Efficiency and Markets Flashcards
Efficiency and Markets: Adam Smith
Political Economy: Three Theories of Modern Food
Adam Smith's lectures on political economy focus on understanding the emerging market society in the context of food production, consumption, and trade.
Summary, Circa 1776
The key features of the world in 1776 included:
New World colonies and plantations establishing a global food system.
Growing cities with urban factories employing a new working class.
Steam engines enhancing coal mining and industrial power.
Agricultural improvements increasing yields and changing production methods.
Enclosures privatizing land and displacing commoners.
Political economy developing to explain this market society.
The Problematic of Political Economy
Political economy seeks to address issues related to:
Land, labor, money, and capital.
Value and the role of law/government.
These factors influence complex problems such as poverty, food shortages, vagrancy, riots, urban slums, and social unrest, potentially leading to revolution.
Adam Smith (1723-1790)
Adam Smith was a Scottish philosopher and economist.
He was educated at the University of Glasgow and Oxford.
From 1751-1763, he was a Professor of Moral Philosophy at the University of Glasgow.
Key works include:
The Theory of Moral Sentiments (1759)
An Inquiry into the Nature and Causes of the Wealth of Nations (1776)
The Problematic of The Theory of Moral Sentiments
Key elements addressed are:
Land
Labor
Law/Government
Morality
Capital
Value
Money
The Problematic of The Wealth of Nations
Key elements addressed are:
Land
Labor
Law/Government
The Market
Capital
Value
Money
The Division of Labor
Smith argued that the division of labor significantly improves productivity:
"The greatest improvement in the productive powers of labour, and the greater part of the skill, dexterity, and judgment with which it is any where directed, or applied, seem to have been the effects of the division of labour." --Wealth of Nations, opening paragraph
Example of the Division of Labor
In a community, various workers each have specific roles:
Farmer, Grocer, Blacksmith, Tailor.
Productivity Gains from the Division of Labor
Example: Pin Production
10 men can produce 48,000 pins per day.
This averages to 4,800 pins per person.
Working alone, each might only produce 20 pins.
This illustrates significant "industry and improvement".
Reasons for Increased Productivity
The division of labor leads to:
Economies of scale
Specialization of skills
Efficiency of motion
Mechanization
Causes of the Division of Labor
Smith argued that the division of labor is not the result of deliberate human wisdom, but a natural consequence of human behavior:
It “is not originally the effect of any human wisdom, which foresees and intends that general opulence to which it gives occasion. It is the necessary, though very slow and gradual consequence of a certain propensity in human nature which has in view no such extensive utility; the propensity to truck, barter, and exchange one thing for another.”
Example of Exchange
Farmer Alfalfa grows food.
He keeps some for his family and sells the rest to Grocer Cat for money.
Grocer Cat sells the food to people in Busytown.
Labor and Value
The division of labor leads to the generalized use of money.
Two kinds of value:
Use-value
Exchange-value
Example of Value Exchange
Farmer Alfalfa uses money earned from Grocer Cat to buy a suit from Stitches, the tailor.
Value vs. Price
Real price:
“The real price of every thing, what every thing really costs to the man who wants to acquire it, is the toil and trouble of acquiring it.”
Money:
Money expresses nominal price but “can never be an accurate measure of the value of other commodities”.
Market Prices:
Prices are set in the market based on supply and demand.
Value:
Value is “abstract” and non-obvious.
The Labor Theory of Value
The value of a commodity is determined by the labor required to produce it.
“The value of any commodity, therefore, to the person who possesses it, and who means…to exchange it for other commodities, is equal to the quantity of labour which it enables him to purchase or command. Labour, therefore, is the real measure of the exchangeable value of all commodities.”
Exchange-Value as a Function of Time
Labor is the ultimate standard of value:
“Equal quantities of labour, at all times and places, may be said to be of equal value to the labourer… Labour alone, therefore, never varying in its own value, is alone the ultimate and real standard by which the value of all commodities can at all times and places be estimated and compared. It is their real price; money is their nominal price only.”
Efficiency gains drive real prices down.
Accumulation and Appropriation
Early State of Society:
“In that early and rude state of society which precedes both the accumulation of stock and the appropriation of land…”
Original State:
“In that original state of things, which precedes both the appropriation of land and the accumulation of stock, the whole produce of labour belongs to the labourer.”
Original State Depiction
The laborer owns the land and all produce.
Accumulation of Stock Depiction
Introduction of a capitalist class alongside laborers and landlords.
Appropriation of Land Depiction
Illustrates the roles of landlord, laborer, and capitalist.
Civilized Country Depiction
Sources of Revenue:
“Wages, profit, and rent, are the three original sources of all revenue as well as of all exchangeable value. All other revenue is ultimately derived from some one or other of these.”
Labor: Wages
Capital: Profit
Land: Rent
Natural vs. Market Price
Natural Price:
“Ordinary or average” rate of wages, profits, and rent.
Market Price:
“Actual” prices in the market.
Market prices fluctuate based on circumstances.
Labor as a Commodity
Smith argues labor is subject to supply and demand like any other commodity:
“The liberal reward of labour, by enabling them to provide better for their children, and consequently to bring up a greater number, naturally tends to widen and extend those limits…. If the reward should at any time be less than what was requisite for this purpose, the deficiency of hands would soon raise it; and if it should at any time be more, their excessive multiplication would soon lower it to this necessary rate… It is in this manner that the demand for men, like that for any other commodity, necessarily regulates the production of men…” (p. 98)
Wage Determination
Two factors regulate the money price of labor:
The demand for labor.
The price of necessities and conveniences.
Wages cannot fall below the cost of reproducing laborers.
Smith: The “Invisible Hand” for Labor
A self-regulating mechanism:
Population growth leads to increased labor supply.
Wages and prosperity influence labor supply.
Higher profits lead to increased accumulation and investment.
Increased demand for labor.
Smith: The “Invisible Hand” in General
Rising Demand:
Rising demand for a product X increases profits for its producers.
This increased profit leads to increased accumulation and investment.
Prices for X increase initially, but supply increases, eventually causing prices to decline.
Decreasing Demand:
Decreasing demand for a product X decreases profits for its producers.
This leads to decreased accumulation and investment.
Prices for X decrease, causing supply to decrease and prices to rise.
Smith: Competition à Efficiency
Firms innovate to gain a competitive advantage:
Firm Y discovers a more efficient way to produce X.
Profits increase for Y, leading to accumulation and reinvestment or lower prices.
Y gains a competitive advantage; competitors lose market share.
Competitors must adopt new methods or exit the business.
The entire industry attains the new level of efficiency as profits equalize and prices stabilize.