A few months before the signing of the Declaration of Independence, a Scottish economist named Adam Smith published a book that helped birth the free-market system of economics and trade. The title, The Wealth of Nations, must have captured the imagination of our founders because they took many of Smith's ideas to heart. On the wings of free trade, the fledgling United States rose to the top of the world, transforming itself in less than 200 years from an undeveloped land of hunter-gatherers to a global military, industrial, and economic power.
It would be nice if we could conclude the story here on a positive note, but lately, the plot has soured. In manufacturing especially, Americans are flapping their wings harder, but the ground seems to be getting closer. True, a lot's changed since The Wealth of Nations first hit bookstore shelves, but most of the principles on which the theory is based still apply today. The problem isn't the system.
One of Smith's foundational theories is that nations have only three sources of original wealth - mining, farming, and manufacturing. Everything else, he explains, merely moves around the riches that mining, farming, and manufacturing acquire. Even Alan Greenspan agrees with that. It's as true today as ever.
Another of Smith's observations time hasn't changed is that wealth creators can often be identified by their calloused hands: “It's not by gold or by silver, but by labor, that the wealth of the world is originally purchased.” In Smith's view, all other forms of employment, including his own, only redistribute the gains of men and machines employed in fields, factories, and under the earth and sea. Lawyers, bankers, labor leaders, even government officials take more than they make, although our present market system rewards and incentivizes as if it weren't the case.
This brings us to Smith's most basic and defining tenet, the fulcrum of the free market system; why people would be inclined to work in the first place. Smith believes that any system that relies on forced or good-will labor is doomed to fail because it's unsustainable. He recommends, instead, harnessing the power of self-interest, the natural human tendency to care for one's self and, by extension, one's immediate family. This view contrasts sharply with that of Smith's predecessors and contemporaries who either denied the inherency of self-interest or held it in such disdain that they could not imagine any associated advantage.
Smith, on the other hand, sees in self-interest a reliable and potentially positive force. In one of his most quoted passages he writes, “It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest.” It's not a moral issue, it's a matter of what works; aligning with the natural mode of human behavior. Taking it further, Smith asserts: “By pursuing his own interest the individual frequently promotes the interest of society more effectually than when he intends to promote it.”
Another concept put forth by Smith that has stood the test of time is that of supply-and-demand economics. Although free markets may seem chaotic and open loop, Smith claims they are actually controlled by a restorative force, an “invisible hand” that supplies markets with the right things at the most opportune time. When things don't work out that way, it's usually because of something acting contrary to free market principles. Smith points out several such forces, which are just as disruptive today as they were during his time.
Monopolies are one example. A meddling government is another. Smith explains that individual “frugality is the cause of capital growth and the increase of national opulence, while government can do nothing more than protect the individual and allow him liberty.” On this point we as a nation seem to be disregarding Smith's advice, although it's been going on for decades. This might help explain some of our current woes. It also explains Smith's stinging criticism of government interference: “It is the highest impertinence and presumption of kings and ministers to pretend to watch over the economy of private people.”
Now more than ever, we need to follow Smith's advice.