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Natural Order, Harmony, and Laissez Faire

The economics of Adam Smith and the mercantilists share certain basic elements. Influenced by developments in the physical sciences, the mercantilists and Smith believed that it was possible to discover the laws of the economy by means of hard analysis. Matter-of-fact, cause-and-effect relationships, they believed, could be revealed through scientific investigation. Smith also assumed the same things about human nature as the mercantilists: human beings are rational and calcu­lating and largely driven by economic self-interest.

One difference between Smith's system and that of most mercantilists was his -v assumption that, for the most part, competitive markets exist, and that within these markets the factors of production move freely to advance their economic advantage. A second difference was the assumption that a natural process at work in the economy can resolve conflicts more effectively than any arrangements devised by human beings. Smith expressed this beneficent working of market forces in the following passage:

As every individual, therefore, endeavours as much as he can to employ his capital in the support of domestic industry, and so to direct that industry that its produce may be of the greatest value, every individual necessarily labours to render the annual revenue of the society as great as he can He generally, indeed, neither intends to promote the public interest, nor knows how much he is promoting it. By preferring the support of domestic to that of foreign industry, he intends only his own security, and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention Nor is it always the worse for the society that it was no part of it. By pursuing his own interest he frequently promotes that of society more effectually than when he really intends to promote it I have never known much good done

by those who affected to trade for the public good. It is an affectation, indeed, not very common among merchants, and very few words need be employed in dissuading them from it.4

The syllogism from which Smith drew his major policy conclusion is very simple. Human beings are rational and calculating and driven by self-interest. If left alone, each individual will follow his or her own self-interest, and in promoting self-interest promote the interest of society. Government should not interfere in this process and should therefore follow a policy of laissez faire. Throughout his book Smith pointed out how private self-interest will lead to the public good in a nonregulated market economy. The key to understanding how some degree of harmony and good proceed from conflict and self-interest lies in the activities of the capitalist. Smith showed that capitalists are driven not by altruistic motives but by a desire to make profits—it is not as a result of the benevolence of the baker that we get our bread. The capitalist views the market in terms of final goods and, in order to increase revenues, produces the commodities that people desire. Competition among capitalists will result in these goods' being produced at a cost of production that will return to the producer an amount just sufficient to pay the opportunity costs of the various factors. If profits above a normal rate of return exist in any sector of the economy, other firms will enter these industries and force down prices to a cost of production at which no excess profits exist. Capitalists will bid for the various factors of production, offering higher prices for the more productive factors and thereby channeling labor and land into those areas of the economy in which their efficiency is greatest. Consumers direct the economy by their dollar votes in the market; changes in their desires are shown in rising and falling prices—and, consequently, rising and falling profits. Smith concluded that it is wonderful how the market, without planning or governmental direction, leads to the satisfaction of consumer desires at the lowest possible social cost. In the terminology of modern economics, he concluded that an optimum allocation of resources occurs in competitive markets without government intervention.

Date: 2015-02-03; view: 914

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Contextual Economic Policy | The Working of Competitive Markets
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