Tuesday, August 28, 2012

So Right About Adam Smith's Economics, So Wrong about the IH Metaphor

Anthony Brewer, 2007. “Let us Now Praise Famous Men: Assessments of Adam Smith’s economics”, Adam Smith Review, ed. Vivien Brown, No. 3, pp 171-86.
In his otherwise excellent account of Adam Smith’s economics, Brewer presents a comprehensive survey of Smith’s writings on economics, primarily in Wealth Of Nations, accompanied by the views of modern commentators, spread across books and journal articles.   It would provide anybody who wants to understand Smith’s economics a good starting grounding in the main topics with which Smith dealt.
However, Brewer’s understanding of Smith’s use of the “invisible hand” metaphor ends up disappointing.  He opens with quoting from Jerry Evensky (1993, 197) who makes the remarkable claim that the invisible hand ‘reflects our admiration for the elegant and smooth functioning of the market system as a co-ordinator of autonomous individual choices in an interdependent world’ (‘Retrospectives: ethics and the invisible hand’, Journal of Economic Perspective, 7: 197-205). 
Briefly, the second part of the sentence about the ‘market system as a co-ordinator’ had absolutely nothing to do with Adam Smith’s use of the IH metaphor; it may well be true that co-ordination is a function of the market system, but Smith did not use the IH metaphor in connection with markets.
Brewer next makes the assertion that William Gramp and Peter Minowitz were “wrong” to say that the “invisible hand” related ‘only to external trade”.  Now whatever Grampp claims it was about (“national defence”) or Minowitz went to say about it, which may have been wrong, Smith related the IH metaphor to the preference of some, but not all, merchants for “domestick trade” because of their felt insecurity with the “foreign trade of consumption”.  That is beyond any doubt (WN IV.ii.9:456).  In that specific case, Grampp and Minowotz were absolutely right to say that Smith was referring to the consequences of the decision to avoid foreign trade, always bearing in mind that many merchants at the time (and ours) engaged in the “foreign trade of consumption”, including “shipping”, and Smith considered it to be appropriate that they did so.
Brewer quotes from the same paragraph and misses Smith’s point.  He acknowledges that “the home investment is more secure” (some merchants agreed) and asserts that “some people invest in a way that maximises revenue, and net revenue” and that that this will “ensure that the general gain … will accrue to the home country” (172).  But what Brewer does not do is follow Smith’s use of the IH metaphor, namely such merchants whose insecurity is the motive that leads them: “they are led by an invisible hand to promote an end which was no part of [their] intention” and that in so doing, from “pursuing his own interest [his security] he frequently promotes that of the society” (WN IV.ii.9: 456).
His insecurity promotes a course of action – avoid foreign trade – and his capital when invested locally adds to annual “revenue and employment” as a consequence – the whole of domestic investment is the sum of it contributory parts.  It is a pure, indeed lowly, arithmetic relationship.  Nothing else! There is nothing about markets, co-ordination, general equilibrium, or such like.  The IH metaphor was about some, but not all, merchants being “led” by their insecurity to unintentionally cause higher “annual revenue and employment”, and the unintended consequential rise in annual revenue would promote growth in employment and real wages, as Smith noted elsewhere.  These were public benefits.
It was not an argument for restricting foreign trade, as some modern commentators would have it.                                  Smith supported tariff free trade, without protectionist and prohibition-type restrictions.   Buying from abroad exchanged domestic for international goods, and at lower prices than they could be manufactured or grown domestically, this released capital stock and employment for investment in those domestic trades where a country had an absolute advantage over foreign countries (ideas of comparative advantage were due to Ricardo, 1819). Given Britain’s dependence on foreign trade, it required a strong Royal Navy to keep its trade routes open, and Smith supported the highly trade restrictive Navigation Acts for that reason – ‘defence is more important than opulence’, he wrote).


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