Friday, January 08, 2010

A New Slant on the Invisible Hand

Susan McWilliams writes a review of "Methland: the death and life of an American smalltown" by Nick Reding in Front Porch Republic HERE

"The Book You Should Read This Year"

“In this book we see corporations work with governments, again and again, to prevent legislation that would stem the flow of methamphetamine across national borders. So the national interest in, say, regulating the importation of pseudoephedrine, a key ingredient in meth production, is deemed not as important as the pharmeceutical industry’s desire to avoid regulations at all costs. (Reading all this, it is worth remembering Adam Smith’s own explanation of the “invisible hand” mechanism begins with the assumption that actors are all “preferring the support of domestic to that of foreign industry” – an assumption that is questionable at best in the era of the global corporation

Extraordinary that we should read in a book review something I have never (yet) read in a serious article on economics about the context in Wealth Of Nations where Adam Smith uses for the once and only time the metaphor of ‘an invisible hand’.

This speaks volumes of the quality of the economics profession on what is surely now the main, if not the only, idea that readers worldwide – and well beyond the discipline of economics – know about Adam Smith.

Smith’s example is in paragraph 9 of chapter 2, Book IV of Wealth Of Nations, page 456, and discusses a consequence of some, but by no means all, British merchants prefering to trade locally rather than take the higher risks of trading abroad with Europe or the British colonies in North America, the Caribbean, Africa and India.

These overseas trading partners were risk-tolerant and represented a significant share of annual trade and, in Smith’s view diverted significant amounts of capital abroad, while these merchants who traded locally were risk-averse.

Smith concluded his analysis with his reference to ‘an invisible hand’ leading the local merchants to invest locally and thus contribute to domestic output and employment (the whole is the sum of its parts). Clearly, the other merchants trading abroad did not contribute to domestic output and employment to the extent to which they would have if they were as risk-averse as those following the ‘invisible hand’.

Viewed as Smith actually wrote about the invisible hand, it hardly qualifies as his most notable idea or as a general ‘proof’ that people following their self-interest unintentionally benefit the economy (in some versions today it is claimed that they perform a public service no matter what their motives).

Susan McWilliams does a great service to her readers, I hope some of them notice her reference to the invisible hand in, or at least close to, its proper context.



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