Tuesday, October 02, 2012

Sad Nonsense About Adam Smith


Herman Royce (who has written: “Trouble is, profit for one cannot be made without loss for another”, suggesting a sad degree of economic illiteracy) is quoted saying that I know what your invisible hand has been doing
[At least I think it is Herman Royce who authored the rest, but maybe not …]
“Orthodox economics claims not only that market competition ‘optimally’ regulates prices, but that, left to pursue their own interests, people are often “led by an invisible hand to promote” the general interest.
The notion of a guiding Invisible Hand was conceived by Adam Smith over two centuries ago.
Adam Smith believed that, if free to pursue their self-interest, people generally behaved in ways that improved society; the greater the effort made for self-betterment and the more competitive the striving, generally the greater (more optimal) the public good.
Smith’s logic was based on the Law of $upply and Demand (L$D). Putting Smith’s reasoning into what it calls “more modern language”, a textbook explains it this way:
“Each person will be motivated by rational self-interest to employ the resources under his control wherever he can get the highest possible price. But high prices reflect scarcity of supply relative to intensity of consumer demands. Hence the private incentives will work continuously to overcome scarcity and meet consumer demands, i.e., to direct resources to the employments most suited for satisfying consumers’ desires.”
With L$D, Adam Smith’s Invisible Hand can be clearly seen (sic).
However, Smith identified three conditions that had to be met in order for the Invisible Hand to bless free enterprise with optimality.
Firstly, markets must be subject to ‘perfect competition’...
...But the second condition for an Invisible Hand requires more than simply perfect competition ― it must also be scrupulous.
...Smith’s third and final condition for the Invisible Hand: that governments maintain defence, justice, public works, and other economic affairs which, though desirable, do not provide commercial competitors with much or any profit. Clearly, Smith’s original conception of the Invisible Hand claims ‘optimality’ only for a limited domain involving maximised profits …
… Given that the assumptions necessary for its existence simply don’t hold, it’s not surprising that numerous economist luminaries (including Malthus, Ricardo, Keynes, and Marshall) have raised objections to the Invisible Hand…
Comment
This was never a “notion” conceived by Adam Smith; it was a simple metaphor for a specific case (there were other unspecified cases) of how some, but not all, merchants behaved in response to their fears for the “security” of their capital if they sent it abroad in foreign trade (Book IV of Wealth of Nations”).  Instead, they invested it in their “domestic market”.  The amount of their investment arithmetically added to domestic revenue, which was a public benefit.  It had nothing to do with “optimality”, or the logic of the “Law of Supply and Demand”, either of which were mentioned by Adam Smith in Book I where he discusses supply and demand. Nobody can “clearly see … Adam Smith’s Invisible Hand in the “law of Supply and Demand”.  He wrote extensively about supply and demand and never mentioned the “invisible hand” metaphor in his “extensive” discussion of supply and demand (Book I).
It is absolutely untrue to assert that “Smith identified three conditions that had to be met in order for the Invisible Hand to bless free enterprise with optimality”.  Smith did not assert as one of the imaginary three conditions that “markets must be subject to “perfect competition” (he never mentioned “perfect competition”).
Likewise with the supposed “second condition for an Invisible Hand requires more than simply perfect competition ― it must also be scrupulous”.  Again made up and not a quotation from Adam Smith.
The so-called “third condition for the ‘Invisible hand’ that “governments maintain defence, justice, public works, and other economic affairs which, though desirable, do not provide commercial competitors with much or any profit” is absurd beyond parody”.  For a start, governments (including those suppliers in the 18th century) purchase products and services from commercial markets, and we can rest assured these suppliers made profits from government purchases and commercial markets, then and now – otherwise they would cease supplying governments, as they would when supplying other commercial businesses.  So would their employees if they were not paid wages (otherwise known as slavery).
If the post’s author was remotely informed with the two occasions that Adam Smith used “an invisible hand” as a metaphor, once only in his “Theory of Moral Sentiments” (1759, Part IV, Chapter 1) and once only in his “Wealth Of Nations (1776, Book IV, chapter 2), he would know that on both occasions the existing conditions were nowhere remotely near “perfect competition”, negating the claims that Smith “identified” three conditions for its operation.  In Moral Sentiments, Smith’s reference is to a “proud and unfeeling landlord”, with absolutely no mention of commercial or any other markets; in Wealth Of Nations Smith’s reference is to a contemporary 18th-century merchant in Mercantile Britain where commerce was absolutely riddled with monopolists, tariff restrictions, prohibitions, severely uncompetitive labour laws and practices, trade Guilds, and the Navigation Acts that imposed a monopoly in favour of British shipping, policed by the Royal Navy.
These circumstances suggest that Herman Royce, or whoever wrote this nonsense, is so far off from accuracy that he doesn’t know what he writes about in respect of Adam Smith.  Also nonsense that "Adam Smith believed that, if free to pursue their self-interest, people generally behaved in ways that improved society" falls at the hurdle of explaining how "self-interested" domestic merchants "generally behaved in ways that improved society" when they always supported tariffs and prohibitions on foreign goods to narrow the market and raise domestic prices, - and often still do.
Moreover, some of the author’s language is more associated with adolescents than adults.  He even refers to ideas with “as much sense as roller skates for squids”, a childish and violent metaphor more relevant for describing his own efforts to sound impressive.
Follow the link if you must to read his piece in full.

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