A Look at Adam Smith

The Wealth of Nations – Book IV – Chapter 2

Adam Smith (1723-1790) is considered to be the founder of modern economics. He was born in Kirkcaldy, Scotland.  He studied at the University of Glasgow and Oxford University. His major book An inquiry into the Nature and Causes of the Wealth of Nations which was published in 1776 demonstrates the benefits of freedom in the economic realm. No study of freedom could be considered complete without a study of the economic realm for this is where overwhelmingly we practice freedom.

Adam Smith is commonly considered to be somewhat difficult to read. He, himself admits this on page 42 of The Wealth of Nations:

I am always willing to run some hazard of being tedious in order to be sure that I am perspicuous; and after taking the utmost pains that I can to be perspicuous, some obscurity may still appear to remain upon a subject in its own nature extremely abstracted.  (Book 1 – Chapter 4 – Last Paragraph)

In this blog we will take a look at several paragraphs which I have taken the liberty to paraphrase (mixed with some quotes) in order to get a feel for some of the philosophy of this man. Links are provided for you to examine the actual words from Adam Smith. If I have misrepresented anything in your opinion please let me know.

– Gary

*** Paraphrase ***

A society’s level of industry is restricted by the amount of capital that can be put to work.  Just like the number of workmen that an individual can employ relates to the employer’s capital, so the number of workers a society can support relates to the total capital of the society.  “No regulation of commerce can increase the quantity of industry in any society beyond what its capital can maintain.” Regulation will only divert the commerce in a direction that it would not have gone otherwise.  There is no solid indication that society is better off because of this artificial change of direction.   ==>Link IV.2.3

Each one of us is concerned primarily with how to find the best way to derive income from the resources at hand.  We look for our own advantage not the advantage of society.  By competing to achieve our own advantage we naturally end up providing the best value for society.   ==>Link IV.2.4

First, each individual employs his capital near home where he can watch it.  Assuming that the profit from doing so will be equal or at least not a lot less than what would be received from distant trade, this supports local industry as a by-product rather than as  a primary intent.   ==>Link IV.2.5

Thus, if the profits are equal or nearly equal, “every wholesale merchant naturally prefers the home-trade to the foreign trade of consumption, and the foreign trade of consumption to the carrying trade. In the home-trade his capital is easier to manage than in the foreign trade of consumption. “He can know better the character and situation of the persons whom he trusts, and if he should happen to be deceived, he knows better the laws of the country from which he must seek redress.” In the carrying trade, the capital of the merchant is, as it were, divided between two foreign countries, and no part of it is ever placed under his own immediate direction. This will tend to encourage him to bring his goods home and perhaps sell part of them there. This takes place even though this subjects him to a double charge of loading and unloading, as well as to the payment of some duties and customs. “A merchant, in the same manner, who is engaged in the foreign trade of consumption, when he collects goods for foreign markets, will always be glad, upon equal or nearly equal profits, to sell as great a part of them at home as he can. He saves himself the risk and trouble of exportation, when, so far as he can, he thus converts his foreign trade of consumption into a home-trade.” The convenience of home-trade helps support the local industries more than foreign trade does.  Although this home-trade employs local employees, this advantage occurs as a secondary benefit not as the primary reason for engaging in the home-trade.   ==>Link IV.2.6

Secondly, everyone who puts his capital in domestic industry tries to manage that industry to get the greatest possible value.   ==>Link IV.2.7

The purpose of industry is production or value creation.  The profits to the employer are proportional to the value created.  Capital will therefore be used in a manner to create the most value to be exchanged for the greatest amount of money or other goods.   ==>Link IV.2.8

The annual income of a society equals the exchangeable value of that which is produced by its industry.  Besides working for his own gain, the efforts of each individual enrich the society to which he belongs.  The benefit to society is not intentional therefore it is as if there is an invisible hand making his efforts which he exerts for his own good work for society as well. “By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.” Not much good is actually done by those who give the appearance of promoting trade for the good of society.  This affectation is not very common among merchants.  They are usually easily dissuaded from it.   ==>Link IV.2.9

The individual can judge much better than a politician or legislator which use is most likely to produce greatest value for his capital.  Any politician who would attempt to direct private people how to invest their capital would not only exceed his expertise but would also assume an authority that is not safe for a council or senate, let alone a single individual.   ==>Link IV.2.10

To give a monopoly of the home-market to production by a particular business is in some measure telling private people how they are to use their capital and is a useless at best or a harmful regulation.  If the domestic product can be purchased and delivered as cheaply as foreign it is useless.  If not it must be harmful.  “It is the maxim of every prudent master of a family never to attempt to make at home what it will cost him more to make than to buy. The taylor does not attempt to make his own shoes, but buys them of the shoemaker. The shoemaker does not attempt to make his own clothes, but employs a taylor. The farmer attempts to make neither the one nor the other, but employs those different artificers.” It is only in their self interest for people to produce what they do best and most efficiently and trade part of their profits for everything else they want.   ==>Link IV.2.11

If we operate by these principles in our own families, why couldn’t we consider that a nation would operate the same way.  “If a foreign country can supply us with a commodity cheaper than we ourselves can make it, better buy it of them with some part of the produce of our own industry employed in a way in which we have some advantage.” It is not smart to produce that which we as a country could purchase more cheaply from a foreign country.  Even if the lawgivers intended for this to help us, the annual production is diminished by this type of legislation not increased from what would have occurred naturally.   ==>Link IV.2.12

By means of such regulations, a particular product can sometimes be produced sooner than it could have been otherwise, and after a certain time can be made locally as cheap or cheaper than the foreign product.  “The industry of the society can augment only in proportion as its capital augments, and its capital can augment only in proportion to what can be gradually saved out of its revenue. But the immediate effect of every such regulation is to diminish its revenue.” If the revenue is decreased initially it may not be able to augment the capital beyond what would have happened if the free market system were left to itself.   ==>Link IV.2.13

Even though without such regulations a particular country would never be able to produce a particular product, the particular country would not necessarily be poorer.  The resources of the country could turn their attention to different objects in an advantageous manner.  The rate of growth of both income and capital might have been as great as with the regulations.   ==>Link IV.2.14

Even though by building certain facilities at a great cost any country could probably produce any particular product, is it worth paying 30 times what another country can produce that product for?  If that is true in the extreme example would it not be true for any example?  “As long as the one country has those advantages, and the other wants them, it will always be more advantageous for the latter rather to buy of the former than to make. It is an acquired advantage only, which one artificer has over his neighbour, who exercises another trade; and yet they both find it more advantageous to buy of one another than to make what does not belong to their particular trades.”    ==>Link IV.2.15

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