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Adam Smith's Theory of Economic Growth: Part II

Author(s): Joseph J. Spengler


Source: Southern Economic Journal, Vol. 26, No. 1 (Jul., 1959), pp. 1-12
Published by: Southern Economic Association
Stable URL: https://www.jstor.org/stable/1055862
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The SOUTHERN ECONOMIC JOURNAL

VOLUME XXVI
July I959 NUMBER I

ADAM SMITH'S THEORY OF ECONOMIC GROWTH-PART II*

JOSEPH J. SPENGLER

Duke University

IV
of things, therefore, the greater part of the capi-
In the preceding sections I have examinedtal the
of every growing society is, first, directed to
agriculture,
roles played in Smith's theory of economic de- afterwards to manufactures, and last
of all to foreign commerce."81
velopment by division of labor, capital accumu-
lation, natural resources, and the state. In Underneath
the this sequence Smith found a ra-
sections making up Part II of this paper tionale,
I deal based upon the supposition that the im-
mediate objective was augmentation of employ-
with what Smith described the "natural" course
of development to be. I treat also of the ment.
subse-Until agriculture was fully developed,
quent evolution of some of the concepts heavy
origi-and continuing investment therein was
nated or popularized by Smith. indicated; for capital thus employed set more
laborers
The optimal or natural course of economic de- to work than did investment in any
velopment was that which men followed when employment,
other a and (in modern terms) the
output-capital ratio was high since man also had
system of natural liberty prevailed. This course
the assistance of (a non-niggardly) "nature."
Smith described in Book III on "the different
Nonetheless,
progress of opulence in different nations." How too little capital was flowing into
and why men proposed to deviate from agriculture;
this self-interest prompted the investor
to put
course, together with the penalties of such de-his capital where it yielded the greatest
viation, he considered in Book IV. private advantage, and the disposition resulting
Having identified four somewhat interrelated 1 Wealth, p. 360; this order had been in some
sectors for investment-procuring rude produce,
degree observed in every society "that had any
manufacturing, transportation, and trade or territory."
dis- Smith was always concerned with the
tribution carried on at home or abroad-, economic
Smith significance of economic change. For ex-
observed that capital accumulation proceeded ample, he noted how, with economic progress, the
role of capital increased (e. g., Lectures, p. 181)
most rapidly when capital was "employed in the
and the relative importance of the components of
way that affords the greatest revenue to all the
price underwent modification (Wealth, Bk. I, chap.
inhabitants of the country, as they will thus6). In be
his account of the evolution of the conduct
enabled to make the greatest savings."9and Such
the support of military activities, he even
employments would result when investors in
identified four economic stages through which
search of the best attainable returns werevarious
free societies had passed: hunting; pastoral;
to invest as they saw fit. Then self-interestself-sufficient
would agriculture, together with settled hab-
prompt each to engage in what was most itation;
advan- "civilized," resting upon various combina-
tageous to him.80 Then an optimal sequence tions
man-of agriculture, commerce, and manufacture
(ibid., pp. 659-60). He did not make much use of
ifested itself. "According to the natural course
this theory of stages, however, except to state that,
* Part I of this article was published in the
since men had far less leisure in the "civilized" than
April 1959 issue of this Journal.
in the two preceding stages, effective defense was
Ibid., p. 347; also pp. 341 ff. on "different em-
to be had in the "civilized" stage only through
ployments of capital."
80 Ibid., p. 99. Individual interest led the investorthe establishment of a standing army (ibid., pp.
to employ his capital as near home as possible and 659-60). Only in this stage (in which, despite its
in a way to produce "the greatest possible value"; variegatedness, one finally finds society compara-
capital thus employed was "most advantageous to tively secularized and economic life detradition-
the society." Ibid., pp. 421-23. Smith was always alized) was continuing economic progress possible.
alert to the economic significance of distance. E. g., E.g., see Cropsey, op. cit., pp. 59-64; also note 73
see Lectures, p. 234. above and 137 below.

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TWENTY-NINTH PRESIDENT OF THE SOUTHERN ECONOMIC ASSOCIATION, 1957-1958

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2 JOSEPH J. SPENGLER

did not miake for the greatest social advantage this form of trade was susceptible of vastly more
when competition was imperfect as in expansion Europe.82than was domestic or foreign trade,
Investment in manufacture, though not being aslimited
se- only by the size of that part of
cure as that in agriculture,83 ranked next the world's
after surplus produce, intended for sale
it in number of productive workers in aforeign
givenmarkets.85 "The carrying trade is the
amount of capital could set in motionnatural and also effect and symptom of great national
(apparently) in the magnitude of the wealth; output- but it does not seem to be the natural
capital ratio. Next in order came investment cause of in it."86 Since countries scarcely ever had
internal transport and distribution,enough some capital,
of and since many lacked it even
which always was necessary to enable agriculture for their agriculture, manufactures, and trans-
and manufacture to flourish. Unlike the mercan- it was essential that capital be em-
portation,87
tilists Smith considered investment in foreign
ployed economically; it should not be too hastily
commerce disadvantageous until a country investedhad in external commerce.
developed surpluses of which it must dispose Smith argued in effect that the progress of
abroad.84 For capital turned over muchEurope faster in inagriculture and in material well-being
domestic than in foreign trade and thus gave had been slow because of legally sanc-
in general
rise to more employment. Not until all tioned
other and institutionalized departures from
employments were full would a country's "sur-
"perfect liberty."'8 The towns of Europe should
plus" capital "naturally" disgorge itselfhave into the
developed in response to growing surpluses
carrying trade. He pointed out, however, of ruralthat produce as was happening in America.
s2 Ibid., pp. 92, 344-45, 347, 355; Lectures, It did
pp. not
224 happen so because initially both ag-
ff. When discussing investment in foreign riculture commerce and urban activity were subject to dis-
and the carrying trade, Smith objected that capi- From this the towns were the first
couragement.
tal thus employed turned over very slowly, but he
to escape. Townsmen achieved "liberty and in-
disregarded this in respect of agricultural invest-
dependency," military security, protection
ment (Wealth, p. 349). He remarked that in Eu-
rope the return on agricultural investment against
was heavy
no tax burdens, and security for
better than that in alternative employments. their capital
See and the fruits of their industry.
ibid., p. 355. Smith must have supposed that, Towns with
thus early became sanctuaries for capital
"much good land still... uncultivated" even in Eu-
and craftsmen, and abodes for manufacture, ini-
rope (p. 355), and with the tendency of increase in
tially of clothing and furniture and later of more
produce to create its own market by stimulating
varied products. No town became opulent, how-
population growth and therewith also the demand
for products other than food (pp. 146,ever, 173), until
thethe time of the Crusades when Italian
limitedness of the desire of individuals for cities got rich serving as "commissaries" to exec-
food
(p. 164) would not soon set a limit to the utors of this "most destructive frenzy that ever
aggre-
gate demand for food. He remarked also thethe
befell su- European nations." As a result agri-
periority of husbandry to other activities on aes-
culture benefitted; towns afforded a market for
thetic and related grounds (pp. 357-58).
83 National capital "acquired to any country bypp. 343, 344, 34849, 352-54.
85 Ibid.,
commerce and manufactures, is all a very pre- 86 Ibid., p. 354. Presumably this activity was the
carious and uncertain possession, till some part of best suited to countries where, as in Holland, the
it has been secured and realised in the cultivation interest rate (the best index of profit) was low (pp.
and improvement of its lands." See ibid., p. 395,88, 91-92, 354).
also 359-60; also pp. 392-93, where land is de- 87Ibid., pp. 346-47, 348. Smith's treatment of
scribed as a source of security to the better-to-do capital allocation, at variance with his treatment
but not to a young man of small capital. of self-interest (p. 99), was criticized by Ricardo
84 Even then it would not pay to employ capital (Principles, chap. 21).
in foreign commerce, if superior alternatives ex- 88 See ibid., pp. 11843 on inequalities occasioned
isted. Smith pointed particularly to countries with by "the policy of Europe" which restricted entry
a surplus of raw produce for export and indicated into some employments, subsidized and overdevel-
that it might be to their advantage to rely upon oped others, and obstructed the circulation of labor
foreign capital to move this surplus. See ibid., pp. and capital from employment to employment and
359-60. from place to place.

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ADAM SMITH'S THEORY OF ECONOMIC GROWTH 3

its produce and capital for its improvement,89


posed policies designed to favor agriculture, he
and they demonstrated the advantageousness of
did approve easing somewhat the land-tax bur-
order, good government, liberty, and security.
den incident upon the landlord who cultivated
Great proprietors, who, secure behind "a
entail
part of his own land," saying that experi-
and primogeniture, had done nothing to improve
mentation and improvement would thereby be
agriculture, were now tempted by urbanencouraged,
prod- but he restricted the size of this
ucts; and commonly they either disposed of
exempted "part" to what the landlord could
their lands or leased them to tenants on terms himself supervise.92
that were or would become advantageous to the In Book IV Smith attacked mercantilist prin-
latter. Tillage consequently passed under the ciples and policies, together with restraints upon
control of agricultural "improvers," of whom economic activities and artificial encouragements
the "principal" were "small proprietors," with to industry and commerce. He also examined
"rich and great farmers" next in importance. critically the views of physiocratic exponents of
agrarian capitalism.93 Smith attributed two prin-
It is thus that through the greater part of Eu- ciples to the mercantilists: that wealth consisted
rope the commerce and manufactures of cities, in-
in gold and silver; and that the governments of
stead of being the effect, have been the cause and
countries without mines needed to intervene to
occasion of the improvement and cultivation of
the country. make their trade balances favorable and thereby
This order, however, being contrary to the natu- draw in gold or silver. It was policies directed to
ral course of things, is necessarily both slow and this end, often after having been contrived by
uncertain.9
self-interested producers (e.g., merchants, manu-
facturers), that were inimical to the welfare of
He contrasted Europe's slow growth with the
consumers and to economic progress generally.94
rapid growth of America where a more nearly
Advocates of mercantilist ends and policies fa-
optimal sequence was being followed. He indi-
cated, furthermore, that though European ag- vored the use of duties and prohibitions to re-
riculturalists now had much greater incentive strain the importation of goods that might be
than when feudalism was in fuller flower, Euro- produced domestically or that came from coun-
tries with which an unfavorable balance was
pean agriculture still remained variously encum-
bered by unsatisfactory leases and rents and held to be particularly "disadvantageous." They
burdensome taxes, by restraints on domestic favored encouraging exportation by granting
and foreign trade in produce and by urban cor-bounties or drawbacks to exporters, by securing
porate regulations and practices that made thethem preferential treatment in foreign markets
internal terms of trade less favorable to agri-
through commercial treaties, and by establish-
culture, and by various policies that were mer-
ing colonies and reserving the markets situated
cantilist in origin or spirit.91 While Smith op-
therein for exporters located in the mother
country. Such mercantilistic measures violated
89 The desire to better one's condition could par-
tially correct a malallocation of resources. Smiththe system of natural liberty and occasioned de-
pointed to the accumulation of profits of quasi- parture from the optimal sequence of invest-
monopolistic origin in towns and at the expense
ment and developmental activities, Smith de-
of the country. This accumulation finally depressed
impact on the country, pp. 372-91; of entail, pri-
profits in the towns, with the result that some capi-
tal flowed back into the countryside. Ibid., p. 128.
mogeniture, burdens, etc., pp. 124-26, 128, 361-62,
90Ibid., p. 392, see also ibid., pp. 384-85, where
368-72, 392-96, 636-37, 642 ff. See also note 48
merchants turned landlords are described as bold above.
improvers. 2 Ibid., p. 784. Agriculture was not encouraged
91Smith described the decomposition of large by a corn bounty, nor would it be encouraged by
feudal properties and the resultant increase inrestrictions
so- upon manufactures. Ibid., pp. 155, 476,
cial mobility as "a revolution of the greatest650-51.
im-
portance to the public happiness." Ibid., pp. 391-92.
93Smith differed with the Physiocrats more on
For his discussion of the slow rate of progress in of theory than on fundamental philosophy.
points
Europe, see ibid., pp. 392-96; of land improvers,Ibid., Bk. IV, chap. 9.
363-64, 371, 392; of the rise of towns and their 94 Ibid., pp. 625-26.

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4 JOSEPH J. SPENGLER

dared. They had retarded and would continue


cantile state, tradeto
was held in high regard and
retard economic growth. idleness was condemned;99 the government was
It is thus that every system whichrepublican,
endeavours,and the legislature was attentive to
industry and
either, by extraordinary encouragements, to commerce;
draw and trade, except for
that with
towards a particular species of industry Holland's Asian colonies, was rela-
a greater
tivelywhat
share of the capital of the society than free of would
restraints."?? England, after Holland
naturally go to it; or, by extraordinary restraints,
the richest country in Europe, had been experi-
to force from a particular species of encing
industry some for more than two cen-
slow progress
share of the capital which otherwiseturies.
would Thisbe em-
might have been anticipated, since
ployed in it; is in reality subversivesheof
wasthe great
admirably suited to carry on agriculture
purpose which it means to promote. It retards, in-
and "as well fitted by nature" for commerce and
stead of accelerating, the progress of the society
manufactures "as any large country of Europe."
towards real wealth and greatness; and diminishes,
instead of increasing, the real value of theprogress
England's annual had been less rapid, however,
produce of its land and labour.95 than had been possible, because priority had
been assigned to commerce and manufactures
For empirical confirmation of his arguments
instead of to agriculture,'10 and because mercan-
in favor of liberty and natural economic devel-
tilist and other policies unfavorable to the most
opment and against governmental attempts to
efficient use of England's capital had been pur-
induce economic growth, Smith pointed sued.l03 both to
the experience of Europe with monopolistic re-
Smith pointed particularly to the fact that
strictionism and objectionable fiscal policies and
England's North American colonies had flour-
to that of the colonizing and trading powers. The
ished more than those of other colonizing coun-
growth-retarding effects of corporate restriction-
tries, even though her colonies were not better
ism (e.g., long apprenticeship) haveendowedalready withbeen
land. He attributed this outcome
noted.6 Spain and Portugal had undergoneto a number of eco-circumstances: the institutional
nomic decline, partly because of restrictionist
equipment of the American colonies was supe-
policies pursued at home and in their colonies
rior; their inhabitants were free to "manage
and partly because of efforts to attract or keep
their own affairs their own way"; primogeniture
gold and silver.97 Conditions had improved in
and entail were less prevalent and alienation of
France, but not so much as they might have
land was more frequent; there was less engross-
done in the absence of mercantilist policies.98
ment of uncultivated land; taxes were moderate;
Liberal Holland, in contrast, had become the
the trade monopoly of the mother country was
richest country in Europe, in part because of her
less oppressive, liberty being complete except in
institutions and the values esteemed by her
respect of foreign trade.10
people. There, as was to be expected in a mer-
As matters stood, however, it would be better
95 Ibid., pp. 650-51; also 577-79. Theformercantilist
Britain to give up authority over her col-
system, together with its policies and onies,
theirsince
effects,
she had to provide the expenditures
are described in Bk. IV, chaps. 2-8. Smith recog-
made on them, and these were laid out not upon
nized the infant industry principle, but rejected it,
development but upon the support of monopoly
saying that the immediately resulting slowdown
whichthen
of capital formation would offset or more disadvantaged
off- both the colonies and the
set any advantage attendant upon the earlier 99 Ibid., intro-
pp. 96-97; the interest rate was too low
duction of the protected manufacture. Ibid., many
to permit p. 425, to live as rentiers. In France trade
also p. 635 on lack of need for protection. was held See also
in low esteem, but not in Britain (p. 91).
J. Viner's summary of English mercantilist 100 Ibid., views
pp. 91, 96, 150, 158, 202, 351-54, 393, 430,
on foreign trade in Studies In the Theory 433, 464,of 480,In-
542, 595-97, 600-01, 632, 641-42, 826-
ternational Trade, New York, 1937, chaps. 27, 857. 1-2.
96See above, note 88; Smith, Wealth, pp. 118- 101 Ibid., pp. 89, 202, 327, 393-94. Smith did not
43. deal explicitly with the effect of variation in coun-
97 E.g., see ibid., pp. 202-04, 238-39, 395, 399-400, try size, but he did say a state could be too large;
404, 478-80, 529-31, 534-36, 538-39, 543, 552-53, 575- classic Rome had been so (ibid., p. 665).
76,578,591. 102Ibid., pp. 328-29, 462-63, 515-16, 561-75, 593-
9 Ibid., pp. 89-91, 202, 394-95, 434, 440-42, 463, 94, 600-02, 626.
542-43, 554, 557, 627-28, 687-89, 807, 837, 852, 881. 103Ibid., pp. 392-93, 534, 538-44, 547-52.

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ADAM SMITH'S THEORY OF ECONOMIC GROWTH 5

mother country. Under the existingand arrange-


with the place of his theory in the history
ment the colonies did not contributeof developmental
enough tax theory.
revenue to make them advantageous to Britain,
Is Smith's theory of economic development
and they were unwilling to do so.04susceptible If Britain of reduction to terms of a quantita-
"voluntarily" gave up authority over tive model?
her col-Is such treatment indicated? The
onies, she would be freed of the expense answerof to each question is: after a fashion, yes.
their
"peace establishment" and would be able to en- Such attempts can bring out implicit assump-
ter into a commercial treaty with them to tions in- of which Smith may not have been aware,
sure free trade between the two parties. Alter- and might not have accepted-assumptions hav-
natively, Britain might convert her "project ing of to do with what is constant and what is vari-
an empire" into an acceptable, federated or- able, with how variables are functionally related,
ganization in which America would be an equal with what time lags are present, etc. Such at-
partner with Britain.'05 Given freedom from un- tempts also exact a price, when the student re-
economic restraints, such arrangement would lies exclusively upon them for his understanding
benefit both parties, and particularly the North of what Smith himself perceived in the world
American colonies, since within a century they about him, of Smith's handling of his percep-
would outstrip Britain in economic importance. tions, and of his interpretative responses to the
Then the "seat of empire" might be transferred highly variegated world in which he found him-
to North America.106 self. They tend also to make too many condi-
Smith did not expect that Britain would give tions constant, and to describe functional rela-
up authority over the colonies any more than tionships as technological or relatively invariant
he expected that a system of natural liberty even though Smith stressed the behavioral and
would come into being. It was inevitable that (hence) variable character of important func-
bureaucrats and monopolists and other inter- tional relationships. One might add also that
ested parties would oppose both policies, how- Smith himself apparently objected to the use
soever great might be the probable increaseof inmodels which were complex, rigid, or highly
the welfare of England and her colonies."0 specific.109
By way of illustration we may turn to Thwe-
To expect, indeed, that the freedom of trade att's neat diagrammatic exposition of Lowe's
should ever be entirely restored in Great Britain, verbalized model."0 Lowe's model suggests that
is as absurd as to expect that an Oceana or Utopia
should ever be established in it. Not only the 10 When a metaphysical doctrine was reduced
prejudices of the public, but what is much more to a "scholastic" system, it was deprived of "what-
unconquerable, the private interests of many in- ever degree of good sense" it had originally con-
dividuals, irresistably oppose it.108 tained. See Theory of Moral Sentiments, pp. 425-
26; also Essays, p. 352, where he suggests that
v complex explanatory systems tend to give place to
simpler systems, sometimes built around a single
The two remaining sections of this paper have connecting principle.
to do with whether Smith's theory of economic 110See W. O. Thweatt, "A Diagrammatic Pres-
development is reducible to terms of a model, entation of Adam Smith's Growth Model," Social
Research, XXIV, 1957, pp. 227-30; the diagram
l4 Ibid., pp. 580-83, 899-900. referred to below may be consulted in Thweatt's
105 Ibid., pp. 581-82, 586-90, 899-900. paper. This model is based on A. Lowe's verbalized
10 Ibid., pp. 70, 392-93, 590. See ibid., p. 590,
model, described in "The Classical Theory of Eco-
where he says: "Such has hitherto been the rapid nomic Growth," ibid., XXI, 1954, pp. 132-41. Lowe
progress of that country in wealth, population andsupposes what Smith hardly dared hope for, a fully
improvement, that in the course of little more than
operative system of natural liberty. See also B. S.
a century, perhaps, the produce of American might Kierstead, op. cit., pp. 69-77; A. A. Young, "In-
exceed that of British taxation. The seat of em- creasing Returns and Economic Progress," Eco-
pire would then naturally remove itself to that nomic
part Journal, XXXVIII, 1928, pp. 527-42; G. J.
of the empire which contributed most to theStigler,
gen- "The Division of Labor Is Limited by the
eral defence and support of the whole." Extent of the Market," Journal of Political Econ-
107 Ibid., pp. 438, 582. omy, LIX, 1951, pp. 185-93. E. McKinley does not
108 Ibid., pp. 437-38. deal with Smith in his "The Problem of 'Under-

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6 JOSEPH J. SPENGLER

Smith's interpreters should concentrate on


principally divi-
upon the former according to Lowe's
sion of labor and the growth of labor and capi-
interpretation of Smith."2 Expansion comes to a
tal, and meanwhile hold constant the halt in the Smithian model and a terminal sta-
behavioral
tendencies underlying procreation, capital
tionary stateac-
sets in, Lowe infers, when "full
cumulation, and the institutional utilization system, of to-the natural environment prevents
gether with the stock of land andfurther natural re-
expansion of aggregate and per capita
sources available. Thweatt begins with an initial
income.''l3
situation in which demand for labor D, inter- A number of difficulties attend any attempt
sects the short-run supply of labor S~ at wageto reduce Smith's theory of growth to model
w1, and associated therewith is a total effectiveterms. First, the level of output achieved in an
demand T1 (which depends on wages and the economy is very much conditioned by the kind of
labor supply) that permits a profit P, and con-socio-political system in effect and the degree
sequently a capital accumulation i,. As a result to which it allows men to express their propensi-
of accumulation i, the market is enlarged by
ties. There was much more idleness in feudal
somewhat more than i, alone would occasion,and quasi-feudal societies than in mercantile
since division of labor and (hence) technologicalsocieties or in an English type of society;14 and
efficiency (which is not labor-displacing) also the disposition to put forth effort and produce
increase as the market expands in response to i,.is greater when it stands to be liberally rewarded
The demand for labor therefore shifts upward,then when this is not so, be the reward wages or
D2 replacing D, and intersecting S, (which is un-profits. Similarly, capital accumulation proceeds
changed as yet because the population of work-much more slowly when a government is power-
ing age still remains unchanged) at a higher butful and prodigal, and when undertakers and
temporary wage wt. In consequence populationlenders are not free to invest their capital as
grows and the short-run supply of labor shiftsthey see fit."1 Population growth, market ex-
to the right, S2 replacing S, and intersecting D2pansion, and extension of division of labor are
at wage w2 which is somewhat lower than wt but affected accordingly.
higher than w,. With w2 is associated a new and Second, Smith's discussion does not suggest
greater total effective demand T ; this givesthat the functional relation between the growth
rise to a profit P2 > P, and hence to capital ac-of population and that of wages or income is
cumulation i2 > il. And so on. necessarily rigid. At one extreme were the pros-
This system continues to expand because, un- O12 p. cit., pp. 135-39. Kierstead (op. cit., pp.
like Ricardo's, it is not subject to a constraint in
74, 76-77) apparently believes that Smith did not
the form of diminishing returns,11l and because assign so heavy a role to the expansive influence
the expansion made possible by division of labor of population growth as Lowe supposes him to do.
permits profits, capital, wages, wage rates, and In one place (Wealth, p. 164) Smith has division
markets to expand sufficiently to allow yet fur- of labor grow in consequence of an increase in pop-
ther extension of division of labor. And so on. ulation caused by an increase in food.
"The decisive variable" in Smith's system, "the13 Op. cit., p. 139. Smith, of course, looked upon
nature as beneficent and hospitable (Wealth, pp.
true dynamic force," is, Lowe remarks, "division
344-45), whereas Ricardo (Principles, secs. 28, 45)
of labor" in the broader sense of "technical prog-
noted its niggardliness. Cf. Myint, "The Welfare
ress." Yet, as Lowe points out, increase in the Significance....," loc. cit., pp. 24-26. Smith's sta-
effectiveness of this force depends upon the ex-tionary state is described as "terminal" because it
pansion of the economic system itself-upon ex- is a real and empirical end-result, given certain
tension of the market which depends in turn conditions, and not an analytical tool as was J. B.
upon growth of population and average income, Clark's stationary state.
114 Smith, Wealth, pp. 319, 321.
development' in the English Classical School," 11 Smith notes the importance of a country's
Quarterly Journal of Economics, LXIX, 1955, pp.socio-political system when he describes China as
235-52; nor does J. A. Schumpeter in his Historyhaving "acquired that full complement of riches
of Economic Analysis, New York, 1954. which the nature of its laws and institutions per-
11 E.g., see W. J. Baumol, Economic Dynamics, mits it to acquire." See ibid., p. 71. Holland's "re-
publican form of government" was "the principal
New York, 1951, pp. 17-19; cf. Lowe, op. cit., pp.
141 ff. support" of its "grandeur." Ibid., pp. 857-58.

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ADAM SMITH S THEORY OF ECONOMIC GROWTH 7

perous "new colonies" in which population wasin the rate of population growth and
an increase
advancing 3-3.5 per cent per year. Here popu-
an increase in that of the labor supply is not
lation growth was economically motivated. noted, norWhen
whether in this interval the standard
land is plentiful and food very easilyof had, the
life of workers might change.'20
"value" of the labor of children "greatly over-
Third, while Smith carefully described the role
pays their maintenance.""' At the other ofextreme
capital formation in his growth model, he did
was a stationary state like China, with "its full not quantify it. He indicated rather clearly that
complement of riches" and a population which, an increase in the employed labor force entailed
while nongrowing, included somewhat more an increase in the capital-labor ratio, though not
workers than could be supported out of the necessarily an increase in the capital-output ra-
"funds destined for the payment of wages." In tio."21 But he did not specify the functional con-
such a "dull" state life was "hard" and mortal- nection between rate of return to capital and
ity was high; Smith must therefore have sup- rate of capital accumulation, except to suggest
posed that an increase in the subsistence avail- that the latter was positively correlated with
able to the masses would reduce mortality and the former. He expected the rate of profit to fall
increase numbers."7 Smith's comments on Eu- and hence eventually also the rate of capital
rope, whose population supposedly had long formation, since, in the absence of entry into the
grown only about one-eighth of one per cent carrying trade or of the accession of new trades
per year, do not suggest that, under all circum-or territories, an economy eventually would ap-
stances, increases in wages (income) need con- proximate a stationary state in which wages and
duce to increases in population growth by di- profits were low and capital had ceased to
minishing infant and child mortality in the grow.2
"inferior ranks" and by augmenting the num- Fourth, it is not clear to what extent Smith
ber of married."8 For, though food is described looked upon capital as labor-displacing, or in
as the principal population-limiting factor, the what measure he considered population growth
argument that there is no limit to the rate at essential to extension of the market. It is rea-
which one may consume housing, dress, equi-
page, etc., suggests the possibility that desire for the state of propagation in all the countries of the
these items might come to check population as world"; but he does not specify the supply price of
incomes rose in countries where land was men, or indicate whether or not it rises, because
scarce."9 How much of a lag there was between men become habituated to an ever rising standard
of life. The role of demand is stressed by S. H.
116 Ibid., pp. 70, 532. In these circumstances "a Coontz, Population Theories and the Economic
numerous family of children, instead of being a Interpretation, London, 1957.
burden is a source of opulence and prosperity to 120 Children began to enter employment around
the parents. The labour of each child, before it can the age of eight. Wealth, pp. 15-16.
leave their house, is computed to be worth a hun- 121 While it was essential to increase wage-goods
dred pounds clear gain to them." The "value of only enough to offset the increase in labor, it was
children is the greatest of all encouragements to necessary to increase materials and tools in greater
marriage." A young widow with four or five chil- measure, since an increase in division of labor con-
dren, who in Europe stood "little chance for a sec- sequent upon an increase in the number of work-
ond husband," in North America is "frequently ers entailed some increase in the roundaboutness
courted as a sort of fortune." See ibid., pp. 70-71. of production. But this same increase in division
117 Ibid., pp. 71-73, 81, 94-95, 189, 205-06, 249. of labor augmented output per worker, probably
While he did not note directly that marriage by enough to increase the output-capital ratio.
tended to be earlier in China than in the West, he Smith, of course, does not use these terms. See
implied this when he said that marriage was en- ibid., pp. 259-61, also pp. 64 ff., 69-70, 189-90, 249,
couraged there "by the liberty of destroying" 314 ff.
children (ibid., p. 72). Bengal was described as a 122Until such state came into being wages and
"melancholy" declining state in which life was profits tended to move inversely, though both were
"miserable." Ibid., pp. 73, 81. high in new colonies. See ibid., pp. 87-97. Profits
118 Ibid., pp. 70, 79-81, 146, 163, 532. had been greatly raised in Britain by the accession
19 Ibid., pp. 163-64. On p. 80, however, he de- of the colonies in North America and the West
clares that "the demand for men ... necessarily Indies and the trade therewith associated (ibid.,
regulates the production of men" and "determines pp. 93-94).

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8 JOSEPH J. SPENGLER

sonable to infer, however, that he looked upon


in that output per worker is conditioned by
capital in the aggregate as complementary to and/or land per worker. Circulat-
fixed capital
labor in the aggregate, even though in particu-
ing capital serves to increase a nation's "annual
lar instances he supposed that division produce"
of labor only if it increases the "productive"
consequent upon capital accumulationemployment
might of that nation's workers; and it
displace a particular type of labor; and realizes
that,its potential influence fully only if this
given his very low estimate of the rate of growth
capital sets labor to work in those branches of
of Europe's population, together with his no- in which its productivity is rela-
the economy
tion of expanding average consumption, tively
he could
greatest. Smith supposed that this poten-
and did attribute a considerable part of tial
the ex-
tends to be fully realized when users of capi-
tension of the European market to increase into dispose of it as they see best, even
tal are free
average income.3 though, being unequipped with a marginal pro-
Fifth, Smith did not look upon a shortage
ductivityofapproach, he elsewhere ordered fields
land and resources as an insuperable obstacle to in a way that would hardly maxi-
for investment
further development of any particular country,
mize output. Smith's emphasis upon circulating
since it could engage in foreign and carrying
capital and the production of tangibles, together
trade as did Holland. The alternative seems to
with his comparative neglect of fixed capital, re-
have been a stationary state after the Chinese
mained substantially in effect during the life-
model, though this is not a necessary outcome,
time of the classical school. His contribution con-
since Smith's premises could be made to support
sisted in his making explicit the important role
a Ricardian type of stationary state."T played by capital in economic development.
VI
Despite Smith's stress upon the manner in
which capital was utilized and his recognition of
In this section the place occupied by Smith's
the importance of both the human factor and
theory of development in the history of the activity specialization, he did not play up the
theory of growth is examined. It is reviewed
role of the entrepreneur,25 nor did he greatly
under eight headings, of the sort encountered
appreciate the intra-firm economies of scale and
in contemporary writings on economic develop-
the economic-development powers that might
ment: (e.g., production, consumption, and in-
accrue to those making use of the corporate
centives, capital formation, monetary policy,
form of enterprise. Smith's undertaker strikes
population, international economic relations,
one as a prudent, cautious, not overly imagina-
etc.). tive fellow, who adjusts to circumstances rather
(1) Production. In Smith's system growth of than bring about their modification. There is in
output depends immediately upon the growth
him little of the innovator whom present-day
of labor and capital, upon the manner in which
growth theory glorifies. One does not, therefore,
capital and labor are employed, and upon the
find Smith isolating and analyzing the behavior
extension of division of labor. His exposition was
of a minority of decision-makers by whom di-
greatly handicapped, however, by his lack of
anything more than an implicit productivity rection is given to the economy, and through
theory wherewith to assess the impact of factor whom society averts the economic catalepsy that
growth. Labor's role is essentially passive in that would ensue if equilibrium were attained. In
its employment is conditioned by the amount Smith's system, therefore, economic change is
and the disposition of circulating capital, and primarily the product of a vast number of minor
changes introduced by a multitude of compara-
12t is a matter of degree, and within limits,
since beyond a point, his arguments suggests, in- tively small undertakers. It is not essentially
crease in population is essential to further exten- the result of activity on the part of a minority
sion of the market. But cf. Lowe's somewhat dif-
ferent interpretation (op. cit., pp. 136-37). 12The importance of the role of the entrepre-
24 On Holland see ibid., pp. 91-92, 96, 190, 202, had been recognized by Cantillon and his
neur
464, 632, 641-42, 857-58. On China see ibid., pp. disciples, by some Physiocrats, and by others. See
71-73, 80, 189, 205-06; also pp. 360, 462, where B. F. Hoselitz, "The Early History of Entrepre-
Smith says China does not engage in ocean ship- neurial Theory," Explorations In Economic His-
ping. tory, III, 1950-51, pp. 193-220.

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ADAM SMITH'S THEORY OF ECONOMIC GROWTH 9

of creative leaders.26 This estimation of enter- duce input (especially of labor) per unit of out-
prise dominated English political economy for put. It is this force and its limitations, more
more than a century after he enunciated it."2 than any other treated by Smith, that continued
Land was of great importance in Smith's the- to command the attention of economists, even
ory of development. He considered agriculture in the present century. Three decades ago A. A.
the most important industry, and the one whoseYoung concluded that, when division of labor
output per unit of labor input long tended to beand extension of the market proceed within an
relatively favorable under conditions of freeeconomy made up of highly interrelated activi-
competition. At the same time it apparentlyties, division of labor becomes, as Smith implied,
was the limitedness of the supply of land that essentially a function of itself. It is governed by
underlay his inference that an economy's state"buying power" which depends upon average
tended in the end to become stationary.' He income and numbers; increments in "buying
attached far less importance to other naturalpower" enlarge division of labor which enlarge-
agents, probably because he lived at a time when ment further expands buying power. This ex-
most of the materials subjected to transforma-pansive process is compatible with nongrowth of
tion were organic in character. Accordingly, it population, though, under various conditions, it
was the availability of food rather than that of operates to increase per capita income even
raw materials which he dwelt upon most when faster when population is growing. The progres-
discussing location and conveyance. sive and cumulative changes associated with in-
Of greatest significance in Smith's theory of creasing division of labor thus are long capable
development was division of labor, a dynamic of overcoming obstacles which might otherwise
force whose extension stimulated or gave release check the expansive process. Entrepreneurs in
to invention and various other forces which re- particular are sufficiently animated by the pros-
26 Smith did observe that merchants were bolder pect of a continually growing market to keep
undertakers than were country gentlemen and the expansive process in motion.12 Smith him-
hence more given to improving agricultural opera-self did not go so far as Young; he recognized
tions. Ibid., pp. 384-85. Smith does not concern the existence of a barrier to a nation's continu-
himself with whether manufacturers tend to come ing expansion, namely, the limitedness of its
from the mercantile class, because merchants wereavailable land. Because this barrier could rarely
"commonly ambitious of becoming country gen- if ever be surmounted, the eventual advent of
tlemen" (ibid., p. 383), and (probably) because in a stationary state, though not so happy a one
the pre-industrial-revolution period in which his
as J. S. Mill's, was to be anticipated.
ideas were formed the origin of industrial leaders
In recent years economists have continued to
was of little speculative concern. See note 137.
127E.g., Walter Bagehot, who wrote that "ad- make use of Smith's principle when discussing
venture is the life of commerce" and that "the economic development. Thus, out of Young's
interpretation a doctrine of balanced growth has
capitalist is the motive power in modern produc-
tion," overlooked the role of innovation and en-been evolved."13 Out of Stigler's analysis of divi-
dorsed Smith's view that the joint-stock companysion of labor, considered as "a fundamental prin-
form was not adaptable to firms whose operationsciple of economic organization," has emerged
were non-routine in character. See Works, editedboth a conclusion to which Smith implicitly sub-
by F. Morgan, V, Hartford, 1889, pp. 151, 158, 293-
scribed, namely, that division of labor does not
95.
8 Ricardo (Principles, Gonner ed., secs. 44, 99, 29 Op. cit., esp. pp. 533-37, 539. Young went so
and notes) criticized Smith for failing to attribute far as to suggest in private discussion that Britain
the fall of profits to the rise in the marginal cost could do with a population of 100 millions, a sug-
of produce. But see Wealth, pp. 92-93. Ricardo gestion Colin Clark describes as "too much of a
also implicitly criticized Smith (op. cit., sec. 123) good thing" (The Conditions of Economic Prog-
for confusing the marginal and the average output- ress, 3rd ed., London, 1957, p. 345). See also Myint,
labor ratio when he asserted that usually a given "The Welfare Significance....," loc. cit., pp. 20 ff.
input of agricultural investment set more labor in "3 E.g., see M. Fleming, "External Economies
motion than did a corresponding input of non-ag- And The Doctrine Of Balanced Growth," Eco-
ricultural investment. Cf. G. L. S. Tucker, "The nomic Journal, LVV, 1955, pp. 241-56; also H. W.
Origin of Ricardo's Theory of Profits," Economica, Arndt, "External Economies in Economic Growth,"
XXI, 1954, pp. 320-333. Economic Record, XXXT, 1955, pp. 192-214.

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10 JOSEPH J. SPENGLER

tend to eventuate in monopoly, andcreases in this supply could not, as mercantilist


an inference
which he probably endorsed, namely, and monetary
that one speculators had held, result in
cannot usually transfer to a country increases
with in rela-
employment, industry, output, and
tively little division labor methods capital formation. Smith's view persisted so long
of production
as classical opinion
peculiar to countries with highly developed divi- held sway, though in practice
sion of labor.13' it was often honored in the breach.
(2) Consumption. While Smith noted (5) Population.
social Population growth plays an
and other obstacles to the expansion of role
ambiguous con-in Smith's system. It tends to
sumption in rude societies, he foundtake place
no so long as the annual produce and
such
limits to its expansion in civilizedcirculating
commercial capital grow, since population ex-
societies. There societal pressures pands
madeinfor theto the increase of wage goods,
response
the main
expansion and multiplication of wants, andcomponent
self- of circulating capital. It
interest prompted receivers of money also tends to be accompanied, at least within
income
to spend or invest it promptly. Smithlimits,therefore
by extension of division of labor, with the
took for granted the validity, in result,
a civilizedthat per so-capita output rises. But limits
ciety, of a principle later definedexist to thisLaw,
as Say's extension; shortage of land and/or
together with its supposed corollary,a cessation
that livingof capital formation develops, and
standards tend to expand sufficientlythe economy
to prompt becomes essentially stationary.
workers to continue their supply of (6)effort.
International In Economic Movements.
part for this reason, and because he Smith
took noted certain advantages of international
inter-
nal diffusion of economic prosperity trade,
for above
granted,all extension of division of labor as
he attached great weight to the aexpansion of
result of the expansion of foreign sales. More-
the internal market. over, he anticipated the development of an At-
(3) Capital Formation. Because lantic
capital gov-
English-speaking Community, or meta-
erned employment, conditioned state, average of thepro-sort later envisaged by J. S. Mill,
within which
ductivity, and set limits to the extension of divi-trade would be free. But he did
sion of labor, Smith deemed its accumulation
not, as did Mill, suppose that a continual flow
very essential to development. Yetofhe labordidand not capital from the United Kingdom
deal effectively with the sources to ofthe additional
less developed parts of this community
capital, even though he indicated would
socialalleviate
condi- population pressure and sustain
tions requisite in order that self-interest
profits. might
prompt men to save. Furthermore, his (7) The State. and
great Unlike most modern writers
almost exclusive emphasis upon on "parsimony"
economic growth, Smith assigned only a mi-
may have led him to underestimate nor directboth the role to the state, re-
developmental
capital-supplying power of "surpluses"
stricting and the
its major contribution to the mainten-
contribution that increments inance
productive
of a milieu suitable for the uninhibited
power might easily make to a nation's conduct of private enterprise. He pointed also
capital.
It remained for Ricardo to identify explicitly
to the evils that attended state intervention, to
the sources whence increments to athe nation's
capacitycapi-
of governments for waste and for
tal might be expected to flow. Smith's line ofservice of special interests, to the
uninterrupted
argument merely pointed to these sources.
tendency of governments to misdirect and cor-
(4) Monetary Policy. While Smith pointed
rupt various to
private interests, to the shortness
certain economies that banks might of make possi- time horizons and, in general,
governmental
ble, he had no room for monetary topolicy,
the socially
norunsalutary guidance given self-
did he give attention to the trade interest cycle. In by civi-
governmental interveners. He found
lized societies money continued to circulate. the "infra-structure" relatively less important
There did not exist, as Bentham was later to than do modern writers and susceptible, in con-
suggest, unemployed persons who might be set siderable measure, of being constructed under
to work through reflationary or somewhat in- private auspices. Private entrepreneurs ani-
flationary increases in the supply of money. In- mated by self-interest and under the governance
31 Stigler, op. cit.; also F. Lavington, "Technical of competition were more competent and effi-
Influences on Vertical Integration," Economica, cient than were public entrepreneurs. Accord-
VII, 1927, pp. 27-35. ingly, although Smith was disposed to approve

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ADAM SMITH'S THEORY OF ECONOMIC GROWTH 11

the state's undertaking whatever important (9) Ideal Society. Smith did not attempt to
tasks private enterprise could not carry out eco- describe carefully the characteristics and in-
nomically or effectively, he did not find many stitutions of an ideal society, or even to enumer-
which answered to this description. Moreover, ate the preconditions of its emergence and prog-
he supposed that, as a rule, the transformation ress. But he did remark, as had Hume, the many
of inputs into output could be accomplished beneficial effects of the rise of commerce and
more efficiently by private than by public entre- manufacturers;135 and he noted that considerable
preneurs even when the output was sought by economic growth could be attained only in an
the state or intended for its purchase and use. economy administered largely by private enter-
Smith's view persisted, albeit with some modi- prise within the context of an orderly society
that was essentially free of ecclesiastical or cen-
fication, at least until late in the nineteenth cen-
tury."3 tral-governmental dominance. Within this so-
(8) Strategic Class. Smith anticipated the ciety, institutions and customs would be such as
modern view that economic development is most to give free play to the universal desire of man
likely to proceed when a society's middle ranks to better his condition, unrestrained by the clas-
are adequately peopled, and when there exists sical virtues but subject to the constraints of
a sufficiently large class whose members stand competition and the regulative canons of justice,
to benefit from such development. In Smith's contract, and reciprocity. Comparatively full
system it was the middle and the lower classes scope would be given to the principle that, as a
that stood to benefit most and it was from these rule, each member of such society is able to look
classes that the executors of salutary change after his own economic interests. Political power
must come.33 He observed, however, that, while would be largely in the hands of successful in-
the interests of the landowning and laboring dividuals of lower- and middle-class origins. Eco-
classes always concurred with the public inter- nomic support would be derived from commerce
est, that of the boldest and most enterprisingand manufacture as well as from agriculture,
order, namely, the merchants and master manu- since normally a society founded solely on ag-
facturers, might not so concur. It would not riculture was not progressive. Many individuals
concur if this order's interests were supported would be comparatively mobile. There could
by competition-restricting legislation, but it exist no overriding end, or set of ends, that men
would concur if simple competition was allowedwere under collective pressure to realize. Instead
to rule.14 ends would be variegated and generally suscepti-
ble of pursuit; and major attention would be
"2 E.g., see my "The Problem Of Order In Eco-
nomic Affairs," Southern Economic Journal, XV, given, not to the realization of ends as such, but
to the maintenance of social mechanisms
1948, pp. 14-22.
" "In the middling and inferior stations of life,whereby heterogeneous ends of diverse individ-
the road to virtue and that to fortune, to such uals might be equilibrated. The sort of society
fortune, at least, as men in such stations can rea- Smith had in mind resembled that found in Eng-
sonably expect to acquire, are, happily, in most land, in Holland, and in the American colonies;
cases very nearly the same." Ability, when "joined it could be fully realized in the New World. This
to prudent, just, firm, and temperate conduct, can society would continue to be marked by various
very seldom fail of success." See Theory of Moral
imperfections, yet these were unlikely to render
Sentiments, p. 86; also ibid., p. 78, where he says
it dangerously unstable and disorderly and
that governmental offices, high and low, can be
effectively filled only by able and industrious men thereby seriously retard its economic growth."l
"who were educated in the middle and inferior (10) The Future. Smith subscribed to the
eighteenth century belief in social progress,
ranks of life," since only in these are the requisite
"virtues" encountered. Even so Smith endorsed
the Stoic opinion that, "between one permanent ranks" and the imperviousness of proprietors to
situation and another, there was, with regard theirto
own interests. See ibid., pp. 249, 739-40.
real happiness, no essential difference." Ibid., 35 p.
Ibid., pp. 385, 390; Lectures, pp. 253-54. Dis-
209. advantages were also noted. Ibid., pp. 255-59;
134 Wealth, pp. 248-50, 384-85, also 98, 128, Wealth,
429,pp. 734-40.
438, 460. Smith took it for granted that all who 36 Various of the matters dealt with in this
could would seek monopolistic advantages. He paragraph are treated by Cropsey. See op. cit., pp.
noted the "stupidity" of many in the "inferior 49, 52, 55, 63, 64, 68-72, 79-81, 85-86, 95.

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12 JOSEPH J. SPENGLER

though he was more aware of obstacles Oneto might


be elongate and elaborate this list,
overcome than were some exponents but of this be-
it is unnecessary. The list suggests that Smith
lief and less alert to innovation's impact."7 recognized many of the determinants of growth
stressed by present-day writers, even though he
7 See G. B. Strong, Adam Smith And The
was imprecise and sometimes dealt loosely with
Eighteenth Century Concept Of Social Progress the interrelations of these determinants.
(in University of Chicago Dissertation Collection,
XIX, No. 6), Chicago, 1932; also J. P. Henderson,
ogy and business organizations, see R. Koebner,
"The Macro and Micro Aspects of The Wealth of
"Adam Smith and the Industrial Revolution,"
Nations," Southern Economic Journal, XXI, 1954,
Economic History Review, XI, 1959, pp. 381-91.
pp. 27 ff. On Smith's failure to appreciate the
Erratum: Insert "transport" after the word "wa-
significance of innovations underway in technol-
ter" in line 29 on p. 402 of Part I of this article.

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