Adam Smith was More Preceptive Than We Give Him Credit For

My previous post sported a quotation from Adam Smith’s Wealth of Nations.  As I was going through that section again, I noticed the editor’s footnote I had overlooked last time.  It pointed me to Book IV, Chapter IX of the Wealth of Nations where Smith makes the following argument (Pages 680-681):

Except with Japan, the Chinese carry on, themselves, and in their bottoms, little or no foreign trade; and it is only into one or two ports of their kingdom that they even admit the ships of foreign nations.  Foreign trade, therefore, is, in China, every way confined within a much narrower circle than that to which it would naturally extend itself, if more freedom was allowed to it, either in their own ships, of in those of foreign nations.

The perfection of manufacturing industry, it must be remembered, depends altogether upon the division of labour; and the degree to which the division of labour can be introduced into any manufacture, is necessarily regulated, it has
already been shown, by the extent of the market.  But the great extent of the empire of China, the vast multitude of its inhabitants, the variety of climate, and consequently of productions in its different provinces, and the easy communication by means of water carriage between the greater part of them, render the home market of that country of so great extent, as to be alone sufficient to support very great manufactures, and to admit of very considerable subdivisions of labour. The home market of China is, perhaps, in extent, not much inferior to the market of all the different countries of Europe put together.  A more extensive foreign trade, however, which to this great home market added the foreign market of all the rest of the world; especially if any considerable part of this trade was carried on in Chinese ships; could scarce fail to increase very much the manufactures of China, and to improve very much the productive powers of its manufacturing industry, as by a more extensive navigation, the Chinese would naturally learn the art of using and constructing themselves all the different machines made use of in other countries, as well as q the other improvements of art and industry which are practised in all the different parts of the world. Upon their present plan they have little opportunity of improving themselves by the example of any other nation; except that of the Japanese.

The tl;dr version: Smith argued (along the lines of the QOD) that China, under their current regime of laws and institutions, has maxed out their ability to grow.  China has a great ability to manufacture, and yet a poorer than Europe.  Why?  Smith predicts that it is because of their disdain for foreign trade.  If they were to open their markets to foreign trade, China would become considerably more wealthy.

We are blessed, in the 21st Century, to be able to test Smith’s hypothesis.

Prior to the 1970’s and 1980’s, China was very much anti-foreign trade.  The desire to be self-sufficient and reject all “Western” influences was strong (eg the Great Leap Forward) and China was abjectly poor.  In 1981, approximately 81% of China’s population lived in extreme poverty (less than $1.25 a day).  Their economy was stagnant.

However, beginning in the 1980s and accelerating in the 2000’s, China opened itself up to international trade.  According to the Economic Freedom of the Word report, China dramatically reduced tariffs and more moderately reduced non-tariff barriers to trade between 1980 and 2015 (most recent data).  Coincidently, China’s growth skyrocketed.  After hovering around 0% for the 60’s and 70’s, China started to grow consistently at 8+%.  Poverty fell to about 12% by 2010.  China’s average standard of living (as measured by GDP per capita) while still quite low, is quickly converging to the world average.

Adam Smith appears to have been quite right.

On a related note, this paper from the Journal of Legal Studies (gated) is another example of the percipient nature of Adam Smith

Today’s Quote of the Day…

…comes from page 111-112 Adam Smith’s 1776 masterpiece, An Inquiry into the Nature and Causes of the Wealth of Nations:

But perhaps no country has ever yet arrived at this degree of opulence. China seems to have been long stationary, and had probably long ago acquired that full complement of riches which is consistent with the nature of its laws and institutions. But this complement may be much inferior to what, with other laws and institutions, the nature of its soil, climate, and situation might admit of. A country which neglects or despises foreign commerce, and which admits the vessels of foreign nations into one or two of its ports only, cannot transact the same quantity of business which it might do with different lawsand institutions. In a country too, where, though the rich or the owners of large capitals enjoy a good deal of security, the poor or the owners of small capitals enjoy scarce any, but are liable, under the pretence of justice, to be pillaged and plundered at any time by the inferior mandarines, the quantity of stock employed in all the different branches of business transacted within it, can never be equal to what the nature and extent of that business might admit. In every different branch, the oppression of the poor must establish the monopoly of the rich, who, by engrossing the whole trade to themselves, will be able to make very large profits.

JMM:  The nature of the institutions and the legislation that is enforced in a given country has a lot to do with the potential growth of the economy.  Institutions and legislation that protect and expand the scope of markets, in other words, institutions and legislation that allow human cooperation to flourish, will bring opulence.  Conversely, those that reduce the scope of markets will bring stagnation.

Law Written By Experts Is No Law

In a discussion on jurisprudence and hate speech legislation on Facebook, commentator David Benson wrote:

[The arbitrary nature of defining hate speech] why I didn’t trust a novice like myself to come up with the wording. I DO, however, think this issue has gotten to the point where some steps need to be taken.

To understand the difficulty with this statement, we must first understand what, exactly, law’s purpose is.

The purpose of law is to govern human behavior.  This purpose appears to me to be so self-evident and to hardly require evidence.  However, I will explain further.  Any form of law, whether it be issues of justice (ie “don’t mess with other people’s stuff,”) or matters of ethics, seeks to govern human behavior: how we act in given situations, how we interact with each other, how we resolve conflicts, etc.  For example, there is law regarding behavior at a funeral: it is proper to cry or be sad/somber.  To laugh or be merry is generally considered inappropriate.  This is an example of an ethical law governing human behavior.

If the purpose of law is to govern human behavior, it follows that law should be simple.  Complex or complicated law cannot govern as effectively as simple law.  With simple law, it is easy to determine when violations happen, and more importantly, it is easy to determine how to behave.  If law is complicated, then such determinations are far more difficult to make.  And this matter is doubly important for matters of jurisprudence and legislation, where breaking the rule leads to a loss of liberty.  This is why the rules of mere justice, the fundamental arena of jurisprudence and legislation, are the most simple.

Which brings us back to David’s comment I highlighted at the beginning.  If legislation defining hate speech cannot be defined by novices, then it is destined to be bad legislation.  If it cannot be defined by novices, it cannot be understood by novices, and thus it cannot be practiced by novices.  This would leave a wide area of grey between what is punishable and what is not, determined by experts but not by novices.  And, since the vast majority of people are novices in matters of legislation and jurisprudence, such complicated law would naturally harm the vast majority of people, even if it exists for nominally virtuous reasons.

 

Today’s Quote of the Day…

…comes from page 198 of the Liberty Fund edition of James Buchanan’s 1975 book The Limits of Liberty: Between Anarchy and Leviathan:

It is unrealistic to assume that elected officials who occupy executive and legislative positions of responsibility have no personal preferences about the overall size of the public sector, its sources of revenue, and, most important, the particular components of public outlays.  A person who is genuinely indifferent in all these respects would not be attracted to politics, either as a profession or an advocation.  Politicians are likely to be those persons who do have personal preferences about such matters and who are attracted to politics precisely because they think that, though politics, they can exercise some influence over collective outcomes.  Once this basic, if simple, point is recognized, it is easy to see that budgetary results will not fully reflect voters’ preferences, even of those who are members of the effective coalition that achieves victory for its own candidate or party.

This simple, if basic, point is one often forgotten in discussions of the political.  Politicians are assumed to either be guided by the Will of the People and The People just need to be educated on an issue, or politicians are guided by experts, and it’s just a matter of getting the right experts to the right ears, or politicians are influenced by dollars and donations, and it’s just a matter of limiting money in politics.  But none of these assumptions ascribe any agency to politicians.  In short, they forget politicians are people too, fashioned from the same clay as the rest of us.

Surprise!

At Cafe Hayek, Don Boudreaux has a blog post discussing the rather frequent argument used by some protectionists who object to foreigners owning American assets.  Don writes:

One of the facts that I pointed out [in Don’s recent debate with Ian Fletcher] is that a U.S. trade deficit is good for the U.S. insofar as such a deficit means that capital is flowing into the U.S. and creates new businesses (or bolsters existing businesses).  Think, for example, of BMW’s factory in Greer, South Carolina, or of any of the many Ikea stores across the United States.

In reply, Fletcher agreed that such investment is productive, and even that it’s beneficial for Americans.  “However,” he replied (and here I quote from memory), “it would be even better if those assets were owned by Americans.”

The core error in Fletcher’s reply is the assumption that the productive assets that are brought into being by foreign investment would exist in the absence of foreign investment.  Fletcher assumes, for example, that the successful Ikea store in Dale City, Virginia, would exist in the absence of Ikea’s decision to build and operate a store there.  Fletcher assumes, in other words, that the ownership of an asset is economically distinct from the creation of an asset.  But this assumption is plainly mistaken.  Nothing prevented Americans from building a large furniture (or other kind of) store on that very location before Ikea built its store there – nothing, that is, other than the failure of any Americans to have the vision or the willingness to do so.  Ikea’s entrepreneurial vision and willingness to take the risk of building a store in Dale City added tothe capital stock in America (and in the world).

To build upon Don’s point:

People like Fletcher treat assets and resources as if they are mana from Heaven, that these factories and stores and the like just fall to the Earth, waiting to be claimed by whoever walks by.  But goods and services are brought into existence and traded through human action. It’s man, not God, that transforms and produces. God just gave us the faculties to do so.

However, there is also a crucial element of what Israel Kirzner called “surprise” needed.  That is, being aware when an opportunity presents itself.  Allow me to explain via metaphor:

Two shoe salesmen land in a foreign country. Both notice no one in this country wears shoes. The first calls back to headquarters: “I’m headed home. There are no sales opportunities here. No one wears shoes!” The second calls back to headquarters: “Send me more people. There are lots of sales opportunities here. No one wears shoes!”

The point of this story is that entrepreneurial activity includes “surprise,” that is: being aware of an opportunity that presents itself even when not actively searching for it.  One of the salesmen, the one who thought no opportunity existed, had no such element of surprise.  The other did.

There’s no reason to assume that if Ikea hadn’t shown up, someone else would have. This isn’t a “search cost” thing (ie, other people did not simply look hard enough and Ikea just looked harder/longer), but rather an entrepreneurial surprise thing. Ikea spotted an opportunity and invested. It’s probable no one else would have spotted (or, at least spotted at the same time) this opportunity.

But let’s say more. Let’s say that some American firm did spot the same opportunity at the same time and were competing against Ikea for the same resources (land, labor, etc). Would it be safe to say that the community would be better off if the assets were owned by the American firm rather than Ikea? Not necessarily. Given that Ikea won the bidding war, that probably means Ikea had a higher value on the resources than the other firm. This, in turn, means that Ikea can likely produce more value out of the resource, which means providing value to the consumers of furniture. By being more efficient (that is, using fewer inputs to achieve the same or greater outputs), Ikea produces more value for the community than the other firm that lost the bid.

Economic growth occurs through the mechanisms of discovery and surprise (a la Kirzner) and resources going to their most valued uses.  We cannot take for granted either one of these processes.

Institutional Diversity and Trade

A popular argument against free trade is that the logic of trade requires identical (or at least similar) rules/institutions between the trading parties.  Dani Rodrick recently made this argument, and you can see Don Boudreaux’s response here.  There is absolutely nothing in the logic or argument for free trade that necessitates similar institutions between the partners.  Only one thing is required: both parties benefit.

However, for both parties to benefit from trade, they must inherently be different from each other.  If the two were identical, then no trade would ever occur.  Diversity in tastes, in endowments, in incomes, even in rules, are desirable and, to differing degrees, necessary.  The idea that trading partners must be similar to one another, including in their belief structures, undermines the logic of trade.

Moving from the individual level to the national level, institutional diversity helps show actual costs and benefits of various institutions.  For example, if the whole world were as protectionist as Red China in the 1950’s, no one would know what a horrible scheme that is as the whole world would have looked like massive starvation.  Fortunately, the Chinese realized their mistake and have become rapidly more open-trade, thus leading to their huge economic gains lately, but it was the fact that institutional diversity existed that such folly was understood.  If a given national government decides not to allow peaceful trading between their citizens and another group of citizens, then their citizens are harmed and the true costs of their institutions, as well as their true benefits, are not known.

Diversity is a necessary ingredient of trade.

Today’s Quote of the Day…

…is found in a letter from Frederic Bastiat to Richard Cobden (leader of the Anti-Corn Law League) dated 8 April 1845.  The letter can be found on page 58 of the Liberty Fund’s collection of Bastiat’s correspondence, The Man and the Statesman (emphasis added):

Sir,

Since you have permitted me to write to you, I will reply to your kind letter dates 12th December last.  I have been discussing the printing of the translation [of Cobden’s speeches and pamphlets] I told you about with M. Guillaumin, a bookseller in Paris.

The book is entitled “Cobden and the League, or the Campiagn in England in Favor of Free Trade.”  I have taken the liberty of using your name for the following reasons: I could not entitle this work “The Anti-Corn Law League.”  Apart from the fact that this would have a barborous sound for French ears, it would have brought to mind a limited conception of the project. It would have presented the question as purely English, whereas it is a humanitarian one, the most notably so of all those which have brought campaigning to our century.

By presenting the issue of free trade as a humanitarian issue rather than a sectarian or nationalist issue, he demonstrates the universality of the principles of free trade.  Many opponents of free trade like to argue that free trade is conditional.  They may argue that free trade requires “transnational rule-making institutions.”  Or that trade only is good if one nation (ie the nation of the speaker) benefits.  Or that free trade needs to be “fair” (whatever that means).  But Bastiat makes no such prerequisites.  Bastiat and Cobden both argue that free trade is not an English concern, not a French concern, not an American concern, but a human concern.

The Anti-Corn Law League that Cobden was part of was founded in opposition to the Corn Laws, a series of mercantilist legislation that raised the price of food within Great Britain by restricting imports.  Given this legislation occurred at the same time as the Irish Potato Famine, the Corn Law, by artificially increasing scarcity of food, likely caused many deaths in Ireland from the famine.  The Corn Laws contributed to a humanitarian crisis.  We are seeing similar situations going on in Puerto Rico, where scarcity is increased because of the Jones Act, and Houston and Florida where scarcity is increased because of anti-price-gouging legislation.  Free trade is a humanitarian concern, not a sectarian concern.