107 Lec 6

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Unformatted text preview: Winter 2009 Copyright 2009 LectureNote ECONOMICS 107 PROFESSOR MURPHY February 9, 2009 Week #6 Monday THE SMITH CARTOON AGAIN Fla / tees-t , . ABOVE A CARTOON FROM THELONDONECONGMER [a ‘hdonal reconstructionfl Professor Murphy showed a slide of “The Tory Brain” to the class. This slide is based on a cartoon in the London Economist, a few years back. [He will try to supply a date for this later]. He asked the class to take particular note of the words below. ‘RATIONAL RECONSTRUCTIONS ASSUME THAT THE APPROPRIATE FRAME IS PROVIDED EXCLUSIVELY BY MODERN DISCOURSES.” VIVIENNE BROWN. Both Adam Smith and Edmund Burke in their day were Whigs. And Smith was an extreme Whig - he supported the reforms of Charles James Fox. While Smith believed in both “markets” and “liberty” his beliefs in both were carefully nuanced as we shall see today. So the Adam Smith of this Tory brain is not the Adam Smith of history. Other scholars who claim that Smith founded the first economics paradigm and was the defender of the “free market economy”, are again rational reconstructionists. For that matter, Smith did not identify an “economy”. The economic system is identified several decades later by Cournot. SETitti What Smith is concerned with in the language of- our day was “the physics of everyday life.” He saw certain properties of nation states as being naturally formed by physical law. THE NATURAL SYSTEM OF LIBERTY Adam Smith believed that while individuals can be locally benevolent, that it is not due to the benevolence of the butcher and baker that we get our dinner. But in line with what Hutcheson had done in the fourth inquiry of his course at the University of Glasgow, Smith inquired - what this implied abut the nature of the society of the time. He came to the conclusion that due to Nature’s arrangements, and in line with Stoic philosophy. it was possible to embody individuals in a system that would produce in them the lower order‘levels of morality if their behavior was in amord with nature’s] aws. They could thus — naturally -display a lower order of virtue - naturally their behavior would btl‘jnst'hehafior. Smith in the Wealth of Nations does not introduce the idea of the natural system of liberty until page 651. [All references to WN are to the Cannan editiond And he defines it largely in terms of a system that would be neither mercantilist nor physiocratic: “All systems of preference or of restraint, [i.e. mercantilism and physiocracy - Prof M.] therefore, being thus completely taken away, the obvious and simple system of natural liberty establishes itself of its own accord. Every man, as long as he does not violate the laws of justice, [my italics - Prof M] is left perfectly free to pursue his own interest in his own way, and to bring industry and capital into competition with those of any other man, or order of men.” MN, 651.] You should not conclude from this that Smith is advocating a world without a government. Smith is living at the very beginning of Industrial Revolution. Yet he doesn’t much like what he sees in the new world. He thinks the division of labor stultifies workers. He thinks the typical peasant working on a farm has a richer life, and is called to make more decisions during the day than the man performing one function in a factory, He despises consumerism and the desire to have baubles. Both mercantilism and physiocracy had pushed the natural system of liberty out of shape. lie believes it is natural to have most persons in agriculture. [This is where the bulk of the working population was in his day.] Smith sees a role for government although not one in which the government is captive to special mercantile or industrial interests. There is a “natural system of liberty” that promotes the progress of society. While it is clear that Smith believes “Nature? has this design that will produce this result, he does not address the issue whether the design of Nature was the design of a benevolent God. In all of this we can see the influence of Newton on Smith. Market prices in the natural system of liberty will “gravitate” towards “natural prices.” [Remember Smith is really adding “ ding “ into Nature to occur.”] ' Smith has a Law of Equal Return. Capital will tend to earn thelsame return on the margin. Labor of a similar kind will earn the same wages on the margin. But all of those returns will gravitate towards the “natural” d “optimal” [to use one of our descriptoraleyel" essence he is spelling out a vision of a benevolent general equilibrium. It will take a century for that vision to be mathematized. [In terms or human history, this is a tiny amount of time] Bin Smith surely had that vision. . DAS ADAM SMITH PROBLEM. German scholars in the nineteenth century identified “Das Adain Smith Problem” The problem, according to them, is that Smith having identified human action as being influenced by moral sentiments in this Theory ofMoml Sentiments abandoned moral sentiments in The Wealth of Nations. In the Theory of Moral Sentiements humans resolve the conflicts between egoism and altruism because: out of their sympathy and admiration of others, they form an Impartial Spectator which in our langtiage is a social conscience. But says Smith in the The Week of Nations : “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. We address ourselves, not to their interest. We address ourselves, not to their humanity but to their self-love, and never tail; to them of our own necties but of their advantages” [Caiman edition, 14). This is true. But weéshall see that Smith believed that his “natural system of liberty” would lead to the best outcome for all. And the task of the I I ’ I‘I : , 1 commerdal enlightenment with which 1 have been concerned have a similar composition, or aesthetic; the composition of a system of sentiments, or of a swerving universe of individuals, which is at the same time a system. But the different systems are also the same systetns, in the sense that they depend on one another. The discursive political society, or the philosophical politics of good-tempered discussion, requires asociety of good-tempered, prudent moral sentiments; this is the condition for civilized conflict. The system of commerce requires an orderly political constitution, in which the public power that defines the limits of commercial freedom is itself the subject of political discussion, and of orderly political reform. The system of commerce, as has just been seen, requires a syste of moral sentiments, or a good-tempered, prudent society. But if you have statesmen who are guided by moral sentiments, and if you have law abiding citizens, a nation state will produce aojustgociety. SPECIAL INTERESTS CAN SCREW UP THE NATURAL SYSTEM BUT USUALLY NOT BADLY. A country’s particular course of development might not id to the “natural system” emerging or being maintained. Smith’s Wealth of Nations is the first great work in comparative economies. In it, he concluded that the mercantile system and the agricultural system of the French Physiocrats did not produce the greatest progress possible with respect to wealth. However, Smith sees Nature’s results as robust. Smith notes that the “uniform, constant, and uninterrupted effort of each man to better hinBeiP’ accompanied by capital accumulation leads to a larger “annual produce.” “But we shall find this to have been the case of almost all nations in all tolerany quiet and peaceful times, even of those who have not enjoyed the most prudent and parsimonio governments.” [327.] SMALLER GOVERNMENT BETTER One key to having a just society would be keeping government small. Government in Smith’s view COPYRIGHTED MATERlAL-DO NOT DUPLICATE should be restricted to [1] Defense. Smith puts a high priority on defense. “Defense before opulence.” Interestingly, he believed defense is best provided by a standing army rather than a militia. You should refer that belief to conditions of Smith’s day. Citizen armies of high levels of morale and training procured via the draft such as those that served America so well in World War II were unknown to Smith in his younger life. We should note that Smith, given more experience, revised his opinions on militias. I [2] “Police”! in the 18'” century sense of that word, [3] “[T]he duty of erecting and maintaining certain public works and certain public institutions, which it can never be for the interest of any individual, or a small number of individuals, to erect and maintain...” [651]. Some persons have tried to expand [3] into a criterion like “if Marginal Private Costs for commodity X are greater than Marginal Private Benefits but Marginal Social Benefits are greater than Marginal Social Costs, then the government should produce X.” But Smith does not make such a generalization. He much preferred discussing particular cases. To generalize Smith’s thoughts is to rationally reconstruct them SMITH ON THE MECHANICS OF WEALTH FORMATION TI-IE DIVISION OF LABOR , For Smith the major factor in the increaSe of wealth was the division of labor. That was, of course, an acknowledgement of rising complexity. And it will pose a problem to those discusaing the issue for some time to come as we shall see. Plato had thought that the division of labor was determined by the supplies of innate skills. There were so many husbandmen, sculptors, poets, etc. and a polis would grow up to accommodate those skills. Not so for Smith. The division of the labor market, was demand side, determined. As the market grows there can be larger workshops in which processes get subdivided. In our language, Smith saw that the division of labor would lead to lower unit costs as labor specialized to particular subdivided tasks. His celebrated example is that of the “pin manufactory.” [see page 4 it]. In this example, the increase in productivity that resulted came from [1] increase in dexterity of the worker specialized to a particular task [2] the saving in time passing from one task to another [3] the invention of machines that facilitated and abridged labor. You and I with a home workshop, with a supply of . hard wire, some metal shears, hammers and a grinder could perhaps make 10 pins a day. 10 persons in a pin factory, Smith found, could make 43,000 pins a day. SMITH o'N CAPITAL ACCUMULA'I‘ION a. Real capital facilitates and abridges labor. b. Money capital finances labor during the period of production until the product is made ready for the market. c. In our language, capital help; extensification. The new capital used to mechanize factories creates derived demands for the production of inputs into machinery production. So the market order spreads. Tl-l'E INVISIBLE HAND Smith,an admirer of Newtonsaw social forces operating like gravity. And social forces like gravitational forces are invisible. The major motive force in social life is the effort of every individual to improve himself. As economics become more formalized it will talk about consumer and producer maximization. In a ‘natural system of liberty’...natural prices will emerge which involve an equilibrium between men’s efforts to improve their lot in both consumption and productiom At any point market price may diverge from natural price. But, says Smith, market price will ‘gra'vitate’ towards natural prices. “The natural price, therefore, is as it were, the central price to which the price of all commodities are continually gravitating. Different accidents may sometimes keep them suspended a good deal above it, and sometimes even force them down even somewhat below. But whatever may be the obstacles which binder them from settling in this center of repose and continuance, they are constantly tending towards it.” WN, p. 58 SMITH ON ECONOMIC GROWTH Notiuce that The Wealth afflictions starts with the theme of what we now call “economic growth.” Here are the first two paragraphs: “The annual labour of every nation is the fund which originally supplies it with all the necessaries and conveniences of life which it annually consumes, and which consist always either in the immediate product of that labour, or in what is purchased with that product from another nation. _ According therefore, as this produce or what is purchased with it, bears a greater or smaller proportion to the number of those who are to consume it, the nation will be better supplied with all the necessaries and conveniences for which it has occasion.” which will further extend the market, and so on. Do notice the emphasis on consumptiou. Here is Smith again: “Consumption is the sole end of production, and the interest of gthe producer ought to be attended to, only so far as it may be necessary ' for promoting that of the consumer.” [Wm 625] SMITH 0N IECFARE! The study of Welfare is a concern of the latter part of the nineteenth century and it receives special attention in Marshall’s Cambridge, especially in the hands of A.C. Pigou who wrote a book on the economics of welfare. Pigou used the term Ect’are which is an abbreviation of Economic Welfare. The central question of chare is — and again this is not Smith’s language —- what are the criteria to maximize benefits for a society from its economic system whilst providing a desirable distribution of income? The answer is that you have to have [1] a growth of per capita consumption and [2] you have to have an acceptable distribution of income. Smith clearly is concerned with the sécond criterion as well as the first. He says, “No society can surely be flourishing and happy, of which the far greater part of the members are poor and miserable” [WN, p.79]. And he remarks “it is in:the progressive state...the condition of the labouring poor... seems to be the happiest and most comfortable” [WN, p. 81]. SMITH ON THE LAW OF EQUAL RETURN Ifindividnals operate with a system of natural liberty, a result of individuals wishing to improve their situation will be that returns for different types of activities will equalizei Suppose workers in Sheffield find out wages are higher in London. They will move to London, that; depressing wages due to increased supply, and by making labor more scare in Sheffield will raise wages. Eventually, all things considered, wages will ehualize. If Sheffield has spedal non-wage benefits relative to London or vice versa, these will have to be take into account by an employer to hire workers. Similarly, if a merchant or manufacturer can earn a higher return in Amsterdam than in London then capital and industry will flow from one to the other. And if 4 February 1 1' , 2009 Week'iiti Wednesday SMITH’S LABOR THEORY OF VALUE Smith has been widely misunderstood on this topic. Some have attributed Karl Marx’s labor theory of value to Adam Smith. Karl Marx, however, thought Smith was “naive.” Marx’s intellectual borrowing in this area were from Ricardo. The first thing to note is that thinkers in the eighteenth century and nineteenth century ware interested in finding [1] an absolute measm'e for the value , of commodities and [2] providing theories of relative ' value. If you asked Karl Marx why ihfi projector in Royce sold for half of the price of the podium, his answer would be that represented the relative amounts of labor embodied in the two commodities. Ifyou objected —“hey, Karl, some capital went into producing these two products.” He would reply - “capital is simply ‘congealed labour.” But all of this is quite metaphysical. Today it We want to talk about how one price relates to another, we talk about the “theory of relative price.” Generally spealdng in equilibrium relative prices are determined by relative costs of production. This will become clearer later in the course when we go over Marshallian equilibrium. In any case, no one nowadays asks the question about what is the “intrinsic value” of a Big Mac. And so we don’t get puzzled by the things that puzzled Smith’s day - why, for example, do diamonds, which are [ripper-y for the rich, have a higher price than water, without which life is not possible. We now know the world has abundant water resources and very scarce diamond resources - the “intrinsic values” of water and diamonds — are irrelevant in determining relative price. Smith does not have one theory of value - be has three. He has [1] a labor theory of value [2] a labor command theory and [3] a cost of production theory. Remember that Smith has been influenced by Vioo so thinks in terms of stages. In early - - hundngtgathering society land is abundant and not priced. Most of the hunting equipment hunters used was simple and inherited. So the major costs of production were labor costs. So if a hunter could catch a deer and 3 beavers in a day -— Smith’s own example - we should expect the price of beavers to be U3 the price of deer. But suppose the price of beavers are 1!“? that of a deer. Hunters will switch to producing deer and they will trade for 7 heavers— they themselves could only catch 3. But their switching will lead to more deer being produced and COPYRIGHTED MATERIA -DO NOT DUPLICATE less beavers and so the market price will gravitate towards the natural price of U3. As an exercise, you should reason it the other way. If deer sells for two times the price of beavers, what happens to produce a ratio of prices of 113? But notice, if there are no land costs and trivial or zero labor costs, then what determines the relative prices of deer and beavers is their marginal costs of production. This is technically correct given present microeconomic theory. SMITH’S COST OF PRODUCTION THEORY OF VALUE In ADVANCED SOCIETY - when societies have got to the stage of commercial society, Smith has relative prices determined by relative costs. We can write this formally as follows [remember N0 equations in Smith]: 2L: IE1+PI +RIHQJ P2 [Wz'l'Pz 'l' R2]sz This is consistent with Marshallian equilibrium Note that the eighteenth and early nineteenth century thought in terms of three factors of production -— land, labor and capital. Nowadays, we explain things in terms of four factors — land, labor, management and capital. Management earns profits as a reward, and capital earns interest as a reward. Smith would put the costs of management in W - he would think in terms of the “wages of superintendence.” [We know from Marshall’s memoirs that he got to his ideas about equilibrium from mathemtizing the economics of David Ricardo and John Stuart Mill. And they in turn got their ideas from Smith]. Footnote. LABOR COMMAND. Smith’s third theory is that relative values [prices to us] are determined by labor command. The value [price to us] of a good “to those who possess l, and who want to exchange it for some new productions, is precisely equal to the quantity of labour which it can enable them to purchase or command [WN, p. 30]. With me one deer of the previous example, you will be able to buy one day of labor. A beaver will command one third of a day of labor. This is just an aspect of the reciprocal nature of price. If two dollars will buy a Big Mac, a Big Mac will buy dollars or the factors of production that produces it. [In early society the main SMITH 0N TAXES As regards taxation, Smith advised governments to follow four principles. These principles are still standard ones to judge tax systems. [1] Taxes should be economical - in other words they should not be costly to collect Smith, had of course, been exposed to the horribly inefficient tax farming system of the French which was one of the causes of the French Revolution. [2] Taxes should be convenient. As an example, don’t tax farmers BEFORE the harvest but AFI'ERWARDS when they have the funds to pay the taxes. [3] Taxes should be moderate, [4] Taxes should be clear and certain so that taxpayers know their obligations and could adjust to the burden of taxation in their own way. They should not have to continually be making adjustments or pay large costs searching for information about their liabilities. Economic decisions are easier to arrive at with a known structure of prices and costs [which include taxes]. [5] Taxes ought to be proportionate to the ability to pay. W SMITH 0N DISTRIBUTION THEORY Distribution theory deals with how wages, rents, interests, and profits are determined and, also with the relative shares of those factor returns in the Gross National Income. Distribution theory is not Smith’s strongest area. WAGES. Smith’s treatment of Wages is complex and sometimes contradictory. He has a wage fund theory of wages, a productivity theory, a subsistence theory, a residual claimant theory, and a bargaining theory. For example, the subsistence theory asserts that wages will drop to a floor determined by how much laborers need in order to live and reproduce. The Wage fund doctrine is that there is a fixed amount oi‘ money capital available for the payment of wages. So the wage rate is determined by the ratio of the wages fund to the labor force. Productivity theory holds relative wages are determined by relative productivities of labor. Residual claimant theory holds that labor gets what is left over from the returns from selling commoditia when all other I claimants are paid. What is bargaining theory should be obvious to you. Obviously, it is impossible to reconcile all these viewpoints in a single overarching theory. As an example, if in a particular industry labor as the residual claimant gets x pounds but this is ballot what is needed for subsistence something will have to change or the workers will die off and that doesn’t usually happen. So that explanation won’t hold water. RENTS. Smith has four theories of rent which are rife in contradictions. [I] Rents are determined by the demand of the landlord. Remember Smith is talking largely about the rent of land. [Later on in distributional theory, rents take on a totally different meaning, as we shall see]. [2] Rents are a monopoly return. [3] Rents are due to differential advantages — for example, soils of different fertility. [4] Rents are due to the bounty of nature. PROFITS. Smith has little to say. Classical economists do not start talking about profits until the 1820s. But his basic ideas are this. In early society there is no distinction between wages and profits. In conunercial society wages of superintendence have to be paid otherwise no one would organize the production of goods. So workers recognize they have to finance those who superintend them. WHO IS THE FATHER OF ECONOMICS? Our contemporary paradigm sees Adam Smith as sketching out the contemporary economics paradigm and a set of canonical writers as giving it greater rigor ‘economic system” and this in 1838, Arecentbook makes thecase thattheend ofthe eighteenth century witnessed a major shift in thinking about society. Here is a description irotu the book jacket of Margaret Shabas, The NEW of Economics, I The University of Chicago Press, 2005]. Footnote. To help put the matter rigorously I have put exclamation marks before and afterany term which was introduced later than the days of Adam Smith. Prof M. ' “References to the Ieconomyi are ubiquitous in modern-life, and vittually every facet of human activity has capitulated to mrket lmechauismi In the I early modern periodi, however, There was no common perception of the ieconomyl, and discourses on money, trade, and commerce treated ieconomic phenomena! as properties of physical nature. Wealth, for example, was, above all, considered a physical proceSs; the natural principles that governed its growth and distribution could be augmented much as a forest might extend its reach into a meadow. Only in the early nineteenth century did natural philosophers begin to posit and identify the Eeconomy! as a distinct object, divorcing it from nature and attaching ti essentially to human laws and agency. In The Natural Origins of Economics, Margaret Schahas traces the emergence and transformation of leconomics! from a natural: to a social science and eventual acceptance ofsthe critical importance ofsocial institutions in structuring the leconomyi. Focusing on the works of several prominent MME— David Hume, Adam Smith, Thomas Malthus, David Ricardo, and John Stuart Mill - Schabas examines their conceptual debt to inaturalscience! and locates the evolution'of ieconomic ideas! within the ihistory of science!.” “The theories of moral, political, and commercial enlightenment with which I have been concerned have a similar composition, or aesthetic; the composition of a system ofjseutiments, or of a swerving universe of individuals, which is at the same time a system. But the different systems are also the same ' system, in the sense that they depend on one another. interest in the remarkable new accumulations of wealth. Karl Polayni in this Great Ironsfomotion goes into considerable detail on the sociology of this great transformation. And we have already seen that the Agricultural Revolution, the Commercial Revolution, and the Scientific Revolution had all led to dramatic increases in wealth [but not yet to steady increases in per capita GNI’sJ THOMAS MALTirUs, 1766-1834. “...economics is a dangerous subject.” John Maynard Keynm with reference to Malthus. A textbook that Prof M. used for some years -— Landreth and Colander, History of Economic Thought, deliberately did not cover biographical information of the great economists as “information about their personal lives is often not directly relevant to their ideas and their contributions.” This is a perfectly reasonable and entirely sensible position. Ifyou are interested in economic theory as a stock of propositions to be used, this is an efficient way to go about learning those propositions. But ProfM. is interested in how our contexts get formed, why they are so stable, but also why they get changed. Malthus’s Essay on Population was a shocker when it came out. And today’s neoMalthusians are still in the same business of shocking us into action. To understand Malthus, we first need to look at his father, Daniel. Keynes in one of his characteristically wonderful phrases remarks that Daniel Maltbus was born to “the golden mediocrity of a successful English middle class family.” Let us be clear from the beginning. His was an “upper” middle class family. It had formed enough wealth that Daniel did not have to work for a living. He was a genial landowner with a small mansion in beautiful Surrey to the south of London. He rode to the bounds but he als0 liked to hobnoh with the intelligentsia. He brought Jean Jacques Rousseau and David Hume to see his two Weeks old son - Thomas. He did write a few ; pieces but for the most part, to quote another of Keynes’s great phrases, he “allowed diffidence to overrnaster ambition.” He, however, must have sorely tried his son’s patience. Daniel was a fervent admirer of. Marie Jean ' Antoine Nicholas Caritat, Marquis de Condorcet and especially of William Godwin. Condorcet took part in the French Revolution but opponng the excesses of the Jacohins. He was condemned COPYRIGHTED MATERIAl—DO NOT DUPLICATE and died in prison. He had worked on the theory of probability - making a valuable contribution to mathematics in this. He also believed that human development had gone through nine stages and predicted a 10'” stage {or epoch] which would see the perfection of man. WILLIAM GODWIN, 1756-1836 Godwin started out as a minister but became an atheist and a philosophical anarchist. He believed that the root of all evil was government. Human beings are capable of being perfect but they are warped by four factors: a. Education. b. Government. c. “Prejudices of religion. d. “PrejudiCes of the social order. En possum, doesn’t “c” and “d” have a Baconian flavor? Godwin emphasized reason and intellect. He denied that tradition, sentiment, feelings or habit were fundamental causes of human behavior. His answer for the human condition was to get rid of all government, pushing this recommendation to an extraordinary degree. “Everything understood by the term cooperation is an evil” asserted Godwin. This extended even to marriage. It was evil to restrain another’s freedom under a mask of an arrangement named marriage. ' Footnote. It is interesting that Godwin actually married the great advocate for women’s rights — Mary Woolstonecraft. I”..nn".tmv“-nm -------- I" .... m— ---- .“ ----- gun-on“... Granted an end to government, religion, the existing social order, enlightened education NOT provided by the government, there was a rosy future for humans. Prof M. cemented that the doctrine of the possible perfection of humanity, together with the idea that some part of humanity has been ruined by factors like those above, has had tremendously evil consequences. Ruined individual like Russian kulaks have been trashed to make way for “new men” brought up in a more perfect social order. Here is part of the justifications for Stalin’s purges and the killing fields of Cambodia. In addition to being fundamentally anarchist in his sentiment, Godwin had unusual ideas about property. Property should be held as a sacred trust to be used by those whose need was greatest. This is quite in line with Karl Marx’s slogan some years later “from each according to their ability, to each according to their need.” Finally, Godwin had notions of social utility. His famous question asked if there was a fire in your home and you could save either a prominent religious man staying with you or your Mother, whom should you save?”. “The religious man” answered Godwin, “for he is much more useful socially. “ BACK TO THOMAS MALTHUS. Thomas Malthus personally took issue with Godwin. When Godwin published his Enquiry Concerning Political Justice in 1793, Malthus wrote an anonymous critical review of it in the Edinburgh Review. - In general, that is, not just in that review, Thomas Malthus attacked not only what he considered to be Godwin’ rosy optimism, but also his views on property. Private property, he argued, was necessary to make Adam Smith’s natural system of liberty work. In addition, it was a mistake to help the poor. Under the English Poor Laws, the poor were subjected to a “set of grating, inconvenient, and tyrannical iaws...utterty contradictory to all ideas of freedom” Such laws just made life more difficult for those struggling to earn a living without assistance. But more than this, strong natural forces pushed real wages to the subsistence level. THE THEORY OF POPULATION. Malthus in his An Essay on The Princrple ofPopulanbn, 1798, argued that population increased by a geometric progression whereas agricultural production increased only by an arithmetic one. From looking at the growth of population in the USA, Malthus believed that populations could double every 15 years. We might note as we consider the state of economic thinking at this time, Malthus just pulled these two empirical laws out of thin air. American experience under frontier conditions was clearly not relevant to the older European countries. And Malthus himself later thought that he had erred in his ideas about agricultural production on the side of overestimation. It was a “supposition without pretending to accuracy, [and] is clearly more favorable to the power ol production in the earth than any experience we have had of its qualifies will warrant.” In other words, the real situation in agriculture is diminishing returns to scale. In any case, these two conditions implied that wages would be pushed to subsistence. Here is how it would work out: “we will suppose,” writes Malthus in his 1" edition, “the means of subsistence in any country just equal to the easy support of the population. The constant effort toward population, which is found even in the most vicious societies, increases the number of people before the means of subsistence are increased. The food therefore which before supported seven millions, must now be divided between seven millions and 1a half, or eight millions. The poor consequently must live much worse, and many of them be reduced to severe distress. The number of _ . labourers also being above the proportion of work in the market, the price of labor must tend towards a decrease; while the price of provisions would at the same time tend to rise. The labourer therefore must work harder to earn the same as he did before. During this season of distress, the discouragement to marriage, and the difficulty of rearing a family is so great, the population is at a stand. In the meantime the cheapness of the labour, the plenty of the labourers, and the necessity of an increased industry amongst them, encourage cultivators to employ more labour on their land; to turn up hush soil, and to manure and improve more completely what is already tillage; till ultimately the means of subsistence become in same proportion to the population as the period from which we set out. The situation of the labourer being then tolerably comfortable, the restraints to population are in some came with famine. Vice included contraception, infanticide, prostitution, and war. SAMUIESON ON MALTl-IUS ' In early editions of his textbook Economics, Paul Samuelson used the diagram below to describe this basic Malthusian model. Suppose a real wage (w) that is above e subsistence wage (s). The relative abundance for wage earners will lead to more children being born. This eventually shifts the supply curve of labor out. But now the real wage (w) is below subsistence. . People starve. Equilibrium is only possible at q*. In his first edition ofAn Essay on the Principle of Popuhuion, Malthus felt no twinges of .conscience for pulling the two assumptions [remember his own words “supposition”] out of the air and basing far reaching conclusions on them. It has all the flavor of Scholasticism and neo Aristotleianism. In looking at' America, Malthus could ignore the steady rise in real wages and see only a country moving towards a final equilibrium with wages at the subsistence level. Had he looked at cross sectional data, and at this time Scholars in the field of epidemiology are doing that, Malthus Professor Edward Learner, UCLA informed me abou these studies. I tribunal as hafiug a tendency to prevent the bow becoming finally straight and to impede the progress of truth.” It might be noted that as time wore on Malthus departed from his earlier belief that wages necessarily tended to subsistence levels. He traveled in Europe and became acquainted with the varying wage levels there. hEnglish wage levels at that time compared very favorably ' to some of the European countries wage levels. End of lecture“:some“:ea:a:awe:*$$********$$*$**$*u* February 13, 2009 Week #6 Friday MALTHUS 0N omen neosotnc ISSUES ' Malthus’s work on economics was generally neglected until much later. Mallhus became interested in failures in total demand and thought it was possible to have failures in “effectual demand.” In other words, he took strong issue with Jean Baptiste Say’s Law that “every supply creates its own demand.” John Maynard Keynes in his General Theory of Employment, Money and Interest [1936] considered Malthus a forerunner in the analysis of fluctuations in aggregate demand. Malthus, just like Adam Smith, was interested in the Wealth of Nations, and in the process of leconomic developmentl. His model of Ieconomic development! was, basically, Ecyclicall. He saw leconomiesl as stalling due either to over or under investment. His remedy for unemployment was “public works and expenditures by landlords and persons of property.” He was particularly concerned with the “glut” that occurred at the end of the Napoleonic wars. In spelling all this out, he debated issues with Ricardo. Canaan thought Malthns hopelessly muddled on these issues. Schumpeter thought Keynes ‘parfiality” to Malthus just as unreasonable as Marx’s hatred of him [Malthus]. But his stock has much appreciated due to the work of Leijonhut‘vud and Clower on Keynes and Malthus, and by Thomas Sowell in the late 19605, . and the [All of these professors werein . UCLA’s Econonfi'cs Department when they were reappraislng Maul:me the mid 1930s, one economist as the University of Tasmania wrote: ‘hls [Malthus’s] reputation as a theorist is deservedly higher than at any time in this century.” COPYRIGHTED MATERIAli-DO NOT DUPLICATE THE FURTHER EMERGENCE 0F POLITICAL ECONOMY IN THE ENGLISH SPEAKING WORLD The East India Company will be the base for two other important political economists: James Mill, and his son, John Stuart Mill.. We can call them this -— they would have recognized that name for their specialization. But before we turn to them, we will discuss Ricardo. He was a very wealthy stockbroker who wanted to publicize his own ideas. What we have to recognize is that .- Adam Smith did not create a school of thought at the University of Glasgow. What happens is that as economic life becomes more complex in various places in Great Britain, France and the United States, professors are appointed to lecture on political economy. You may wonder about the professorship at South Carolina College in the list below. But South Carolina College is one of the oldest state supported colleges in the United States, and a few decades later was a leading intellectual centen. Charleston, the town, — was heavily engaged in foreign trade. 1305. Malthus started lecturing on History, Commerce and Finance at the East India Company. 1813 at Columbia University, a professorship of Moral Philosophy and Political Economy was set up. 18%. A Professor of Chemistry started lecturing on Political Economy at South Carolina College. 1325. The Drummond chair of Political Economy was set up for Nassau Senior. 3823. John Ramsay McCulioch starts lecturing at University College, London. 1832. Samuel Mountifort Longfield, a lawyer, was the first incumbent of a chair in Political Economy at Trinity College, Dublin. 1857. It should be noted that the appointments above were not necessarily life time appointments. It was not until 135';1r that a National Assoication for the Promotion of Social Science came into being, that stipends and tenures of existing chairs started to be regularized Founders of chairs in Political Economy before then ware not necessarily thinking in term of a continuous offering of the subject. DAVID RICARDO {1771-1823} 1T72 Born to Dutch~chish parents. 1786 [141 In the family business as a broker on the London Stock Exchange. . 1792 [20] Jobber and operator in London. 1793 [21] Breaks with the family due to the fact that he married a Quaker. " 1797 [25] Had amassed‘a huge fortune. 179 [27] Reads Wealth ofNoJ'tons and Essay on - Population. 1809 [37] His letters on economic topics are published in the Morning Chronicle. 1310 [38] His book High Price of Bullion is published. 1814 [42] Retires as stockbroker. 1815 [43] Starts What becomes a closa relationship 'with Maithus. 1317 [45] Completes Principles ofPoliticol Economy and Taxation. 1818 [46] Sheriff of his county. 1819 [47] Buys a seal in the British Parliament- an Irish seat. 1823 [52] Retires from the ParliamenL Dies of an ear infection that spread to his brain. In his later life, Ricardo made himself known to what we would now cail “economists” of hisday. _ _ He had an extensive correspondence with Malihus and McCullocb, and was much influenced by Jeremy Bentham and James Mill. weakness PARLIAMENI- . During Ricardo’s time in the Parliament, one of the big issues was the Bn'tish Corn Laws. Esseniidly, these laws protected from competition large British 'landowners producing wheat or renting their land to wheat producers. Ricardo was a Tory poiiiically, and the Tory party , as we have mentioned before, was Royalisl and in favor of the landed aristocracy. But Ricardo who favored free trade was against the Corn Laws. He also voted in favor of Parliamentary reform, extension of the franchise, legalizing labor unions, and removing commercial and industrial reskicfiom He also promoted the interests of his Irish constituents. Due to these positions, he was often in opposition to his own party. Still, while he was not a great ora_tt_u_r,_h_e was viewed aslbaving a voice of reason. ' The first thing to get about Rieardo's economics is that he had a totally different objective to that of Adam Smith‘s. He says this himself in his preface to The Pn'ncz‘ples ofPoliifcoI Economy and Titration, {1817}: “The produce of the earth — all that is desired from its surface by the united application of labour, machinery and capital is divided among the three classes ofthe community. Namely, the proprietor of the land, the owner of the stock or capital necessary for its cultivation, and labourers by whose industry it is cultivated. _ But in different stages of society, the proportion of the whole produce of the earth which will be allotted to each of these classes, under the name of rent, profit and wages, will be totally different: depending mainly on the actual fertility of the soil, on the accumulation of capital and population, and to the skill, ingenuity, and instruments employed in agriculture. To determine the laws which regulate this distribution is the principal problem of Political Economy: much as the science has been improved by the wisdom of Thrgot, Stueart' ,Smith, Say, Sismondi, and others, they afford very little satisfactory information respecting the natural course of rent, profit, and wages.” Stanley Jevons [1835-1882] remarked: “Ricardo gave the whole course of English economics a wrong twist.” Professor 11.8. Foxweli [1349-1936], a few years later, remarked: Il [English economics — Prof M.] became unhistoricai, unrealistic...” And nilirln will be MPP ate the subsistence wage. ' David Ricardo W , Footnote: M. has not ionnd Marshall’s I . Mathetieal gnodel he derived from this. He has looked into the materials that Marshall gave tolthe University of Bristol where Marshall was Principal when the University was a University College of Oxford. He hopes to have a look at the Marshal] materiaishe left to‘Cembfidge University but he strongly suspects, that Marshall’s working papers have not survived. He was notorious for flow ing stuil' in his wastepa :- basket. Michael J. Goot'eeit hoe formh'xed Ricardo’s model for a Ph.D. dissertation at Columbia University. And we will'anaim Ricardo with an example based on the Gootzeit model. Before we do that let us make an important distinction. §H<H Ricardo assumes that the intensive and extensive m'gim‘finbeeml I:stan aireturn: “there cannotbetwo rateofpmfiqun On a given farm, successive d . osesof 1 ho applied. We get the familiar linear a r are deem“ in marginal returns measn Quarters orwheat. Rd in COPYRIGHTED MATEEIAL-DO NOT DUPLICATE We actually have a rather dumb farmer who pushes production tog“. Along comes the landowner with the same argument and takes w gun, as rent. 1. As the need for food develops, rents to landlords will inc-ease. machineryvconnected with the production 11 of marries, as well as by discoveries in the science of agriculture, which enable us to relinquish a portion of labor before required, and therefore to lower the price of the prime necessary or the laborer. Principles, 1:. 71 [Note the 1word “gravitated. We can Show this in a Council diagram by [I] reducing the wage fund and [2] by pushing out the MPP l'unch‘on. permits the importation of load, may accumulate a _ large stock of capital without any great . diminution in the rate of profits, or any great _ increase in therenl of land.” [p.76]. End of lecture and end of set ‘*’*‘*tt*tm&l¥¢¥ltt COPYRIGHTED MATERIAL-DO NOT DUPLICATE ...
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