Mercantilism, Capitalism, and Adam Smith
Overview
Mercantilism, Capitalism, and Adam Smith
This Scottish philosopher applied the principles of the Scientific Revolution to the study of economic activity at a time when the Market Revolution was transforming European society.
Learning Objectives
- Discuss Adam Smith and the principles of capitalism.
- Compare and contrast mercantilism and capitalism.
Key Terms / Key Concepts
science of man: a topic in David Hume’s 18th century experimental philosophy A Treatise of Human Nature (1739), which expanded the understanding of facets of human nature, including senses, impressions, ideas, imagination, passions, morality, justice, and society
Joint stock company: a corporation organized by merchant capitalists who pooled their financial resources (their capital) with other capitalists and decreased their personal liability (Each merchant-capitalist owned a share or stock in these companies.)
Laissez-faire: an economic concept advocated by Adam Smith in Wealth of Nations (1776), which maintained that governments should not interfere in the economy and the law of supply and demand, but should instead adopt a “hands-off” (laissez-faire) approach to the economy
The Market Revolution and Adam Smith
When Adam Smith published Wealth of Nations in 1776, Smith's homeland, Scotland and much of the world was experiencing rapid change due to the Market Revolution. Since the period when the first complex cultures arose in ancient Mesopotamia around 4000 BCE, roughly 90% of the population in complex cultures had worked as farmers and lived in the countryside. The Market Revolution effectively transformed how people earned a living and where they lived. Due to this revolution, the percentage of people in such societies engaged in agriculture declined over a relatively brief period, while the percentage of people employed in trade and industry and living in towns and cities dramatically increased. This revolution began in Western Europe in the mid-18th century and over the next century spread across the Atlantic to North America. By 1900 in the United States, the largest economy in the world by this point, just over 50% of the population lived in cities and worked in trade and industry. This revolution resulted from the tremendous growth of markets and capitalism in the 18th century, but this forward momentum had initially begun with the development of new trade networks due to the Age of Discovery.
Causes of the Market Revolution
The Market Revolution that began in the mid-18th century had its origins in a population growth surge during that century, which resulted in a huge demand for goods and services. The development of trade networks and an expanding money economy in previous centuries due to the Age of Discovery made it possible for merchant capitalists to supply this ever-rising demand for goods. The Scientific Revolution provided a means for these suppliers to create and apply new technology to produce and transport these goods. Finally, beginning in the 18th century, the burning of a "fossil fuel"—coal—provided an abundant source of energy to fuel all this new technology.
The population increase in the 18th century coincided with the end of the Little Ice Age. Rising global temperatures in this century led to longer growing seasons and larger food harvests, which in turn resulted in a general population that was better nourished and least likely to fall victim to epidemic diseases. Increases in food production also improved the nutritional levels of children, who were, consequently, more likely to survive childhood and reach adulthood. Nutritional levels in this century were also higher across Europe due to the introduction of the New World crops: maize and potatoes. Potatoes are rich in nutrients and require less land than wheat to grow the same amount of food. In Europe in the 18th and 19th centuries potatoes quickly became a staple in the diet of the working classes. In rural Western Europe and Ireland in particular, the introduction of potatoes actually lowered the marriage age from the mid to late 20s to the late teens and early 20s. A young couple could marry at a younger age since, with the potatoes, they didn't need as much land to raise enough food to support themselves and their children. The lowering of the age of marriage increased the childbearing years for women and, thereby, further increased the rate of population growth.
The population increases of the 18th century stimulated the demand for goods. By this time a flourishing market economy was already in place to meet this demand. The Age of Discovery resulted in the development of new trade routes because the upper classes in Europe desired exotic luxury goods. People raised their social status by purchasing and consuming this type of good. To meet this demand, merchants traveled to distant lands to acquire these goods, which included tea, coffee, sugar, tobacco, spices, and cocoa, silk, and porcelain. Since travel to such places as China, India, and the New World was expensive, as well as dangerous and risky, merchant capitalists pooled their financial resources (their capital) with other capitalists and decreased their personal liability by forming joint stock companies. Each merchant-capitalist owned a share or stock in these companies. The largest of these companies—the English East India Company and the Dutch East India Company—monopolized trade with India and the East Indies (modern Indonesia). Joint stock companies also financed the foundation of new colonies, such as the Virginia Company that founded Jamestown in 1607 in Virginia—the first successful English colony in the New World. Colonies in the New World also produced luxury goods for European markets. Portuguese Brazil and French Haiti produced sugar, while the English colony of Virginia raised tobacco for customers in Europe.
In these New World colonies, imported African slaves labored on sugar and tobacco plantations to raise these cash crops. The high demand for African slaves to work on these plantations was a key factor in the development of trade across the Atlantic Ocean in a commercial system known as the Triangle Trade, which involved the colonies in the New World, as well as Europe and Africa. By the 18th century, American merchants from the northern English colonies, such as New York and Massachusetts, were also involved in this trade network. These merchants traveled to the sugar plantations on the Caribbean Islands and exchanged corn, wheat, and timber for sugar, which they then transported across the Atlantic, often in the form of rum, and sold in England in exchange for manufactured goods. American merchants sold these manufactured wares to the colonists back home or traveled to Africa to exchange these goods for slaves to sell in the colonies.
Beginning in the 16th century, the influx of gold and silver into Europe from the Mexico and Peru provided the precious metals for use as currency to facilitate these increases in commercial transactions. By the end of the 17th century, however, there were shortages of these precious metals due to enormous demand. In 1690 in the American colony of Massachusetts, the local government resolved this problem by chartering a bank that had the authority to print paper money. In the American colonies the shortage of metallic currency was severe, so the bank backed up its printed currency (a bill of credit) with the monetary value of their investors’ land. Consumers could use these bills of credit issued by the bank as cash (legal tender) in commercial transactions. In 1694 the English government chartered the Bank of England, which had the authority to issue paper currency (banknotes), that were backed by their investors. In the 18th century, the great success of this bank allowed the British government to borrow huge sums from this bank to cover the cost of the Seven Years War. The expansion of trade and the money supply through the 18th century generated tremendous profits, which were used to invest in new technology for the manufacture and transport of goods, as demand for goods continued to grow. The joint stock companies provided a means for investors to pool their resources for these new investments.
The Scientific Revolution and the Enlightenment not only stirred up enthusiasm for new scientific discoveries, but also interest in new technology and industrial processes that could raise people's standards of living and promote "progress." Benjamin Franklin, for example, not only conducted scientific experiments regarding electricity, but he also was a famous inventor of the wood burning "Franklin" stove and bifocals. The scientific method could also serve as a means to invent and test new technology. Capitalist entrepreneurs and inventors employed the scientific method to find new ways to improve agricultural productivity or improve the efficiency of an industrial operation. For example, Englishman Josiah Wedgewood (1730 – 1795) was constantly looking to improve the designs of his pottery and improve the efficiency of production. He had each of his workers specialize in just one aspect of the pottery production process, so that the finished product was the collaborative work of all the workers. Wedgewood was both an innovator and successful businessman. His personal fortune upon his death was just over $264 million in today's currency.
The 18th century also witnessed the growth of the coal industry. The development of the steam engine provided a way to transform the burning of coal into energy that could power new technology. In the 18th century in England population growth created a huge demand for wood to burn for heat and for cooking, but the forests of England could not provide enough wood to meet this demand. Consequently, people turned to burning coal for heat and for cooking. However, miners had to remove coal from the ground in mines, and miners constantly found their way blocked by groundwater. In 1712 an English hardware salesman, Thomas Newcomen (1664 – 1729), set up the first primitive steam engine to pump water out of a mine. A Scottish inventor, James Watt (1736 – 1819) worked to improve upon this steam engine and make it work more efficiently. Watt's labors paid off with his invention of a new and improved steam engine by 1769. Industrialists quickly discovered that they could use Watt's steam engine to power their machines and improve production. Due to this steam engine, industrialists didn't have to depend on unreliable streams or rivers or wind to power watermills and windmills for their factories. Instead, they could set up their manufacturing business anywhere they desired and employ the steam engine to power their factories.
The Enlightenment and the Social Sciences
Enlightenment thinkers of the 19th century used their analytical skills to examine their societies as these rapid changes took place. David Hume (1711 – 1776) and other Scottish Enlightenment thinkers developed a science of man that was expressed historically in works by authors including James Burnett, Adam Ferguson, John Millar, and William Robertson, all of whom merged a scientific study of how humans behaved in prehistoric and ancient cultures with a strong awareness of the determining forces of modernity. Against philosophical rationalists, Hume held that passion rather than reason governs human behavior and argued against the existence of innate ideas, positing that all human knowledge is ultimately founded solely in experience. According to Hume, genuine knowledge must either be directly traceable to objects perceived in experience or result from abstract reasoning about relations between ideas derived from experience. Modern sociology largely originated from this “science of man” movement.
One of the most influential thinkers of the Scottish Enlightenment was Adam Smith (1723 – 1790). He published The Wealth of Nations in 1776, which is often considered the first work on modern economics. It had an immediate impact on economic policy that continues into the 21st century. The book was directly preceded and influenced by Anne-Robert-Jacques Turgot and Baron de Laune’s drafts of Reflections on the Formation and Distribution of Wealth (Paris, 1766). Smith acknowledged indebtedness to this work and may have been its original English translator.
Adam Smith
Adam Smith employed empirical observation to the study of economics, which concerns knowledge related to the production and distribution of wealth. Just as Isaac Newton identified certain laws that govern the operation of the physical world, Smith recognized laws that also govern human activity, such as the exchange of goods. According to Smith, the prices for goods that are involved in commercial exchanges should be determined by the law of supply and demand. High demand for a good and low supply results in a higher price for that good, while low demand and high supply results in a lower price. According to Smith, when the law of supply and demand freely operates in a market economy, the generation of ever greater levels of wealth occurs, a process that he referred to as the “invisible hand.”
Smith was strongly opposed to the policies of mercantilism that were practiced by European states in his day. Governments through these policies were using the coercive power of the state to set prices artificially by not allowing the law of supply and demand to operate freely, as it should in a market economy. For example, these governments placed high custom duties on certain imported goods, which inflated the price of these goods for consumers. These consumers would thus purchase goods that were produced locally that were cheaper rather than the more expensive goods imported from abroad. The goal of mercantilism was for the state to accumulate precious metals, and the purchase of imported goods drew these precious metals away from the state.
Smith also objected to the government practice of granting trading monopolies to companies, such as the monopoly enjoyed by the English East India Company. Smith also opposed the granting of monopolies to certain guilds for control of trade or manufacturing of goods. Such monopolies, according to Smith, enabled these entities to set prices for goods in violation of the law of supply and demand, since they artificially controlled supply due to the government mandate. Smith maintained that governments should not interfere in this manner with the law of supply and demand. They should instead adopt a “hands-off” (laissez-faire) approach to the economy. Consequently, the “invisible hand” of the free market would allow for the expansion of wealth as people were free to purchase and sell private property at prices set by the law of supply and demand. In the centuries after Smith published the Wealth of Nations, capitalists have embraced Smith’s advocacy for free markets and laissez-faire government policies. In the 19th and 20th centuries, for example, proponents of Smith’s “Classical Economics” maintained that the formation of trade unions and a government set minimum wage interfered with free markets and were a threat to economic progress.
Attributions
Title Image
https://commons.wikimedia.org/wiki/File:AdamSmith.jpg
Adam Smith - Etching created by Cadell and Davies (1811), John Horsburgh (1828) or R.C. Bell (1872)., Public domain, via Wikimedia Commons
Adapted from:
https://courses.lumenlearning.com/boundless-worldhistory/chapter/the-age-of-enlightenment/