Sunday, September 25, 2011

Adam Smith on Bargaining

[I am in France for a couple of weeks closing our house for the winter, and found on my Mac book a piece I was writing in the summer. I cannot recollect whether I posted it on Lost Legacy – a scroll back was inconclusive. Readers may remember that we left in a great hurry because of an emergency with a daughter’s pregnancy (Florence and baby Alexander are doing fine – the boy is now a healthy 8lbs 13oz; his mother is joyful and tired)].

However, here is the un-posted piece:

The famous and frequently quoted passage of ‘the butcher, the brewer, and the baker’ (WN I.ii.2, pp 26-7) as a dominating force in exchange, together with the well-known passages about the invisible hand, have given rise to a too narrow and biased perception of Smith’s thought within neoclassical economics, either distorting or simply ignoring his moral views” (Montes, 2004, 56).

Leonidas Montes is on the right track here and if we unpack his paragraph we can see why.

There is no doubt that this paragraph is both a “famous and frequently quoted” passage, though in truth I would add that it is as frequently misunderstood as it is quoted. In fact, I would go so far as to assert that I have only found one reference to an accurate, and thereby promising, account of what Adam Smith was actually saying in this passage, and that this gem came from an unpromising and unpretentious 19th-century source:

It has been customary to describe Political Economy as the dismal science , as the gospel of selfishness. In the hand of Ricardo and his disciples, Political Economy was certainly gloomy enough, and its gospel forbidding; but Smith’s conception of economic science as it did the co-operative and sympathetic side of life, was eminently hopeful and enervating. His view of the industrial order was wide enough to give full play to that subtle psychological chemistry by which egoism is transmuted into altruism. In Smith’s word: ‘In civilised society man stands at all times in need of the cooperation and assistance of great multitudes, while is whole life is scarce sufficient to gain the friendship of a few persons.’ In such a state, as Smith goes on to show, man can most satisfactorily connect himself to his fellows through the medium of the reciprocity of services – a process which invests self-interest with a social and ethical quality. From this social and ethical germ develops all the higher virtues of civilisation.” (Macpherson, H.C. 1899. Adam Smith. Famous Scots Series, Oliphant Anderson & Ferrier, Edinburgh).

The ‘butcher, brewer, and baker’ passage in Wealth Of Nations says exactly the reverse meaning to that which is commonly attributed to it by most modern economists (we cannot blame them alone because that is what they were taught by their tutors, themselves taught by their tutors – none of them bothering to read the passage carefully enough).

Yes, it is about self-interest; however, it is not about approaching the acquisition of your dinner, or of supplying it, solely dominated by consideration for one’s own self-interest. Far from it! The passage Wealth Of Nation, Book I, chapter 2, p 26-7) specifically states that one should not appeal to one’s own self-interest in attempting to conclude a bargain with the ‘butcher, brewer, and baker’, or anybody else for that matter, but we must address the self-interest of the other party.

He has already defined the nature of a bargain a few lines before the famous passage: ‘Give me this that I want, and you shall have this that you want’. This is the conditional proposition in the form: 'If you give me this, I shall give you that' (If-THEN).

Bargaining is an exchange, not something for nothing. To get some of what we want from someone, we have to give them some of what they want in exchange. The amounts that are exchanged are variable (negotiable). Moreover, we must address their self-interests (self-love), and definitely not only ours. The self-interested egoist is more likely to be disappointed and deservedly so.

Negotiation exchanges between to self-interested egoists are likely to end in deadlock, but negotiated exchanges between self-interested persons who are also other-regarding, which is the essence of Smith’s advice to those seeking the contents of their dinner from others, are likely to be rewarded.

Why readers of Adam Smith's Wealth Of Nations and his Moral Sentiments cannot get that right is itself a mystery, as I regularly found in many years taking of literally thousands of managers through negotiation courses at the Edinburgh Business School.



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