instead of gov ernment directit1>nof the economy as the source of that order, Smith came up with his famous metaphor of the "invisible handJ" It was, he wrote, as though there were an invisible hand directing the efforts of every one-even though each man was pursuing his own gain-in a way that promoted the interests of soci ety as a whole. As a man of his time, Smith was a deist, and it was the hand of Provi dence he meant. It was not that he thought the invi~ible hand was tug ging on puppet strings to guide the economic behavior of each individ ual. To Smith, ,the invisible hand was a metaphor for the workings of the market economy in the setting 52 THE FREEMAN January of the institutions of political and economic freedom. It was Provi dence' he thought, that had en dowed mankind with the capacities and propensities which made possi ble such a society and such a system.

Today, what Smith called the invis ible hand might be thought of in cy bernetic terms as "feedback loops" for example, as market prices being regulated by negative feedback. Smith knew, of course, that his ideal of the invisible hand operating in a completely free, purely compet itive market economy was never a very realistic picture of an economy in the real world. But he contended that the more nearly the ideal was realized, the better the economy would work. And it was that ideal which was the unifying concept he applied to the wilderness of eco nomic phenomena to reveal an un derlying order. A Self-Regulating Arrangement By now the idea of the self-regu lating economy is a familiar one, whether accepted or not. And many of the elements contained in the idea had been described before Smith put them all together. But how did he come up with the whole "vision" and where did he get it from? In effect, it was already at hand, in the climate of opinion and generally held ideas of that time---,.although in a differ ent context.

In Smith's time the burgeoning commercial society of England was beginning to generate the Industrial Revolution, that great outburst of inventions which meant the end of the old system of hand-crafted pro duction and ushered in the modern age of mass production in factories equipped with power-driven ma chinery. England was harnessing water power and steam. Soon to come were the giant textile mills in the north of England where uprooted country people, and their children, tended looms which disgorged im mense quantities of cotton cloth for new world markets. In its "satanic mills," capitalism was to produce enormous quantities of goods and amass hitherto unattainable wealth-as well as great fortunes for a few. It was this great national wealth which, in effect, bought and paid for the British Empire, financing the Royal Navy, the troops and the co lonial administrations which would rule one-third of the world. But there was a vital question posed by capi talism, although the word was not yet then in currency. How was this incredible machine to be controlled?

It was showing signs of becoming a juggernaut. Smith had been professor of "moral philosophy" at Glasgow University in Scotland. Economics or, rather, political economy as it was known at the time, was still a branch of moral philosophy, which corre1982 ADAM SMITH'S ECONOMICS OF FREEDOM 53 sponded to the social sciences of to day. Besides moral philosophy there was natural philosophy, the physi cal sciences. The "Age of Enlightenment" Eighteenth-century philosophers, in the "Age of Enlightenment," be lieved they were beginning to make sense of the world in the light of sci entific thought, which had erupted in the century that preceded them. In the 17th century Isaac Newton's theoretical physics with its concept of the physical universe as a me chanical system and its theory of the "natural laws" of the movements of the heavenly bodies had seemed to show a harmony in nature, a cosmos with all its parts reliably perform ing their appropriate functions in the overall smooth working of the whole.

Inspired by that concept, the men of the Enlightenment believed there were also natural laws governing man's behavior. The social and moral sciences of that time were finding in the world of man the possibility of a similar, harmonious human-social cosmos, a world of free individuals pursuing the satisfaction of their natural desires and in so doing act ing in ways that would fit into an orderly system of natural social pro cesses. But, outside of the libraries and studies of the scholars of that time, there was change, ferment and disorder all around. The iron con straints of mediJevalsociety had long since given way, and the Protestant Reformation had rejected the abso lute authority Qver the individual of God's church. The people were be ginning to ask questions about their lot; there was'·a growing clamor for personal liberties and a chance to get in on the new opportunities to make money .• !The social philoso phers of the 17th century were forced to confront some less than theoreti cal questions: How does social order emerge from the potential chaos of an individualis~ic society? Is there a natural social. order? What should be the role of government?

By Adam Smith's time in the 18th century these questions had brought an answer: a theory of liberal de mocracy which ~as believed to rest on natural law like the laws of the physical world .•The theory harked back to the philosopher John Locke in the previous'· century and, along with many others, was advanced in Smith's time bylhis close friend and fellow Scottish .philosopher, David Hume. According to ~he theory, each in dividual was a:part of nature and therefore was e~dowed with "natu ral" rights: to life, liberty and prop erty. Further, he was endowed with God-given capaqitie§ and propensi ties which would flower in a society that served the ]Pest interests of all. To realize that society, a political 54 THE FREEMAN system of the rule of law rather than of a few powerful men was required. The laws would provide even-handed justice, personal freedoms, minimal government, private property, the sanctity of private contracts, eco nomic freedoms, and free trade, both domestic and foreign. In the kind of society made possible by such laws, free men would both compete with and cooperate with each other, ex ercising their rights to pursue their own visions and, at the same time, respecting the rights of others.

ClassicalLiberalism This doctrine of classical liberal ism was patterned after Newton's concept of the physical universe as a mechanical system embodying "nat ural laws"; the doctrine amounted to a similar vision, that of a human social system also embodying natu ral laws. And, in much the same way, what Smith did in his theory of a liberal economy was to pattern it, too, after Newton's system, using quasi-gravitational mechanics to explain the workings of a self-regu lating market economy. What made it possible for Smith to do this was his encyclopedic knowledge of eco nomic history and his authoritative mastery of the economic life of his own time, which he described in re alistic and convincing detail. Classical liberalism provided the vision for political and social re forms in England for two centuries. By the 20th century that time had largely passed in England and in the rest of Europe where intellec tuals and social reformers were con vinced by Marx's dissection of capi talism and excited by the utopian spell of socialism. But the Founding Fathers of this country were very much men of the Enlightenment and it was the ideas of classical liberal ism as expressed in the Declaration of Independence and the Constitu tion that gave shape to the Ameri can republic and have been the foundation of our liberties ever since.

On publication, Adam Smith's great tome was well received by his fellow scholars both in Britain and abroad. But government, under standably, was in no hurry to take its advice, with one notable excep tion: The younger Pitt, to become George the Third's prime minister, was deeply influenced by the book as a student and would be the first English statesman to be converted to the doctrine of free trade. Smith's death in 1790 attracted little notice. But the influence of his book continued to grow. By the time another 20 years had passed, his readers had become his followers and successors, and had established him as the father of classical economics. His· book routed the Mercantilist ideas that had prevailed in his life time and for a while virtually blot ted out the memory of those who had come before him. (i William Henry Chamberlin Some MistakeS of Marx "The evil that men do lives after them." This maxim applies with sin gular force to the work of Karl Marx.