Tuesday, August 10, 2010

A Glance at the "Wealth of Nations"

I took a course entitled "History of Economic Doctrines" (ECON 434) when I was an undergraduate at UNC-Chapel Hill. Our primary textbook was Ekelund and Hebert's "A History of Economic Theory and Method". Over a year has passed since that time, and in my personal and professional studies as a graduate student at UNCG, I look back fondly on that book with a better understanding of its shortcomings. Apart from the historical knowledge, the best piece of advice that book offered to me was this--read the Wealth of Nations.

For those of you who might not be familiar with it, "An Inquiry into the Nature and Causes of the Wealth of Nations", is the masterwork of Adam Smith, who can be considered the father of classical economics. The tome contains as much history as it does economic theory, and a great deal of philosophy. I began to read it during my course on Economic History, but spent over a year reading it. I can proudly say that the book lives up to its hype. Furthermore, after reading it, I feel popular impressions of the book have been skewed by personal bias in addition to outright ignorance. Adam Smith might be the father of the famous "invisible hand" metaphor, but he was also a staunchly progressive supporter of the rights of the worker, and a realist on the role of government and taxes in the economy.

Here are some of what I feel are the most important points:

1. The division of labor within an economy is an important source of increases in productivity. It allows specialization, which feeds a cycle of innovation expand the amount of output and reduces the amount of time required for production with a given amount of resources.

2. "Every man is rich or poor according to the degree in which he can afford to enjoy the necessaries, conveniences, and amusements of human life." It is real income and its distribution that matter, as I interpret it.

3. The total income of a society can be divided into wages (for the workers), profit (for the entrepreneurs), and rent (for the capitalist). I have embellished Smith's definitions a bit, as I agree with other writers that he uses profit and interest ambiguously.

4. Effective demand and current supply determine the price of a good in the short run, but in the long run this price gravitates to its "natural price" or average cost.

5. Trade secrets, monopolistic practices, and simple public ignorance can keep prices high almost indefinitely.

6. High wages (to workers) are beneficial to society, but require a growing economy. They are still offset by the ease with which management can organize compared to labor, so that workers often find themselves earning subsistence wages.

7. The relative danger of a job, the education required, and the trust placed in the worker all affect its standing to the "average wage".

8. Efficiency wages, or paying more than a subsistence wage, might actually be better for the general economy because it may increase the productivity of the workers.

9. The state of profits in an industry can be ascertained by looking at the rate of interest required to enter that industry relative to the average rate.

10. The interest rate tends to fall as capital becomes more plentiful, ceteris paribus.

11. High profits tend to raise prices more than high wages.

12. Many people, especially the young, overestimate their abilities, and are willing to task risks that would not fit the required reward of a risk averse individual.

13. Laws aimed to artificially restrict the labor supply of an industry are harmful by reducing output and promoting the formation of black markets.

14. Artificially inflating the labor supply of an industry is less harmful, especially if the industry performs a public service.

15. An economic rent is the result of scarcity that results from a market failure.

16. Free trade between different economies allow them to make favorable exchanges by trading those commodities that their own division of labor has given them an advantage in producing. This benefits (or at least does not harm) all economies involved.

17. Businessmen usually organize to advance interests that run counter to the economy as a whole, and thus can damage national and public income.

18. Tax revenue should be spent by the government on defense, the justice system, and the provision of public goods. Public goods include infrastructure that is beneficial to the economy as a whole, and should be paid for by the users when possible.

19. Taxes should be leveed with an eye for equality, their amount should be certain to some degree, they should be easy to pay, and they should not be costly to collect (but they should be collected by the public authority).

20. Taxes must ultimately fall on wages, profits, or rents. And taxes on luxury goods with relatively inelastic demands are likely to be the least disruptive.

21. The government should not run a budget deficit which market spirits judge as unsustainable.

22. Religions should be allowed to compete without state sanction or interference.

23. Markets, when they function properly, are the best mechanisms for allocating a fixed set of resources.

Too long to read summary: I read the Wealth of Nations. I learned that free trade and the division of labor help economies grow, workers need a hand against management, that tax collection should be sane, and that markets work very well when business owners are afraid of rent seeking.


  1. Great overview. I plan to read that book as well.

  2. Thanks, I left out a lot of the history and general philosophy, which are also interesting albeit off topic. With one section of the book, you essentially get a whole semester of Western Civilization!