Chapter 5: ADAM SMITH-SYSTEM BUILDER

importance of economic growth as a means of bettering the condition of mans existence

INTRODUCTION Adam Smith Born in kircaldy, Scotland 1723. Father died few month- before and a mother who lived to the ripe of old age of ninety. professional syndrome, apt pupil , fits of abstraction Observe smiling to himself, walking asleep, fell into a tanning pit and dropped his bread and butter into boiling water. amalgam of protrusions- protruding lower lip, large nose and a bulging eyes Nervous affliction, his head shook and he had a speech impediment. a beau in nothing but books- leading philosophers of his day Lectured on natural theology, ethics jurisprudence and political economy Student of Frances Hutchenson, a friend of david hume and acquaintance of Quesnay. The theory of moral sentiments Published in 1759 Attempt to identify the origin of moral judgments or moral approval or disapproval Man is a creature of self-interest. Capable of making moral judgments on the basis of consideration other that selfishness Moral judgment-holding self interest Morality actually transcends selfishness Wealth of nation: logical extension of T.O.M.S

NATURAL LAW AND PROPERTY RIGHTS economics: political economy chief political and economic problem: relation of individual to the state and proper function of the state to its members Physiocrats natural order based on natural law as opposed to positive law natural reflected the mind of the creator natural law has a higher sanction positive law- the less of it the better laissez faire as an integument of natural law

Alexander gray Natural law easier to talk that to codify Natural law concerned with personal prop. Each individual has in himself. There is a body of rights of man. If need be against the state Natural law implied a restriction of the function of government

Invisible hand Selfish security, gains

Natural harmony exist with the interference of the government

HUMAN NATURE Smith: neither rationalist nor a idle dreamer Hardheaded realist Based analysis of society on unchanging human character Featured of psychology of humans Human interested on things nearest to us( we are important to ourselves Overwhelming desire of every man to better his condition( we have it from the womb and will never leave us)

NATURE OF SMITHS ECONOMIC SYSTEM Father of economics system builder Constructed a general system of analysis The system combined a theory of human nature and human history, peculiar form of natural theology and observation of economic life Featured activities on agriculture, mfctng and commerce Exchange: facilitated with money

Humans are self interested W.O.N : economic man (human faculty which holds S.I )

Production: characterized by division of labors 3 main features of his analysis Division of labors Analysis of price and allocation nature of economic growth

T.O.M.S: moral man (Competition is the economic faculty that restrained S.I) - in fact, competition pursuit S.I will improved the economic welfare of society( liberal idea) - without govt control: no chaos - Both creatures of self interest

accomplishment economic as a separate discipline of scientific inquiry classical period in economic thought o commonly belief in natural liberty( laissez faire)

Monopoly Unbridled self interest Destruction of economic welfare Sellers charge high prices

They cannot unless they have monopoly privileges Enemy to good management

Towns became the haven of capitalists. City law protects runaway serfs o SERFDOM- peasant tide to land and owe a certain amount of labor Serf accumulate surplus: buy back this obligation by paying money rent Peasant became nearly independent and businessman

Competition o Lower prices to attract customers Lower consumer price Improved economic welfare Civil govt a result of privates property and accumulation of wealth In Civil society a wealth hierarchy leads to a power hierarchy W.O.N No exclusive rights Equal footing Little demand for formal structures of civil govt Small population Nomadic BOOK 2 Old and wise provides leadership Self imposed subordination BOOK 3 Inequality of fortunes Degree of authority civil government security of property defense of rich to the poor BOOK 5 more stable food increased specialization larger population feudalism Central theme: economic growth Physiocrats focused on net products Smith focused on growth in national wealth/ national income THE MICROECONOMIC THE FOUNDATION OF W.O.N Taxation and fiscal policy BOOK 4 mercantilism and barriers for free trade Economic development of Europe Theory of capital and interest BOOK 1 Division of labor, use of money and determinants of prices, wages and rent Attack on mercantilism Justification of laissez faire Contains relevant economic analysis o

A THEORY OF HISTORY: S.I AND E.O Self interest, property rights and division of labor. Intertwined in economic growth Four evolutionary stage

Hunting -

Pastoral Farming -

Commercial growth of cities as trading centers urban trades men and mechanics given equal tax system with rural counterparts, farmers city dwellers got a exemption on certain trading taxes free traders and first capitalist townspeople allied with the monarch the king granted concessions in return for their allegiance against feudal lord. Fiscal independence may obtained in return for a lump sum tax paid to the king self governance and establishment of rule of lawexpansion of trade flourishing trade result of interaction of S.I prop ryts and institutional change

Theory of value Division of labor : propensity of human nature to exchange Each traders must have a surplus in which to trade Money comes because money makes transaction convenient

Value is observe in exchanging goods from money Value in use and value in exchange

Labor as a measure of value Real measure of the exchangeable value of all commodities Value=labor

 Prices

What is bought with money or with goods id purchased by labor

Land lord demand his share of the annual profit. Capitalist demand on the share of the capital accumulation. Landlord and capitalist share in the produce of labor Purposeless to predict the effect of increased labor productivity upon wages.

Most common measure of value The value of price changes over time( shortcoming of monetary measures) Nominal and real prices Market value: rent, waged and profit Opportunity cost True measure of value= labor time Source of value= cost of production

Classical wages-fund concept( theory of wages and capital) Rationale for saving. Explanation of wages and profit and determination of population growth Workers are dependent on capitalist in order to survive Increased wages = induced capitalist to save(only way is to increased profit) Hoarding appears irrational. All savings are invested

Market price versus natural prices Bread and butter of economist: partial equilibrium analysis Market price = interaction of supply and demand in the short run Natural prices long run cost of production( prices used to cover the cost of production) Effectual demand and absolute demand Demand elasticity Supply elasticity Atomistic competition diffusion of economic power. Provides automatic check to individual abuse of power. Normative concept of price - unnecessary to atomistic competition Market price must cover the production in the long run Demand makes its own claim as the determinant of value. Willing to pay = amount desired Effectual demand( desire + purchasing power) Customers are willing to pay the natural price. The price use to cover the cost of production

Capital accumulation makes it possible to employ labor Also constitute a fund( advances to workers) for the maintenance of working population

Subsistent theory Wages rise sufficiently above subsistence.

Natural wages= subsistence wages Macroeconomics: aggregate level of wages Microeconomics: equilibrium wage differential Factors affects wages

Wages is inversely proportional to agreeable of the employment constancy of employment probability of success

direct relation cost of learning the business the trust placed in the employee

Absolute demand( aggregate desire) Profit and interest Supply as the determinant of value through labor Two points of smith Natural price as invariant standard over the long run Real market often deviate from the ideal o Accidents( holding back information keep up the market price) Trade secrets( govt grant of monopoly privileges and trade secrets) profit as a return of capital profit is fluctuating aggregate profit, interest as proxy to profit revenue derived form stock he employs interest derive from stock that he didnt employed profit as the sum of two payment return on capital advanced compensation for the risk

Product prices cannot be in long run equilibrium unless factor prices are also in long rum equilibrium

obiter dicta surplus is clear profit increased in stock= raises wages=lower profit Higher profit= raise the price that wages.

FACTORS OF PRODUCTION AND THEIR SHARES

Wages Wages are determined by productivity Rent

Rent hinges on three factors

Monopoly element Residual surplus idea Alternative costs

Rent of land is naturally a monopoly price The price paid for the use of land Fertility and location(land fitted for a particular product may have a monopoly Residual payment remaining after all other cost of production Rent id price determined not price determining High or low rent is the effect of it Differential rents can be explained on the basis of alternative costs The rent of land in a particular use will depend greatly on the productivity of land in is best alternative use.