Wednesday, March 16, 2011

A New Ally Joins the Struggle for Smith's Meaning of the Invisible Hand Metaphor

Wayne Norman. writes the interesting Ethics For Adversaries Blog (here):

“The Hesitant Hand: what Adam Smith did and didn’t say about government regulation, corporate lobbying, and CSR

I was pleased (OK, I was very pleased) to see how Wayne Norman assessed how modern economists have misread Adam Smith’s use of, and the meaning of, the metaphor of ‘an invisible hand’.

He is almost spot on in noticing exactly the context in which the IH metaphor is used in Wealth of Nations (WN IV.ii.1-9: 452-56). I say ‘almost’ because in support of his excellent argument he misses a small, but highly significant point, that would add traction to his own argument.

To explain: look at the part of paragraph 9 he quotes from:

As every individual, therefore, endeavours as much as he can both 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”.

Upon this, Wayne makes his main point:

But not only is it inefficient to restrict imports of goods produced more efficiently abroad, it is usually unnecessary. Business people prefer to keep an eye on their investments and to be able to trust the people they deal with, so they will naturally, even other things not equal, invest domestically”.

In short, Wayne narrows Smith’s concerns about the fact that some merchant traders are concerned with the risks to their foreign investments and thereby prefer to invest domestically. But this leaves open the case where some, perhaps many, traders still invest in foreign trade, despite the risks. And just as domestic investment gains from the investment of traders who invest domestically, it loses from the foreign investment of those traders who invest abroad.

The net effect of these investments, domestically or foreign, determines the arithmetic total of domestic investment, which is the indicator of which Smith considers is the potential public benefit of increased domestic investment that is led by “an invisible hand”, or, in this context, that is led by the risk aversion of some, but not all, traders.

It is not that “every individual” invests locally and the consequence follows, because clearly many individuals do not invest domestically, but those who do, have this effect.

In short, the “every individual’ statement, when taken as a general statement is incorrect both in the context of the paragraph 9, and the previous 8 paragraphs – Smith keeps referring to “domestick” investment – and therefore cannot mean that he refers to ’every individual” as a general rule – and it is incorrect in fact (Britain also exported abroad – and invested in the Royal Navy to protect its interests at sea).

However, I am more than happy to accept Wayne Norman’s formulation of the problem posed by the modern misuse of Smith’s use of the IH metaphor’ having made my point.

I shall also enroll Wayne Norman in Lost Legacy’s Roll of Honour for those who write to correct the errors of the epigones who invented the modern nonsense about Adam Smith on perfect markets, general equilibrium, and Pareto’s Welfare theorem.



Blogger Josh VB said...

Sorry, wasn't sure how to contact you. You've replied to my comment over at and I thought I'd come over to see who you are and realise that you know your stuff.

Your link from Adamsmith seems to have an extra .com at the end ( From what I can see on this blog it seems a shame that a lazy person reading might not make the minor effort needed toget here.


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