Jürgen Georg Backhaus
Editor
Handbook of the History
of Economic Thought
Insights on the Founders
of Modern Economics
Editor
Prof. Dr. Jürgen Georg Backhaus
University of Erfurt
Krupp Chair in Public Finance and Fiscal Sociology
Nordhäuser Str. 63
99089 Erfurt Thüringen
Germany
ISBN 978-1-4419-8335-0 e-ISBN 978-1-4419-8336-7
DOI 10.1007/978-1-4419-8336-7
Springer New York Dordrecht Heidelberg London
Library of Congress Control Number: 2011934677
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Preface
Avant Propos
A further reason for studying the history of economic thought was provided by
Pareto in the lead article of the “Giornale di Economisti” of 1918 (Volume 28; pages
1–18) under the title “Experimental Economics”.
1
In as much as economic theories
also have an extrinsic value, that is, they lead people to act as informed by the
theory, such as in economic policy or public fi nance, the theory becomes a subject
for economic investigation itself. The distinction between the intrinsic aspect and
the extrinsic aspect of a theory is crucial for this argument. The intrinsic aspect of a
theory refers to its logical consistence and, as such, has no further repercussions. As
far as the intrinsic aspects are concerned, theoretical knowledge is actually cumula-
tive. On the other hand, the extrinsic aspect of an economic theory will become a
“derivation” (in Pareto’s terminology) in that it serves as the rationalization of
human activity. In Pareto’s sociology, human action is determined by residues,
innate traits that determine human behaviour, and derivations. Derivations are more
or less logical theories or world views that guide people’s behaviour. To the extent
that economic theory can also guide human behaviour, economic theory becomes a
social fact or construct that is itself subject to economic analysis. As we experiment
with different economic theories to guide economic policy in general and fi scal
policy in particular, the history of economic thought can actually be practised as
experimental economics in documenting the impact different economic theories
have on economic behaviour. Of course, this experimental kind of history of
economic thought becomes the more relevant the more similar the situations are in
which different economic theories are applied.
1
The following account is based on Michael McLure, The Paretian School and Italian Fiscal
Sociology. London, Palgrave 2007.
Contents
1 Introduction ............................................................................................ 1
Jürgen G. Backhaus
2 The Tradition of Economic Thought in the Mediterranean
World from the Ancient Classical Times Through the Hellenistic
Times Until the Byzantine Times and Arab-Islamic World ................ 7
Christos P. Baloglou
3 Mercantilism ........................................................................................... 93
Helge Peukert
4 The Cameralists: Fertile Sources for a New Science
of Public Finance .................................................................................... 123
Richard E. Wagner
5 The Physiocrats ...................................................................................... 137
Lluis Argemí d’Abadal
6 Adam Smith: Theory and Policy .......................................................... 161
Andrew S. Skinner
7 Life and Work of David Ricardo (1772–1823) ..................................... 173
Arnold Heertje
8 John Stuart Mill’s Road to Leviathan:
Early Life and Infl uences ...................................................................... 179
Michael R. Montgomery
9 John Stuart Mill’s Road to Leviathan II:
The Principles of Political Economy..................................................... 205
Michael R. Montgomery
10 Jeremy Bentham (1748–1832) ............................................................... 279
Christos P. Baloglou
viii Contents
11 Johann Heinrich von Thünen: A Founder
of Modern Economics ............................................................................ 299
Hans Frambach
12 The Legacy of Karl Marx ...................................................................... 323
Helge Peukert
13 Friedrich List’s Striving for Economic Integration
and Development .................................................................................... 351
Karl-Heinz Schmidt
14 The Entwickelung According to Gossen .............................................. 369
Jan van Daal
15 Gustav Schmoller as a Scientist of Political Economy ........................ 389
Reginald Hansen
16 The Empirical and Inductivist Economics
of Professor Menger ............................................................................... 415
Karl Milford
17 Antoine Augustin Cournot .................................................................... 437
Christos P. Baloglou
18 Léon Walras: What Cutes Know and What They
Should Know .......................................................................................... 465
J.A. Hans Maks and Jan van Daal
19 Alfred Marshall ...................................................................................... 495
Earl Beach
20 Knut Wicksell and Contemporary Political Economy ....................... 513
Richard E. Wagner
21 Werner Sombart ..................................................................................... 527
Helge Peukert
22 The Scientifi c Contributions of Heinrich von Stackelberg ................. 565
Peter R. Senn
23 Joseph Alois Schumpeter: The Economist of Rhetoric ...................... 581
Yuichi Shionoya
24 Against Rigid Rules – Keynes’s View on Monetary Policy
and Economic Theory ............................................................................ 605
Elke Muchlinski
25 Keynes’s “Long Struggle of Escape” .................................................... 625
Royall Brandis
ix
Contents
26 John Maynard Keynes and the Theory
of the Monetary Economy ..................................................................... 641
Hans-Joachim Stadermann and Otto Steiger
27 James Steuart and the Theory of the Monetary Economy ................ 667
Hans-Joachim Stadermann and Otto Steiger
28 Friedrich August Hayek (1899–1992) ................................................... 689
Gerrit Meijer
Index ................................................................................................................ 713
Contributors
Jürgen G. Backhaus University of Erfurt, Nordhäuser Street 63 99089,
Erfurt, Germany
Christos P. Baloglou Hellenic Telecommunications Organization, S.A.
Messenias 14 & Gr. Lamprakis, 143 42 Nea Philadelphia, S.A. Athens, Greece
Earl Beach Charles Beach, Department of Economics , John Deutsch Institute ,
Kingston , ON, Canada
Royall Brandis University of Illinois at Urbana, Champaign , IL , USA
Lluis Argemí d’Abadal University of Barcelona , Diagonal, 690 ,
08034, Barcelona , Spain
Jan van Daal Triangle, University of Lyon-2 ,
Lyon , France
Hans Frambach Department of Economics , Schumpeter School of Business &
Economics, University of Wuppertal , Gaußstraße 20, 42097 Wuppertal , Germany
Reginald Hansen Luxemburger Stra b e 426, 50937 Cologne , Germany
Arnold Heertje Laegieskampweg 17, 1412 ER , Naarden , The Netherlands
J.A. Hans Maks Euroregional Centre of Economics (Eurocom) ,
Maastricht University , Maastricht , The Netherlands
xii Contributors
Gerrit Meijer Department of Economics, Maastricht University , Larixlaan 3,
1231 BL Loosdrecht , The Netherlands
Karl Milford Department of Economics , University of Vienna,
Vienna , Austria
Michael R. Montgomery , PhD School of Economics, University of Maine ,
5774 Stevens Hall, Orono , ME 04469, USA
Elke Muchlinski Institute of Economic Policy and Economic History ,
Freie Universität Berlin , Boltzmannstraße 20, 14195 Berlin , Germany
Helge Peukert Faculty of the Sciences of the State/Economics,
Law and Social Science, Nordhäuser Str. 63, 99089 Erfurt, Germany
Karl-Heinz Schmidt Department of Economics , University Paderborn ,
Warburger Street. 100, 33098 Paderborn , Germany
Peter R. Senn 1121 Hinman Avenue, Evanston , IL 60202, USA
Yuichi Shionoya Hitotsubashi University, Kunitachi,
Tokyo 186-8601, Japan ,
Andrew S. Skinner Adam Smith Professor Emeritus in the University
of Glasgow’s Department of Political Economy, Glen House, Cardross ,
Dunbartonshire G82 5ES , UK
Hans-Joachim Stadermann Berlin School of Economics and Law ,
Hochschule für Wirtschaft und Recht Berlin, Badensche Straße 50–51,
10825 Berlin , Germany
Otto Steiger Institut für Konjunktur- und Strukturforschung (IKSF) ,
FB 7 – Wirtschaftswissenschaften, Universität Bremen, Postfach 33 04 40,
28334 Bremen , Germany
Richard E. Wagner Department of Economics , George Mason University ,
Fairfax , VA 22030, USA
1
JG B kh ( d) HdbkfhHi fE iTh h
History of Economic Thought, what for? Joseph Schumpeter has noted: “Older
authors and older views acquire … an importance … [when] the methods of the
economic research worker are undergoing a revolutionary change.”
1
In a time of
economic crisis, a refl ection of the roots of economic theory and methods prevents
us from following the wrong path. Leland Yeager has outlined the responsibility of
the historian of economic thought as follows:
“It is probably more true of economics than of the natural sciences that earlier
discoveries are in danger of being forgotten; maintaining a cumulative growth of
knowledge is more diffi cult. In the natural sciences, discoveries get embodied not
only into further advances in pure knowledge but also into technology, many of whose
users have a profi t and loss incentive to get things straight. The practitioners of eco-
nomic technology are largely politicians and political appointees with rather different
incentives. In economics, consequently, we need scholars who specialize in keeping
us aware and able to recognize earlier contributions – and earlier fallacies – when
they surface as supposedly new ideas. By exerting a needed discipline, specialists in
the history of thought can contribute to the cumulative character of economics.”
2
The Austrian process of time-consuming roundabout production, where the
results get better over time, is hopefully true with respect to this book. The book
grew out of lectures started on behalf of the graduate students at Maastricht
University,
3
where I taught until the fall of the year 2000. The work has an encyclopedic
J. G. Backhaus (*)
University of Erfurt , Faculty of the Sciences of State , Nordhäuser Street 63 99089 ,
Erfurt , Germany
e-mail: [email protected]
Chapter 1
Introduction
Jürgen G. Backhaus
1
Joseph A. Schumpeter, “Some Questions of Principle,” unpublished introduction to his History of
Economic Analysis , 1948/1949, p. 4 (I owe this reference to Professor Loring Allen, who found
this manuscript in Schumpeter’s estate at Harvard University.).
2
Leland Yeager ( 1981 ) , “Clark Warburton 1896–1979.” History of Political Economy 13 (2),
pp. 279–284, p. 283.
3
dr. Peter Berends, still of Maastricht University, was my trusted partner in this.
2 J.G. Backhaus
character which is why we completed the lectures at Erfurt University, where I have
been since then.
In principle, there are at least four ways to answer the question “History of
Economic Thought – what for?” One may fi rst speculate about possible uses and
purposes of the history of economic thought as revealed in the practice of teaching
the subject matter; employ methods of literary interpretation in surveying earlier
attempts along similar lines in order to amicably urge others to follow the guidelines
of a program thus derived. This is the approach characteristic of the largest part of
the substantial body of literature discussing the purposes of doctrinal history.
Second, we can consult the published record and determine what difference the
use of historical analysis makes in published research. This will yield but a distorted
picture. In many European universities, the emphasis on publishing research is
much slighter than in their North American counterparts. Scholars like the late Piero
Sraffa often command respect primarily for their contributions to the oral tradition.
While the oral tradition has always remained important,
4
publishing research has
become more important in European academe over the last few years, but was
almost accidental before.
5
Third, one could analyze survey data. While the problems associated with this
method are generally recognized, this often proves to be the only feasible method.
Fourth, an analysis of the course titles of the history of economic thought classes
taught will reveal a great deal about their contents. While in America, course titles
tend to be standardized and are unlikely to vary with the instructor who happens to
teach the course, this is most likely not so in the German, Austrian, and Swiss uni-
versity. The curriculum guidelines tend to be more general, and each chair is gener-
ally responsible for the development of an area of research and instruction in a
particular subdiscipline of economics. Hence, the course titles (and contents) are the
work of the professor who offers the course and who tries to announce precisely
what the course is going to be about.
The literature analysis revealed the following purposes commonly claimed for
the history of economic thought instruction.
6
Table 1.1 lists purposes, an exemplary
bibliographical source, and a category to which the purpose has been assigned in
order to make the empirical task more manageable.
It should be obvious that this list of purposes, as long as it is, cannot possibly be
said to be fully complete. There may be as many different purposes as there are
4
Compare, e.g., Wilhelm Röpke’s discussion in: “Trends in German Business Cycle Policy,”
Economic Journal , vol. XLIII, no. 171, (
1933 ) , pp. 427–441.
5
The notion of “publish or perish” is still not descriptive of life in most European universities.
Publication may often be prompted by a particular festive occasion, as when a colleague is to be
honored with a Festschrift .
6
These results (slightly updated) are based on and excerpted from Jürgen Backhaus,
“Theoriegeschichte – wozu?: Eine theoretische und empirische Untersuchung.” Studien zur
Entwicklung der ökonomischen Theorie III, H. Scherf, ed. Berlin: Duncker & Humblot 1983
(Schriften des Vereins für Socialpolitik, N.V. 115 III). Compare also Jürgen Backhaus (
1986 ) :
“History of Economic Thought – What For? Empirical Observations from German Universities,”
The History of Economics Society Bulletin , VII/2, pp. 60–66.
3
1 Introduction
historians of economic thought, and likely even more, since some resourceful writers
such as Schumpeter (
1954 ) managed to give several good reasons, without adhering
to any one of them, while pursuing still different purposes. In order to reduce this
complexity, in our empirical study
7
groups or categories of purposes have been
formed, which in turn we tried to identify by appropriately grouping the course
titles. The result of this effort is shown in the following table. It shows how many
courses could be attributed to each category of purpose. In interpreting this result,
one should note that in general only advanced students will be enrolled in courses
studying special problems or subdisciplines of economics (Table
1.2 ).
It is probably not an overstatement to say that historians of economic thought
have many different purposes in mind when they teach the subject.
It came as a great surprise when we learned that the extent of instruction in
the history of economic thought of post WWII German universities is impressive
Table 1.1 Purposes
To learn
The intellectual heritage and a critical posture in
dealing with texts
Samuels ( 1974 ) Introductory course
Principles of economics Breit and Ransom
(
1982 )
Principles
From the classical works that have withstood the
test of time
Stigler (
1969 ) Advanced
undergraduate
From the masters Walker (
1983 ) Advanced
Economics as a history of economists Recktenwald (
1965 ) Introduction
To receive new insights for current research Schumpeter (
1954 ) Graduate research
To understand the “fi liation of ideas,” what succeeds,
and how, and why
Schumpeter (
1954 ) Graduate research
Guidance when the science undergoes revolutionary
change
Schumpeter (
1948 /
1949)
Graduate research
Epistemological argument Schumpeter (
1954 ) Research
Study of the competition of ideas Stigler and Friedland
(
1979 )
Research
Over time
Across cultures
Between schools
Concerning cyclical developments Neumark (
1975 ) Research
With respect to different factor markets Perlman and
McCann (
2000 )
Research
Preserving the stock of economic knowledge Yeager (
1981 ) Research
7
Compare Backhaus, op. cit. , ( 1983 ) . The purposes for offering courses in the history of economic
thought at German, several Swiss and Austrian Universities have empirically been identifi ed for
the post WWII period until March 1980. Such a long time span was possible by making our survey
comparable to an earlier study undertaken before the university reforms in 1960. Compare Bruno
Schultz (
1960 ) , “Die Geschichte der Volkswirtschaftslehre im Lehrbetrieb deutscher Universitäten
und einiges zur Problematik.” In: Otto Stammer, Karl C. Thalheim (eds.), Festgabe für Friedrich
Bülow zum 70. Geburtstag . Duncker & Humblot, pp. 343–362.
4 J.G. Backhaus
and largely underestimated. Of the 54 universities surveyed, 27 offer instruction
in the history of economics, while 13 do not. It is likely that of the remaining
quarter, or 14 universities, more are involved in instruction in the subject than
that are not.
These data even correct the earlier study by Schultz (
1960 ) . The reason for the
differences is straightforward. Schulz had only consulted the university bulletins,
while we had co-operated with each university on a case-by-case basis and therefore
had received information not contained in the bulletins. This method yielded a sub-
stantial correspondence which proved helpful in assigning the courses to categories.
The correspondence revealed more information about the purposes of the lectures
than can be mentioned in this introduction.
It is interesting to note some cultural differences
8
between our survey results and
Anglo-American fi ndings. Apart from the obvious differences in the organization of
courses, which turn on the chair system, cultural differences show up most point-
edly when the course emphasis is on major fi gures in the history of economic
thought. Table
1.3 shows a ranking of economists most often mentioned in course
Table 1.3 Ranking of economists
In German course titles In Anglo-American journals
Marx Smith
Schumpeter Keynes
List Ricardo
Smith Malthus
Keynes Marshall
Müller Walras
Fichte, Petty, Ricardo Knight, Veblen
Fisher
Schumpeter, Cournot, Quesnay
Wicksell, J. B. Clark
Pareto
Table 1.2 Purposes and course titles
Category Number of courses
General 191
Periods in the history of thought 72
The history of thought of subdisciplines 57
Focus on particular economists 31
Special problems 17
Other 8
8
Werner W. Pommerehne, Friedrich Schneider, Guy Gilbert and Bruno S. Frey ( 1984 ) , “Concordia
discors: Or: What do economists think?” Theory and Decision 16.3, pp. 251–308. This cultural
difference also shows up in the difference between the German and the English edition of
Recktenwald’s collection of biographical essays of major economists.
5
1 Introduction
titles and, for purposes of comparison, a ranking drawn from a publications analysis
undertaken by Stigler and Friedland (
1979 ) and de Marchi and Lodewijks ( 1983 ).
In the period under consideration, the fi rst place in German course titles takes
Marx.
9
He does not fi gure in de Marchi and Lodewijk’s ( 1983 ) study, since they
consider Marx and Marxism as a subject area. If the numbers attributed to this sub-
ject area were attributed to the man, he would rank fi rst in the American sample, too.
Rudolph (
1984 ) , in the preface to his important study on Rodbertus,
10
lists the fol-
lowing reasons that justify research in the history of thought from a Marxist point of
view: (1) to counter attempts at falsifying the historical record, undertaken by the
enemies of progress (p. 7); (2) to uncover, preserve, and continue the progressive
elements in our intellectual heritage (p. 7); (3) to make a contribution to the proto-
history of sources and elements which Marx and Engels used for their revolutionary
doctrine of scientifi c socialism (p. 9); and (4) Marxist social theory has reached a
level of modernity and differentiation which requires new studies using refi ned
methods of historical research (p. 11), for instance, the use of “the high art of cita-
tion” in which “Marx was a master.” (p. 13)
As I have mentioned earlier, this study cannot be duplicated for the United States.
However, it is readily apparent that research in the history of economic thought is
undertaken by American and European scholars alike for reasons other than l’art
pour l’art . This shows up when we look at the combination of research areas most
often noted by historians of economic thought according to the AEA Handbook
(1981). If the marginal products of research in the history of thought were invariant
with the variation of secondary research areas, a stochastic distribution should be
expected. Our count, however, is shown in Table
1.4 .
Again, this result is only indicative of some interesting patterns along which
historical research of economics proceeds. The selection of authors made in this
book is complete as far as the Anglo-American approach is concerned, but adds the
continental European perspective.
9
East German universities were excluded from the survey.
10
Rudolph, Günther (1984), “ Karl Rodbertus (1805–1875) und die Grundrententheorie: Politische
Ökonomie aus dem deutschen Vormärz. ” Berlin: Akademie (Akademie der Wissenschaften der
DDR – Schriften des Zentralinstitutes für Wirtschaftswissenschaften Nr. 21).
Table 1.4 Rankings of second research area
General economic theory 131
Economic history 45
Economic systems 33
General economics 31
Domestic monetary theory, etc. 13
Economic growth, etc. 10
Industrial organization, etc. 9
Economic education 6
Domestic fi scal policy, public fi nance 6
Not available 6
6 J.G. Backhaus
References
Backhaus J (1983) “Theoriegeschichte – wozu? Eine theoretische und empirische Untersuchung.”
Studien zur Entwicklung der ökonomischen Theorie III, H. Scherf, ed. Berlin: Duncker &
Humblot (Schriften des Vereins für Socialpolitik, N.V. 115 III)
Backhaus J (1986) History of economic thought – what for? Empirical observations from German
Universities. Hist Econ Soc Bull VII/2:60–66
Breit W, Ransom R (1982) The academic scribblers. The Dryden Press, Chicago
de Marchi N and Lodewijks J (1983) HOPE and the Journal Literature in the History of Economic
Thought. Hist Polit Econ 15(3):321–343
Neumark F (1975) Zyklen in der Geschichte ökonomischer Ideen. Kyklos 29(2):257–258
Perlman M, McCann C (2000) The pillars of economic understanding: factors and markets. The
University of Michigan Press, Ann Arbor
Pommerehne WW, Schneider F, Gilbert G, Frey BS (1984) Concordia discors or: what do econo-
mists think? Theory Decis 16(3):251–308
Recktenwald HC (1965) Lebensbilder großer Nationalökonomen. Kiepenheuer & Witsch, Köln
Röpke W (1933) Trends in German business cycle policy. Econ J XLIII/171:427–441
Rudolph G (1984) Karl Rodbertus (1805–1875) und die Grundrententheorie: Politische Ökonomie
aus dem deutschen Vormärz. Akademie, Berlin (Akademie der Wissenschaften der DDR –
Schriften des Zentralinstitutes für Wirtschaftswissenschaften Nr. 21)
Samuels W (1974) History of economic thought as intellectual history. Hist Polit Econ
6:305–322
Schultz B (1960) Die Geschichte der Volkswirtschaftslehre im Lehrbetrieb deutscher Universitäten
und einiges zur Problematik. In: Stammer O, Thalheim KC (eds) Festgabe für Friedrich Bülow
zum 70. Duncker & Humblot, Geburtstag, pp 343–362
Schumpeter JA (1948/1949) Some questions of principle. Unpublished introduction to his History
of Economic Analysis
Schumpeter JA (1954) History of economic analysis. Oxford University Press, New York
Stigler G (1969) Does economics have a useful past? Hist Polit Econ 1(2):217–230
Stigler G (1979) Does economics have a useful past? Hist Polit Econ 1(2):217–230
Stigler G, Friedland C (1979) The pattern of citation practices in economics. Hist Polit Econ
II(1):1–20
Walker D (1983) Biography and the study of the history of economic thought. Res Hist Econ
Thought Methodol 1:41–59
Yeager L (1981) Clark Warburton 1896–1979. Hist Polit Econ 13(2):279–284
7
JG B kh ( d) HdbkfhHi fE iTh h
C. P. Baloglou (*)
Hellenic Telecommunications Organization,
S.A. Messenias 14 & Gr. Lamprakis , 143 42 Nea Philadelphia , Athens , Greece
e-mail: [email protected]
Chapter 2
The Tradition of Economic Thought
in the Mediterranean World from the Ancient
Classical Times Through the Hellenistic
Times Until the Byzantine Times
and Arab-Islamic World
Christos P. Baloglou
Cicero
Xenophon
8 C.P. Baloglou
Introduction
Since modern economics is generally considered to have begun with the publication
of Adam Smith’s An Inquiry into the Nature and Causes of the Wealth of Nations in
1776 , a survey and investigation of pre-Smithian economic thought requires some
justifi cation. Such an effort must offer both historical and methodological support
for its contribution to the study of the history of modern economics.
Most of the histories of economics that give attention to the pre-Smithian
background ignore the economic thought of Hellenistic and Byzantine Times, as
well as Islamic economic ideas, although the Mediterranean crucible was the parent
of the Renaissance, while Muslim learning in the Spanish universities was a major
source of light for non-Mediterranean Europe. Another motivation, and a bit more
fundamental, has to do with the “gap” in the evolution of economic thought alleged
by Joseph Schumpeter (1883–1950) in his classic, History of Economic Analysis
(1954): “The Eastern Empire survived the Western for another 1,000 years, kept
going by the most interesting and most successful bureaucracy the world has ever
seen. Many of the men who shaped policies in the offi ces of the Byzantine emperors
were of the intellectual cream of their times. They dealt with a host of legal, monetary,
commercial, agrarian and fi scal problems. We cannot help feeling that they must
have philosophized about them. If they did, however, the results have been lost.
Aristotle
Socrates
9
2 The Tradition of Economic Thought in the Mediterranean World…
No piece of reasoning that would have to be mentioned here has been preserved.
So far as our subject is concerned we may safely leap over 500 years to the
epoch of St. Thomas Aquinas (1225–1274), whose Summa Theologica is in the
history of thought what the southwestern spire of the Cathedral of Chartres is in
the history of architecture.”
1
Schumpeter classifi ed several pre-Latin-European
scholastic centuries as “blank,” suggesting that nothing of relevance to economics,
or for that matter to any other intellectual endeavor, was said or written anywhere
else. Such a claim of “discontinuity” is patently untenable. A substantial body of
contemporary social thought, including economics, is traceable to Hellenistic, Arab-
Islamic, and Byzantine “giants.”
Our purpose of this essay is to explore and present the continuity of the economic
thought in the Mediterranean World from the Classical Times until the Byzantine
and Arab-Islamic world. In order to facilitate the reader’s appreciation and compre-
hension of this long period, the essay will open with an introductory section describ-
ing the signifi cance of the Greek economic thought compared to the ideas of the
other people lived in Mediterranean era. Following upon this general introduction,
the essay deals with the economic thought and writings of the Classical Period in
Greece (see section “The Classical Greek Economic Thought”).
The economic thought during the Hellenistic period (323–31 bc ) has not been
studied extensively. Histories of economic thought, when they refer to ancient
thought, usually pass directly from Aristotle or his immediate successors to
medieval economic Aristotelianism. It would seem that ancient economic thought,
having reached its zenith in Aristotle’s Politics , disappeared, only to reappear as a
catalyst for the refl ections of medieval commentators. However, we show that sev-
eral Hellenistic schools do refer to economic problems (see section “Economic
Thought in Hellenistic Times”).
The Roman writers do belong in the tradition of the European intellectual life.
Economic premises and content of Roman law evolved into the commercial law of
the Middle Ages and matured into the Law Merchant adopted into the Common
Law system of England on a case-by-case basis, primarily under the aegis of Lord
Mansfi eld, Chief Justice of the Court of King’s Bench, 1756–1788 (see section
“The Roman Heritage”).
2
The economic ideas of the Roman philosophers, and particularly of Plato and
Aristotle against usury and wealth, infl uenced the Christian Fathers of the East, who
belong to the Mediterranean tradition. Their aim is broadly to refl ect upon the
first- and second-generation Church literature to provide assistance in dealing
with the new and baffl ing range of problems with which the Church of their day
was confronted. Of considerable importance among the issues which the Fathers
faced was the problem of the unequal distribution of wealth and similar related
economic issues.
3
They refl ected heavily in their works the ideas of the classical
Greek philosophers.
1
Schumpeter ( 1954 [1994], pp. 73–74).
2
Lowry ( 1973, 1987b , p. 5).
3
Karayiannis and Drakopoulos-Dodd ( 1998 , p. 164).
10 C.P. Baloglou
Another central issue of the Byzantine History was that the scholars did get
occupy of the social and economic problems of the State. The ideology of these
scholars remained constantly in the patterns of the “Kaiserreden” (speeches to
Emperors), which were written systematically in the fourteenth and fi fteenth
century (see section “The Byzantine Economic Thought: An Overview”).
4
While the infl uence of Islamic science and mathematics on European develop-
ments has been widely accepted, there has been a grudging resistance to investigate
cultural infl uences; the troubadour and “courtly love” tradition is a case in point. We
tend to forget that the court of Frederick II in the “Two Sicilies” in the twelfth cen-
tury held open house for Muslim, Christian, and Jewish scholars. Also, there was
the sustained Spanish bridge between North Africa and Europe that maintained cul-
tural interaction through the Middle Ages when many scholastic doctors read
Arabic.
5
The main characteristic of the Islamic economic thought is that the Greek
and Iranian heritages fi gure most prominently in its literary tradition (see section
“Arab-Islamic Economic Thought”).
The Classical Greek Economic Thought
About 5,000 years ago, the Mediterranean region became the cradle of a number of
civilizations. Egypt, Mesopotamia, Syria, and Persia fi gure in the history books as
creative incubators of our cultural heritage. Their palace and temple complexes
were of an unparalleled grandeur and arouse our awe even today. Their civilizations
had relatively developed economies, with surplus production effi ciently mobilized
and redistributed for the administrative and religious establishment. Their scribal
schools produced a great number of manuals with detailed instructions for the run-
ning of the complex system. But, in their compact worldview, there was no space for
an autonomous body of political thought and still less for one of economic thought.
6
Classical Greece made a quantum leap in the humanization of arts and philosophy.
Its rationalism came as a challenge to the mythical worldview and to the religious
legends and liturgies. Aristotle states that very precisely and appropriately by the
following sentence: “ o i Έ l l h n e V d i a t o f e ύ g e i n t h n ά g n o i a n e f i l o s ό f h s a n
[…] d i a t o e i d έ n a i t o e p ί s t a s q a i e d ί w k o n k a i o u c
r ή s e ώ V t i n o V έ n e k a ”
( Metaphysics A 983 b11).
The Greek rhetoricians and scholars were also the fi rst to write extensively on
problems of practical philosophy like ethics, politics, and economics. This is proved
4
van Dieten ( 1979 , pp. 5–6, not. 16).
5
Lowry ( 1996 , pp. 707–708).
6
Baeck (1997, p. 146). It is evident that we meet descriptions of economic life and matters in
Zoroaster’s law-book and in the Codex Hammurabi. Cf. Kautz (
1860 , pp. 90–91). In the Talmudic
tradition, the ethical aspect of the labor has been praised. Cf. Ohrenstein and Gordon (
1991 ,
pp. 275–287). For an overview of the economic ideas of the population round the Mediterranean,
see Spengler (
1980 , pp. 16–38) and Baloglou and Peukert ( 1996 , pp. 19–21).
11
2 The Tradition of Economic Thought in the Mediterranean World…
by the works entitled “On wealth (peri ploutou)” and “On household economics (peri
oikonomias).” In the post-Socratic demarcation of disciplines, ethics was the study of
personal and interindividual behavior; politics was the discourse on the ordering of
the public sphere; and the term oikonomia referred to the material organization of the
household and of the estate, and to supplementary discourses on the fi nancial affairs
of the city-state (polis-state) administration. Greek economic thought formed an
integral but subordinated part of the two major disciplines, ethics and politics. The
discourse of the organization of the Oikos and the economic ordering of the polis was
not conceived to be an independent analytical sphere of thought.
7
Homo Oeconomicus: Oikonomia as an Art Effi ciency
The word “Oikonomia” comes from “Oikos” and “nemein.” The root of the verb
“ n έ m e i n (nemein)” is nem ( n e m -) and the verb “nemein” which very frequently appears
in Homer means “to deal out, to dispense.” From the same root derive the words n o m ή,
n o m e ύ V (a fl ock by the herdman), and n έ m e s i V (retribution, i.e., the distribution of
what is due). This interpretation comes from Homer’s description of the Cyclops, who
were herdmen ( n o m e ί V ) ( H omer, Odyssey , ix, 105–115). According to J.J. Rousseau
(1712–1778), the second word means decreeing of rules legislation: “The word econ-
omy comes from o ί k o V , house, and from n ό m o V , law, and denotes ordinarily nothing
but the wise and legitimate government of the house for the common benefi t of the
whole family. The meaning of the term has later been extended to the government of
the great family which is the state.”
8
This term means Household Management – the
ordering, administration, and care of domestic affairs within a household; husbandry
which implies thrift, orderly arrangement, and frugality, and is, in a word, “economi-
cal.” Here, in the primary sense of the root, oikonomos ( o i k o n ό m o V ) means house
manager, housekeeper, or house steward; oikonomein ( o i k o n o m e i n ) means “to man-
age a household” or “do household duties,” and oikonomia ( o i k o n o m ί a ) refers to the
task or art or science of household management.
9
According to Aristotle, the second
word has the meaning of arrangement, and consequently, their harmonization for their
better result (Aristotle, Politics I 10, 1258 a21–26).
The epic “Works and Days” seems to have been built around the central issue of
economic thought: the fundamental fact of human need ( Works and Days , 42ff). It
follows the implications of that primordial fact into all its ramifi cations in the life of
a Greek peasant. The problem, Hesiod teaches his brother, is to be solved not by
means that nowadays would be labeled as “political” by force and fraud, bribery,
and willful appropriation, but by incessant work in fair competition, by moderation,
honesty and knowledge of how and when to do the things required in the course of
seasons ( Works and Days , 107–108), how to adjust wants to the resources available
7
Baeck (1994, pp. 47–49).
8
Rousseau ( 1755 , pp. 337–349 [1977, p. 22]).
9
Reumann ( 1979 , p. 571).
12 C.P. Baloglou
( Works and Days , 231–237), and above all, how to shape attitudes and actions of
all men (and the more diffi cult problem: women) in order that a viable, enduring
pattern of peaceful social life may be established which assigns to every part its
place in a well-ordered whole. It is worth noting, too, that the famous verse ( Works
and Days , 405) “First of all, get an Oikos, and a woman and an oxforthe plough,”
which crystallizes the deeper sense of the term “oikonomia” in its original primal
meaning, will be repeated and quoted by Aristotle ( Politics I 2, 1252 b11–13) and
the author of the work “Oeconomica” (A II, 1343 a18). Righteously then, according
to our point of view, Hesiod is acknowledged as the founder of the so-called
“Hausväterliteratur,”
10
the literature which studies the householding, the housekeep-
ing, and extends until the Roman agricultural economists.
11
Phokylides of Milet, in the second half of the sixth century bc , is the fi rst to men-
tion economists. In an elegant poem, he compares women to animals: to dogs, bees,
wild pigs, and to long-named mares, to which different characteristics are assigned.
Naturally, the bee is the best housekeeper and the poet prays that his friend can lead
such a woman to a happy marriage.
12
In the same manner, Semonides of Amorgos
(ca. 600 bc ) presents in his elegant poem entitled “Jambus of Women”
13
several
types of women who come from different animals. The best type of woman is only
those who come from the bee.
14
He will emphasize the good behavior of a woman,
because she contributes on the welfare of the Oikos.
15
From Pittakos of Lesbos, one of the Seven Wise Men, comes the word of the
“unfufi llable lust for profi t” (DK 10 Fr. 3e 13); also here is found the earliest usage
of the word oikonomia for “household education” (DK 10 Fr. 3e 13, verse 19), a
passage, which has not been well studied,
16
as far as we know. We need to consider
that the previous verses belong to a testimonium and not to a fragment of a particu-
lar work of Pittacus.
From the other presocratic philosophers, Democritus, who was “the most multi-
faceted and learned” philosopher before Aristotle ( Diog. Laert. I 16), wrote a book
on agriculture as the Roman agricultural economists Varro ( De re rustica I 1, 8) and
Columella ( De re rustica , praef. 32 III, 12, 5) tell us. Columella quotes him as say-
ing that “those who wall in their gardens are unwise, because a fl imsy wall will not
survive the wind and rain, while a stone will cost more to build than the wall itself
is worth” (Columella, De re rustica XI 3, 2). This is at least an early sign of the
weighing of (objective) utility and costs.
10
Brunner ( 1968 , pp. 103–127).
11
Brunner ( 1949, 1952 ) .
12
Diehl ( 1949 , Fasc. 1, Fr. 2, Vv. 1–2, 6–7). Cf. Descat ( 1988 , p. 105).
13
Diehl ( 1949 , Fasc. 3, Fr. 7). Cf. Kakridis ( 1962 , p. 3–10).
14
Diehl ( 1949 , Fasc. 3, Fr. 7, Vv. 84–87, 90–91).
15
Diehl ( 1949 , Fasc. 3, Fr. 6). This idea borrows Semonides from Hesiod, Works and Days , Vv.
102–103.
16
For exceptions, see Schefold ( 1992, 1997 , p. 131), Maniatis and Baloglou ( 1994 , pp. 23–24), and
Baloglou (
1995 ) .
13
2 The Tradition of Economic Thought in the Mediterranean World…
The words we have of Democritus, directly with respect to the household, show
that while he held to the general understanding of the household maintenance, he
advocated a posture of greater freedom in role fulfi llment than Plato.
17
Even a brief
look into the fragments on politics and ethics
18
show that – in comparison with
Plato’s position – he held to a creed of democracy (DK 68 B 251) and liberal thinking
(DK 68 B 248). He also refers to the job of the rich in democratic politics, to
contribute spontaneously to the good of the community. He emphasized the necessity
of education for the right use of wealth (DK 68 B 172). The family is to lead by
example (DK 68 B 208). In general, there is more to be achieved through “encour-
agement and conceiving words” than through “law and force.” He felt that force
leads to the concealment of wrong-doing (DK 68 B 181).
Democritus
19
seems to be the fi rst philosopher who gives an extensive description
of the appearing of labor, in the form as collection, transportation, and storing of
fruits.
20
To these two simultaneous achievements, the storing of wild fruit and plant
food and taking shelter in caves in winter, to the starting point in brief in economy
and ecology, are attributed the beginning of History, although its introduction into the
life of primitive people was gradual, as they learned from “experience.”
The idea of house management is common enough that it can be referred to again
and again in a variety of ways in Greek literature. Lysias, the orator of the later fi fth
century bc , can praise the wife of one of his clients for having been at the start of
their marriage a model housewife: “At fi rst, O men of Athens, she was best of all
women; for she was both a clever household manager (oikonomos) and a good,
thrifty woman, arranging all things precisely” (Lysias, On the Murder of Eratosthenes , 7).
Targic and comic poets give some insight into the daily life and tasks of household
managers-wives, or slaves employed in such a capacity.
21
The Socratic Evidence
The use of the term “oikonomia” by Socrates verifi es that in the circle of his disciples
there were discussions around managing affairs of the Oikos. This proves the work
entitled Peri Nikes Oikonomikos given by Diogenes Laertius (VI 15) in the biography
of Antisthenes. It is the fi rst work with this title in the Greek literature.
Antisthenes (ca. 450–370) was preoccupied with the problem of managing of
house-property, as it is pointed out by the titles of the works On Faith ( peri pisteos )
17
Schefold ( 1997 , p. 106).
18
Vlastos ( 1945 , pp. 578–592).
19
For a more detailed analysis of Democritus’ economic ideas, see Karayiannis ( 1988 ) and
Baloglou (
1990 ) .
20
Despotopoulos ( 1991 , pp. 31–51, 1997 , pp. 53–56).
2 1
Sophocles, Electra 190; Aischylos, Agamemnon 155; Alexis, Crateuas or the Medicine Man 1.20,
in Kock
1880–1888 , vol. 2, F. 335; An unknown comic poet in Kock 1880–1888 , vol. 3, F. 430.
Cf. also Horn (
1985 , pp. 51–58).
14 C.P. Baloglou
and On the Superintendant ( peri tou epitropou ) (Diog. Laert. VI 15). It has been
supported
22
that he infl uenced Xenophon in writing his “Oeconomicus.”
By analyzing the proper economic actions, activities, pursuits, and responsibilities
of the head of the Oikos, Xenophon developed interesting ideas “framed in terms of
the individual decision-maker.”
23
Xenophon uses as an example of good organiza-
tion, management, administration, and control that exercised by the queen-bee. He
mentions that the leader of the Oikos (kyrios) must organize and control the work
done by his douloi and laborers and then distribute among them a part of the product
as the queen bee does ( Oeconomicus VII 32–34). He sets forth the Socratic idea that
if you can fi nd the man with a ruling soul, the archic man, you had better put him in
control and trust his wisdom rather than the counsels of many.
After dealing with the content and scope of “oikonomia,” Xenophon empha-
sized that every social agent acts as an entrepreneur-manager or as an administra-
tor of the Oikos and is interested in the preservation and augmentation of the
possessions of his Oikos: “the business of a good oikonomos (kalos kagathos) is
to manage his own estate well” ( Oeconomicus I 2). The master, however, may as
the Xenophontic Socrates observes, entrust another man with the business of
managing his Oikos. This seems to introduce another way of being an “Oikonomos,”
but one thoroughly familiar to an Athenian of that epoch, for Critoboulos instantly
agrees “Yes of course; and he would get a good salary if, after taking on an estate
(ousia), by showing a balance (periousia)” ( Oeconomicus I 4).
24
Evidently, this
delegated function has a narrower scope than that of the householder-master (des-
potes). It is related to payments and receipts and seems akin to moneymaking, for
success is measured by the attainment of a “surplus” (periousia). This does not
necessarily imply a capitalistic style of economic organization, but it shows how
fl uid the boundary between farming in sustenance and for profi t had become and
it talks of chrematistics and economy,
25
as if they were neighbors rather than
opposites – in contrast to Aristotle from whom the two modes of economic life are
divided by a chasm.
It would have been a serious omission not to mention that the worship of God
by members of “Oikos” is a part of “oikonomia” ( Oeconomicus V 19, 20). That
particular characteristic of the Ancient Greek Oikos distinguishes is from the
modern one.
Many examples can be cited of the Greeks’ concern for the effi cient management
of both material and human resources. Xenophon’s Banquet is an anecdotal account
2 2
Vogel ( 1895 , p. 38), Hodermann ( 1896 , p. 11; 1899 , ch. 1), Roscalla ( 1990 , pp. 207–216),
and Baloglou and Peukert (
1996 , pp. 49–53).
23
Lowry ( 1987a , p. 147).
24
Karayiannis ( 1992 , p. 77) and Houmanidis ( 1993 , p. 87).
25
As Lowry ( 1987c , p. 12) comments: “The Greek art of oikonomia, a formal, administrative art
directed toward the minimization of costs and the maximization of returns, had as its prime aim the
effi cient management of resources for the achievement of desired objectives. It was an administra-
tive, not a market approach, to economic phenomena.” See also Lowry (
1998 , p. 79).
15
2 The Tradition of Economic Thought in the Mediterranean World…
of the “good conversation” associated with the leisurely eating and drinking and
subsequent entertainment that accompanied the formal dinner. But Socrates’
remarks to the Syracusan impresario who provided the dancing girls and acrobats
for the entertainment were not about their skill or grace, but about the “economics”
of entertainment. “I am considering,” he said, “how it might be possible for this lad
of yours and this maid to exert as little effort as may be, and at the same time give
us the greatest amount of pleasure in watching them-this being your purpose, I am
sure” ( Banquet VII 1–5).
In his effort to interpret the term “oikonomia,” Xenophon describes extensively
the three kinds of relationships between the members of the Oikos:
1. The relationship between husband and wife: gamike ( Oeconomicus VII 3, 5, 7,
8, 22–23, 36).
2. The relationship between father/mother and children: teknopoietike ( Oeconomicus
VII 21, 24).
3. The relationship between the head of household (kyrios) and domestic slaves
(douloi) ( Cyropaedia B II 26; Oeconomicus XIII 11–12; XXI 9; IV 9).
The description of the occupations in the Oikos and the relations between its members
states precisely the content of the term “oikonomia.” Xenophon will infl uence
Aristotle, and the latter will analyze the meaning of the term “oikonomia.”
The Oikos in the Aristoteleian Tradition
The objective of politics is to specify the rhythm of common political life in such a
frame that would enable the man who lives in Politeia to enjoy happiness (eudaimo-
nia) respective to his nature. Politics is projected against the other assisting “sci-
ences, arts,” such as strategike, oikonomike, and rhetorike (Aristotle, Nicomachean
Ethics I 2, 1094 a25–94 b7). This happens because man is an inadequate part of the
political whole and is unable to sustain his existence and achieve his perfection.
Aristotle believes that the political community ontologically has absolute priority
over any person or social formation: “Thus also the polis is prior in nature to the
Oikos and to each of us individually. For the whole must necessarily be prior to the
part” ( Politics I 2, 1253 a19–21). According to the ancient political thought, as
Aristotle expresses it, man is primarily a “political animal (zoon politikon)” ( Politics
I 2, 1253 a3–4; Nicomachean Ethics I 7, 1097 b11; 9, 1169 b18–19).
Apart from this dimension, man as a member of a “politeia which is called the
life of a statesman (politicos), a man who is occupied in public affairs” (Plutarch,
Moralia 826D), he has another dimension as a member of the Oikos. That is why
the Stageirite calls him “economic animal”: “For man is not only a political but also
a house-holding animal (oikonomikon zoon), and does not, like the other animals,
couple occasionally and with any chance female or male, but man is in a special way
not a solitary but a gregarious animal, associating with the persons with whom he
has a natural kinship” (Aristotle, Eudemeian Ethics VIII 10, 1242 a22–26).
16 C.P. Baloglou
This characterization introduced by Aristotle has not been mentioned by the most
authors
26
; it is, however, of primal importance for the understanding of the parts of
the Oikos.
Aristotle recognizes the three relationships in the Oikos:
1. Master and doulos-oiketes (household slave): despotike
2. Man and wife: gamike
3. Father and children: teknopoietike
These three relationships and the existence of a budget consist of the “economic
institution” (oikonomikon syntagma).
27
The Oikos is the part of the whole, of the Polis, and the relationships of the
members of the Oikos are refl ected in the forms of government (Aristotle, Politics
I 13, 1260 b13–15; Idem, Eudemeian Ethics VIII 9, 1241 b27–29). Therefore, the
relationship of the man and wife corresponds to the aristocracy ( Eudemeian Ethics
VIII 9, 1241 b27–32), the relationship of the father and children to kingship ( Politics
I 12, 1259 b11–12), and the relationship of the children corresponds to democracy
(politeia) ( Eudemeian Ethics VIII 9, 1241 b30–31). The relationship between master
and doulos-oiketes consists of an object of the so-called, “despotic justice,” which
differs from the justice that regulates the relations of the members of the Polis
and from the justice that rules the relationships of the citizens of an oligarchic or
tyrannic government ( Nicomachean Ethics V 10, 1134 b11–16; Great Ethics I 33,
1194 b18–20).
It is worth to note that Hegel presents in the Third Part of his work Philosophie
des Rechtes the tripartite division Familie, Bürgeliche Gesellschaft, Staat, in a
distinct manner as we believe, corresponding to the aristoteleian tripartite distinc-
tion: Oikos, Kome, Polis. Such division characterizes deeply the trends of the
sociology of the nineteenth century, this tripartite Hegelian theory of society.
28
Aristotle tells the reader that each relationship has a naturally ruling and ruled
part – even the procreative relationships are informed by subjuration. Accordingly,
the only unsubjurated part, one which Aristotle separates from the other three, is the
fourth part of the Oikos, the art of acquisition (ktetike). Its concern is not with
subjuration, but with acquisition or accumulation.
29
Aristotle proceeds to a discussion of the kinds of acquisition and the ways of life
from which they follow. He selects the word “chrematistic” to convey his meaning
of the natural art of acquisition. According to several commentators of the Politics ,
the word while inexact, “often means money and is always suggestive of it.”
30
26
For an exception, see Kousis ( 1951 , pp. 2–3) and Koslowski ( 1979a , pp. 62–63). Cf. also
Koslowski (
1979b ).
27
Rose ( 1863 , p. 181, Fr. XXXIII).
28
Despotopoulos ( 1998 , p. 96).
29
Brown ( 1982 , pp. 17–172).
30
Newman, vol. I ( 1887 , p. 187) and Polanyi ( 1968 , p. 92): “Chrematistike was deliberately
employed by Aristotle in the literal sense of providing for the necessaries of life, instead of
its usual meaning of ‘money-making.’” See Barker (
1946 , p. 27). See an extensive analysis in
Egner (
1985 , ch. 1).
17
2 The Tradition of Economic Thought in the Mediterranean World…
At this point, we should mention something that gets usually disregarded by
most of the authors. The term “chrematistike” is found originally in Plato: “Nor, it
seems, do we get any advantage from all other knowledge (episteme), whether of
money-making (chrematistike) or medicine or any other that knows how to make
things, without knowing how to use the thing made” (Plato, Euthydemus 289A).
This term denotes this “episteme” (science) that relieves people from poverty; in
other words, “it teaches them how to get money” (Plato, Gorgias 477 E10–11; 478
B 1–2). It is not without worth to note that Plato places chrematistics parallel to
medicine [cf. Plato, Euthydemus 289A; idem, Politeia 357 c5–12; idem, Gorgias
452a2, e5–8, 477 e7–9]. This emphasizes the fact that both “chrematistics” and
“medicine” are “arts” (sciences), which have as target the support of the traditional
goods: the external goods (wealth), the body (health). This widely accepted view of
the parallel setting of medicine and chrematistics is adopted also by Aristotle
( Politics I 9, 1258 a11–15; 10, 1258 a28–30; idem, Eudemeian Ethics I 7, 1217
a36–39; Nicomachean Ethics III 5, 1112 b4–5).
Simultaneously, in the dialog Sophist the kinds of “chrematistike” are explored.
The acquisition (ktetike techne) is contrasted in “poietike” and subdivided in the divi-
sion of hunting and of exchange, the latter in two sorts, the one by gift, the other by
sale. The exchange by sale is divided into two parts, calling the part which sells a
man’s own productions the selling of one’s own (autourgon autopoliken), and the
other, which exchanges the works of others, exchange (allotria erga metavallomenen
metavletiken), which is subdivided in “kapelike” (part of exchange which is carried on
in the city) and “emporia” (exchanges goods from city to city) (Plato, Sophist 219 b,
223c–224d). These activities have a different moral evaluation: it is better to construct
(poietike) rather than to acquire (ktetike); better to gain from nature than from transac-
tions with others; better to offer than participate in the market. The method of working,
the objectives, and the tools are the criteria for a classifi cation which later in the work
forms the basis for the treatment of the sophist (Plato, Sophist 219a-d).
31
Aristotle, obviously infl uenced by Plato’s analysis, distinguishes the three kinds
of acquisition.
The fi rst kind – “one kind of acquisition therefore in the order of nature is a part
of the household art (oikonomike)” ( Politics I 11, 1256 b27) – is the acquisition
from nature of products fi t for food ( Politics I 11, 1258 a37), which is to be added
as simple barter of these things for one another, which is the good metabletike.
Similar to this kind of acquisition is the “wealth-getting in the most proper sense
(oikeiotate chrematistike) (the household branch of wealth-getting)” ( Politics I 11,
1258 b20) – whose branches are agriculture – corn-growing and fruit-farming –
bee-keeping, and breeding of the other creatures fi nned and feathered ( Politics I 11,
1258 b18–22).
32
31
Hoven van den ( 1996 , p. 101).
32
Susemihl and Hicks ( 1894 , p. 171 and 210). Maffi ( 1979 , p. 165) against Polanyi’s thesis;
Pellegrin (
1982 , pp. 638–644), Venturi ( 1983 , pp. 59–62), Schefold ( 1989 , p. 43), and Schütrumpf
(
1991 , pp. 300–301).
18 C.P. Baloglou
The second kind is trade in general, kapelike, synonym with metabletike in the
narrower sense or chrematistics in the narrower sense ( Politics I 9, 1256 b40–41), in
which Aristotle thinks men get their profi t not of nature, but out of one another and
so unnaturally ( Politics I 10, 1258 b1–2: “for it is not in accordance with nature, but
involves, men’s taking things from one another.”)
The third kind is, like the fi rst, the acquisition from nature of useful products, but
the products are not edible. Aristotle calls this kind “between” the latter and the one
placed fi rst, since it possesses an element both of natural wealth-getting and of the
sort that employs exchange; it deals with all the commodities that are obtained from
the earth and from those fruitless, but useful things that come from the earth ( Politics
I 11, 1258 b28–31).
The wealth which is the object of the second kind, consisting of money ( Politics I
1257 b5–40), is unnatural as contrasted with the “wealth by nature” (ploutos kata
physin) of the fi rst kind ( Politics I 1257 b19–20), and the commodities which form the
wealth of the third kind are clearly more like the unnatural wealth. To them one might
also apply what is said of money: “[…] yet is absurd that wealth should be of such a
kind that a man may be well supplied with it and yet die of hunger” ( Politics I 8, 1257
b15–16). Furthermore, the fi rst kind of acquisition is more natural than the third in the
sense that “natural” is opposed to “artifi cial” rather than to “unnatural.”
33
We have to emphasize the ethical evaluation of the “chrematistike.” Aristotle
does not condemn “chrematistics” as long as it does not go beyond the natural limits
of acquisition of goods ( Politics I 9, 1257 b31ff). For this reason, he calls it “oikono-
mike chrematistike.”
Aristotle’s ideas on “chrematistics” and wealth refl ect a tradition in the Greek
thought which is found in the Lyric poets, such Sappho, Solon, Theognis, and in
classical tragedy (Sophocles, Antigone 312).
34
He makes clear that this search for
profi t (kerdos) is not denounced with respect to any specifi c method of earning
wealth, but to the general hoarding of wealth (Sophocles, Antigone , 312). The
expression “argyros kakon nomisma” (295–296), used by Creon, shows the ethical
aversion of the excessive wealth by the ancient Greek thought. It is not accidental
that Marx
35
does use the same expression, who describes the love for gold and the
thirst of money, two phenomena which are produced with money.
Aristotle’s dinstinction between “necessary” and “unnecessary” exchange and
his dictum in the Politics (I 1257 a15–20) that “retail trade is not naturally a part of
the art of acquisition” have been widely interpreted as a moralistic rejection of all
commercial activity. M.I. Finley (1912–1986), for example, fi nds “not a trace” of
economic analysis in Politics and maintains that in this work Aristotle does not “ever
consider the rules or mechanics of commercial exchange.”
36
On the contrary, he
says, “his insistence on the unnaturalness of commercial gain rules out the possibil-
ity of such a discussion.”
33
Meikle ( 1995 ) .
34
Meyer ( 1892 , p. 110), Stern ( 1921 , p. 6), and Schefold ( 1997 , p. 128).
35
Marx ( 1867 [1962], p. 146).
36
Finley ( 1970 , p. 18).
19
2 The Tradition of Economic Thought in the Mediterranean World…
Aristotle’s theory of association in Politics is based upon mutual need satisfaction.
Exchange, Aristotle says, arises from the fact that “some men [have] more, and
others less, than suffi ces for their needs” ( Politics I 1257a). Exchange, however, is
not a natural use of goods produced for consumption. Where barter, the exchange of
commodities for commodities (C-C ¢ ), occurs, goods move directly from the pro-
ducer to the consumer, and Aristotle considered this form of exchange a natural or
“necessary” form of acquisition because he says, it is “subject to defi nite bounds.”
Aristotle viewed exchange with money used as an intermediary (C-M-C ¢ ) as
“necessary” when its ultimate purpose is to acquire items for consumption, because
the desire for goods is then still subject to the natural limit of diminishing utility.
37
He classifi ed retail trade, where money is used to purchase commodities to sell in
order to acquire more money (M-C-M) as an “unnecessary” form of exchange. Its
objective, he says, is not the satisfaction of need, but the acquisition of money which
has no use in and of itself and is therefore not subject to a natural limit of desire, as
he illustrates with the Midas legend ( Politics I 9 1257 b14–15). Further, this form of
acquisition has “no limit to the end it seeks.” It “turns on the power of currency” and
is thus unrelated to the satisfaction of needs. The “extreme example” of “unneces-
sary” or “lower” form of exchange, and a still greater perversion of the exchange
process, Aristotle says, is usury, for it attempts to “breed” money – “currency, the
son of currency.” Usury “makes a profi t from currency itself (M-M ¢ -M″) instead
of making it from the process which currency was meant to serve” ( Politics I 10,
1258 b5–9).
From the Economics of the Oikos to the Economics of the Polis
Sophists, who brought about a new movement of intellectuals in the middle of the
fi fth century bc in Athens, taught how to be virtuous. The knowledge which
Protagoras claims to teach the youth “consists of good judgement (euboulia) in his
own affairs (peri ton oikeion), which shall enable him to order his own house (ten
heautou oikian dioikein), as well as teach him how to gain infl uence in the affairs of
the polis (ta tes poleus), in speech and action” (Plato, Protagoras 318E5–319A2).
A similar formula occurs in Aristophanes’ Frogs (405 bc ), where Euripides in his
great agon with Aeschylus boasts, in a Sophist’s manner, of having helped the
Athenians “to manage all their household better than before (tas oikias dioikein)”
( Frogs , vv. 975ff), by teaching them to ask the “why” and “how” and “what” of even
the smallest things. Both phrases are formed by reduplication and may, to a modern
reader, sound somewhat clumsy.
38
37
The only goods which Aristotle exempts from diminishing utility are “goods of the soul,” physic
goods. “The greater the amount of each of the goods of the soul,” he says, “the greater is its utility”
(Aristotle, Politics 1323b). Cf. Lowry (
1987c , p. 19).
38
Radermacher ( 1921 , pp. 284–286) and Spahn ( 1984 , p. 315).
20 C.P. Baloglou
One can see clearly the subsequence of economic issues and problems of the
Oikos and the Polis, in the dialog between Socrates and Nicomachides, as described
by Xenophon
39
: “I mean that, whatever a man controls, if he knows what he wants
and can get it he will be a good controller, whether he controls a chorus, an Oikos,
a Polis or an army.” “Really Socrates,” cried Nicomachides, “I should never have
thought to hear you say that a good businessman (oikonomos) would make a good
general” (Xenophon, Memorabilia III IV, 6–7).
The view of Socrates that the difference between the Oikos and the Polis lies in
their size, only whereas they are similar to Nature and their parts, gets crystallized
in the following passage from the same dialog between Socrates and Nicomachides,
where Xenophon presents “the best lecture to a contemporary Minister of Finance,”
according to A.M. Andreades (1876–1935)
40
:
Don’t look down on businessmen (oikonomikoi andres), Nicomachides. For the manage-
ment of private concerns differs only in point of number from that of public affairs. In other
respects they are much alike, and particularly in this, that neither can be carried on without
men, and the men employed in private and public transactions are the same. For those who
take charge of public affairs employ just the same men when they attend to their own (hoi
ta edia oikonomountes); and those who understand how to employ them are successful
directors of public and private concerns, and those who do not, fail in both (Xenophon,
Memorabilia III IV, 12).
Plato was also of the opinion that “there is not much difference between a large
household organization and a small-sized polis” and that “one science covers all
these several spheres,” whether it is called “royal science, political science, or sci-
ence of household management” (Plato, Statesman ( Politicus ) 259 b-e). These ideas
of Xenophon and Plato are refuted by Aristotle in the Politics (I 1, 1252 a13–16).
41
A characteristically Xenophontean passage dealing with this generalization of
the administrative process gives us a persuasive view of this practical art ancient as
well as modern times. After the dialog between Socrates and Nicomachides in
“Memorabilia,” Xenophon points out that the factor common to both is the human
element. “They are much alike” he says, in that “neither can be carried out without
men” and those “who understand how to employ them are successful directors of
public and private concerns, and those who do not, fail in both.”
42
In Xenophon already, oikonomikos sometimes suggests being skilled or adept at
fi nance, and this element in the idea grew in the popular Greek understanding of the
concept (Xenophon, Agesilaus 10,
1
) : “I therefore praise Agesilaus with regard to such
qualities. These are not, as it were, characteristic of the type of man who, if he should
fi nd a treasure, would be more wealthy, but in no sense wiser in business acumen.”
39
There are also other examples in the classical tragedy which seem quite interesting, because of
the connection between the issue of managing the Oikos effectively and managing of the Polis. Cf.
Euripides, Electra 386 ff.
40
Andreades ( 1992 , p. 250, not. 3).
41
Schütrumpf ( 1991 , pp. 175–176).
42
See Strauss ( 1970 , p. 87) for a discussion of this passage.
21
2 The Tradition of Economic Thought in the Mediterranean World…
Aristotle had called someone managing the funds of a polis carefully “a steward of
the polis ( t i V d i o i k ώ n o i k o n ό m o V )” (Aristotle, Politics V 9, 1314 b8).
43
The ancient recognition of the primary role of the human element in the success-
ful organization of affairs is a facet we tend to ignore when we approach the ancient
world from our modern market-oriented perspective.
44
They emphasized the impor-
tance of the human variable, of one’s personal effectiveness in achieving a success-
ful outcome in any venture. From this anthropocentric point of view, improving
human skill in the management of an enterprise meant nothing less than increasing
the effi ciency of production. In ancient Greece, the maximization of the human fac-
tor was considered as important as that of any other resource.
45
Apart, however, from the skillful administrative control over men, the Ancient
Greeks provided the fact that the ruler has to have an interest in the public fi nances.
From the conversations of Socrates reported by Xenophon in his Memorabilia , we
learn that the fi nances of the polis of Athens were a subject with which young men
looking forward to political careers might well be expected to acquaint themselves
(Xenophon, Memorabilia III VI).
Management of public fi nance and administration of the Polis have extensively
preoccupied Aristotle. In his letter to Alexander he adopts the term “oikonomein” to
denote the management of the Polis fi nances. (I. Stobaeus, Anthologium ) (hence-
forth Stob. I 36 p. 43,
15
–46,
2
) In Rhetoric , he mentions that among the subjects
concerning which public men should be informed is that of the public revenues.
Both the sources and the amount of the receipts should be known, in order that
nothing may be omitted and any branch that is insuffi cient may be increased. In
addition to this, expenditures should be studied so that unnecessary items may be
eliminated; because people become wealthier not only by adding to what they
have, but also by cutting down their outlay (Aristotle, Rhetoric I 4, 1359 b21–23).
A similar discussion is found in the Rhetoric for Alexander (II 2, 1423 a21–26 and
XXXVIII 20, 1446 b31–36).
It is also worth noting that Demosthenes (fourth century bc ) writes about the
public fi nance. In his speech On Crown , he enumerates a politician’s activities in the
fi nancial sector (Demosthenes, On Crown 309). In the Third and Fourth Philippics
(IV 31–34, 35–37, 42–45, 68–69), the author makes particular proposals of a
fi nancial character which provided the essentials of a plan of fi nance.
46
It is worth
to note that in the period between 338 bc (Battle of Chaironeia) and 323
(Death of Alexander) – where the orator Lycurg
47
was the Minister of Public Finance
43
Reuman ( 1980 , p. 377).
44
Lowry ( 1987a , p. 57, 1987c, 1995, 1998 ) .
45
Trever ( 1916 , p. 9) evidently had this point in mind when he observed that “Aristotle struck the
keynote in Greek economic thought in stating that the primary interest of economy is human
beings rather than inanimate property.” In a conversation between Cyrus and his father in the
Cyropaedia (I VI 20–21), we are presented with the clearest kind of analysis of successful admin-
istrative control over men.
46
Cf. Bullock ( 1939 , pp. 156–159).
47
Conomis ( 1970 ) .
22 C.P. Baloglou
of the Athenian Democracy – specifi c proposals of fi nancial policy were provided
by Aristotle,
48
Hypereides
49
, and the aforementioned Demosthenes. Their target was
a redistribution of wealth inside the polis between the citizens: the best proposal
was to advise the rich to contribute money in order to cultivate the poor land or give
capital to the poor people to develop enterprises (Aristotle, Politics , VI 5, 1360
a36–40).
50
However, while the advice on the surface was to favor the commons, it
was really a prudent suggestion to the wealthier citizens, appealing to the selfi sh
interest to avoid by this method the danger of a discontented proletariat (Aristotle,
Politics VI 5, 1320 a36).
These proposals which set up on the idea that the richer citizens should help the
poor is a common point in the Ancient Greek Thought. It is to underline that long
before the Athenian philosophers and writers, the Pythagorean Archytas of Taras
(governed 367–361 bc ), not only the philosopher-scientist and technician,
51
but also
a skillful political leader both in war and in peace provided in his work P e r ί
m a q h m ά t w n (On lessons) the fact that the wealthier citizens should help the poorer;
by this method, the stasis and homonoia will be avoided, concord will come in the
polis (Stob. IV 1, 139 H).
52
The programme of economic and social policy, which is provided by the afore-
mentioned authors, is included in the fi eld of the policy of the redistribution of
income which has been adopted by Welfare Economics.
53
The main difference
between the proposal of the Ancients and the contemporary procedure lies in the
intervention of the State in recent times, whereas in the Classical Times the richer
people would play the role of the State.
54
In the latter part of the nineteenth century, when histories of economic thought
began to be numerous, various writers discovered that what they called the science
of economics was late in its development, and that in Ancient Times the prevalence
of household industry, the low esteem in which manual labor was held, the slight
growth of commerce, the lack of statistical data, and various other circumstances
brought it about that materials were not provided for the scientifi c study of econom-
ics and fi nance.
55
48
Aristotle, Politics VI 5, 1319 b33–1320 b18. For a comparison between Aristotle’s proposals and
Xenophon’s program in Poroi, cf. Schütrumpf (
1982 , pp. 45–52, esp. pp. 51–52) and Baloglou
(
1998d ) .
49
Hypereides, For Euxenippos , col. XXIII 1–13, col. XXXIX 16–26 (edit. by Jensen 1916 ) .
50
This advice is based on Isocrates’ account of the ways of the rich in Athens in the days of Solon
and Cleisthenes. Isocrates, Areopagiticus 32. Cf. Newman (
1887 , vol. IV, p. 535).
51
Cardini ( 1962 , p. 262) , quoted by Mattei ( 1995 , pp. 72–74).
52
Archytas’ proposal is set up on justice. The existence of justice will bring the welfare in the
Oikos and in Polis. Iamblichus, De Vita Pythagorica , cap. XXX, 169.
53
Psalidopoulos ( 1997 , pp. 15–16) and Baloglou ( 2001a ) .
54
Baloglou ( 1998d , pp. 50–55).
55
For example, see Ingram ( 1888 [1967] , pp. 5, 8) and Eisenhart ( 1891 , pp. 2–3) .
23
2 The Tradition of Economic Thought in the Mediterranean World…
Concerning the above argument, we would like to say that at any time prior to the
twentieth century such proposals would have been universally recognized as a logi-
cal and consistent plan of public fi nance, its parts well-balanced and nicely articu-
lated with a view to securing the desirable fi nancial result by uniting all classes of
citizens in support of it.
The evidence that was mentioned establishes a way of thinking that overcomes
the narrow boundaries of the Oikos and is not characterized by a simplistic empiri-
cism.
56
Furthermore, we have to consider that the achievement of all the measures
which have been proposed by the several programmes will lead in welfare of the
citizens, which must be the target of each policy-maker. This economic and social
policy would satisfy Wilhelm Roscher’s (1817–1894) statement: “Die hellenische
Volkswirthschaftlehre hat niemals den grossen Fehler begangen, ueber dem
Reichthume die Menschen zu vergessen, und ueber der Vermehrung der
Menschenzahl, den Wohlstand der Einzelnen gering zu achten.”
57
This literature provides that the term “oikonomia” does no longer have a lexico-
graphic identity and has been transferred to the Economics of the Polis.
Economic Thought in Hellenistic Times
The economic thought during the Hellenistic Period – which includes the three
centuries between Alexander and Augustus (323–31 bc ) – has not been studied
extensively. We show that several Hellenistic schools do refer to economic prob-
lems.
58
We add that several post-Aristotelian texts on the topic of oikonomike sur-
vive from the Hellenistic period: Xenocrates of Chalcedon (394–314), the Director
of the Academy after Speusipp’s death, wrote two treatises entitled Oikonomikos
(Diog. Laert. IV 12) and On Oikos (Cicero, De legibus I 21, 55). From the view
survived informations,
59
we conclude that the work Oikonomikos continues the
hesiodean tradition concerning Oikos.
60
Other works from this period are the three
56
Engels ( 1988 , pp. 90–134) for an evaluation of the proposals in the Lycurgean era.
57
Roscher ( 1861 , p. 7).
58
Glaser ( 1865 , p. 313) expressed the view that we do not fi nd any interesting economic topics
during this period. Other works, though not extensively, are dealing with the economic thought in
the Hellenistic period, such as Bonar (
1896 , ch. III), Trever ( 1916 , pp. 125–145), Stephanidis
(
1948 , pp. 172–181), Tozzi ( 1955 , pp. 246–286, 1961 , pp. 209–242), and Spiegel ( 1971 ,
pp. 34–39) on the Cynics, Stoics and Epicureans (on p. 672 an interpretative bibliography);
Baloglou and Constantinidis (
1993 , pp. 163–177), Baloglou ( 1995 , ch. 11). The interesting paper
by Natali (
1995 ) is dealing with the term “oikonomia” in the Hellenistic period.
In
recent studies, Baloglou ( 1998a, 1998c, 1999a, 2002a, 2004a ) I dealt with the economic
philosophy of the Early Stoics and Cynics. For the economic philosophy of the Cynic Crates of
Thebes, see Baloglou (
2000b ) .
59
Heinze ( 1892 , Fr. 92, 94, 98).
60
Hodermann ( 1896 , pp. 17–18) and Maniatis and Baloglou ( 1994 , p. 52).
24 C.P. Baloglou
books of Oeconomica ,
61
written by the member of the Peripatetic School, the treatise
Peri Oikonomias written by the Epicurean Philodemus of Gadara,
62
the O i k o n o m i k ό V
( Oikonomikos ) of the Neopythagorean Bryson (Stob. V 28, 15 p. 680, 7–681, 14),
and Callicratidas (Stob. V 28, 16, p. 681, 15–688, 8: Callicratidas, Peri oikon eudai-
monias ( On the Wealth of Households )). Aside from the works entitled Oikonomikos ,
Diogenes Laertius informs us that several authors wrote works, entitled p e r ί
p l o ύ t o u (On wealth).
63
From a later age, in Roman Times, there are the Oikonomikos
of Dio of Prusa
64
and the Oikonomikos of Hierocles (Stob. V 28, 21 p. 696, 21–699,
15).
65
Plutarch deals also with economic ideas in his Conjuralia moralia , which
even though it does not bear the name Oikonomikos yet, is similar in content to
them.
66
In his essay “Peri philoploutias” ( De cupiditate divitiarum 3, 524 D), he
moralizes on the folly of inordinate desire for wealth, in the Stoic vein.
The New Meaning of the Term “Oikonomia”
The Hellenistic authors use the term “oikonomia” in the fi rst place to designate
household management; (1) in the most traditional sense, oikonomia means control
of the household’s internal areas, which was left to the wife, as opposed to the exter-
nal areas and political activity which was considered the man’s affairs (Theophrastus,
Fragmenta , ed. Winner, Fr.112,152,158; Theophrastus, Characteres , Foreword 16;
XI). Furthermore, (2) the term implies, in general, the man’s management of his
property, as master of the house ( Oeconomica II, I), or (3) the philosopher’s man-
agement of his own possessions.
67
The Hellenistic authors use the term oikonomia meaning in a fi gurative sense,
any environment in which the capacity to manage a complex structure – big or small –
well, can be applied with success.
68
The Greek historian Polybius, a distinguished
fi gure of Roman Times, frequently uses the term oikonomia to specify the good
organization of any kind of army equipment, such as supplies, sentries, and encam-
pents [Polybius, Histories I 61, 8; III 32, 9; III 33, 9; I I I 100, 7; IV 65, 11; X 40, 2;
VI 12, 5; VI 31, 10; VI 35, 11; C 16, 2; C 25, 2]. Another use of the term signifi es
61
Susemihl ( 1887 ) and Groningen and Wartelle ( 1968 ) .
62
Jensen ( 1907 ) and Hodermann ( 1896 , pp. 37–40) for a summary statement of his teaching
(Maniatis and Baloglou
1994 ) .
63
Cf. Diog. Laert. IV 4: Speusippus; Diog. Laert. IV II: Xenocrates; Diog. Laert. V 22: Aristotle;
Diog. Laert. V 47: Theophrastus; Diog. Laert. VI 80: Diogenes; Diog. Laert. VII 167: the Stoic
Dionysius; Diog. Laert. VII 178: the Stoic Sphairos; Diog. Laert. X 24: the Epicurean
Metrodorus.
64
Arnim ( 1992 , p. 309: Appendix II).
65
Baloglou ( 1992 ) .
66
See Hodermann ( 1896 , p. 43) and Trever ( 1916 p. 127).
67
Natali ( 1995 , p. 97).
68
Descat ( 1988 , p. 107).
25
2 The Tradition of Economic Thought in the Mediterranean World…
the division of spoils [Polybius, Histories II 2, 9; IV 86, 4; V 16, 5; X 17, 6; C C 9, 5].
Elsewhere, oikonomia refers to the general handling of political affairs in a polis or
region, of alliances, of religious festivals [Polybius, Histories , I 4, 3; I 8, 3; IV 26,
7; IV 67, 9; V 39, 6; V 40, 4; VI 26, 5; XIII 3, 8; C C I I 12, 8; C C C I I 7, 5; XXVII 1,
11; XXXVIII 11, 5].
In other cases, the term oikonomia is actually used to mean the organized
handling of wealth in the Polis, and therefore, takes on a meaning closer to the
modern concept of “political economy.” There is some evidence in Strabo and
Polybius. The geographer Strabo of Pontos, when speaking of Egypt, says a good
oikonomia generates business (Strabo, Geographica XVII 1 13). When he speaks
about the administration of the Persian empire, he says “that in Susa each one of the
kings built for himself on the acropolis a separate habitation, treasure-houses, and
storage places for what tributes they each exacted, as memorials of his administra-
tion (hypomnemata tes oikonomias)” ( Geographica XV 3 21). The same context of
oikonomia, as in Strabo, we fi nd in Polybius ( Histories V 50, 5; X 1, 5; XVI 21, 44;
XXIII 14, 5). It is also worth noting that many of these texts refer to Egypt, whose
administration was compared to that of a huge Oikos, as M. Rostovtzeff says: “The
king therefore ran the state in the same way as a simple Macedonian or Greek had
run his own domestic affairs.”
69
This is why king’s administrators in the districts,
regions, and subordinate territories were called oikonomoi .
70
In Dionysius of Halicarnassus (middle of the fi rst century bc ) the term “politike
oikonomia” means a public civil administration as opposed to the handling of
military operations, and in particular, the management of trials and the resolution
of controversies (Dionysius of Halicarnassus, The Roman Antiquities , XI 19, 5:
“But since Cornelius endeavoured to show that his motion is impracticable, pointing
out that the intervening period devoted to matters of civil administration (politikais
oikonomiais) would be a long one…”).
It is characteristically, too, as far as we know, has not been mentioned by the
authors yet, that the several schools of the Hellenistic Age did occupy with eco-
nomic issue – such as the distinction between “oikonomike” and “chrematistike” –
and left a tradition which has been continued in the Arab-Islamic World and in the
Renaissance.
Lyceum (Peripatos)
Two Aristoteleians of the late fourth and early third centuries deserve some notice.
The fi rst was Demetrius of Phalerum, a pupil of Aristotle who governed Athens for
the Macedonian Cassander from 317 to 307, and who sought to translate into law
69
Rostovtzeff ( 1941 , vol. I, pp. 278, 352).
70
Landvogt ( 1908 ) .
26 C.P. Baloglou
many of Aristotle’s ideas. Expelled from Athens by another Demetrius – “the
Besieger” – he ultimately made his way to Egypt, where he might have inspired the
foundation of the Museum at Alexandria, by Ptolemy I, to serve as a center of learned
research, and where he is also recorded to have been the head keeper of the library,
– the greatest library in Antiquity, – that rose by the side of the Museum (Diod. Sic.
XVIII 74, 2; Diog. Laert. V 75). The other Aristotelian, a contemporary of Demetrius
of Phalerum, was Dichaearchus of Messana, a pupil of Aristotle. He was a polymath
in the style of his master, and his writings were many and various. In his treatise
“Tripolitikos,” he developed the perception that the best constitution is the mixture of
the three known – monarchy, aristocracy, and democracy.
71
In his work History of
Greece, there was a history of the degeneration of Greek civilization from the primi-
tive ideal. He divided the history of human civilization into seasons, infl uenced by
Hesiod’s Works and Days . It is said to have begun with a study of the primitive life
of man in the time of Cronus; to have gone on to a description of the culture of the
East and its infl uence on Greece; and to have ended with an account of Greek cultural
life as it stood in his time.
72
He introduced the idea that the introduction of private
property was the cause for the arising of hate and strife among the citizens,
73
an idea
which has been adopted by the Cynics and later by J.J. Rousseau (1712–1778) in his
work Discours sur l’ origine et les dondements de l’ inegalité parmi les hommes .
74
The Work Oeconomica
The Oeconomica consists of three books. The fi rst book of Oeconomica consists
of six chapters. Most of the material is an imitation of Aristotle’s Politics and
Xenophon’s Oeconomicus; we fi nd few new ideas.
In the fi rst chapter, it is said that politics is the government of the many and that
the family community is structured like a monarchic government ( Oeconomic a A I,
1343a 3–4). This idea is found in Aristotle’s Politic s (I 7, 1255 b19–20) too. The
author considers that the family (Oikos) is by nature prior to the Polis ( Oeconomica
A I 1343 a14–15). The most distinctive point about the doctrine of the fi rst book is
its separation of economics (oikonomike) from politics (politike) as a special sci-
ence ( Oeconomica A I, 1343 a14, 15–18).
The author agrees with Aristotle, however, that it is the function of economics,
both to acquire and to use, though without Aristotle’s specifi c limitations upon
acquisition ( Oeconomica A I, 1343 a7–9; however, II 1343 a25 implies the limitation
of occupations attendant on our goods and chattels, “those come fi rst which are natural”).
71
Wehrli ( 1967 , pp. 28–29, Fr. 67–72). This idea may have been, at any rate indirectly, parent of
the ideas of the mixed constitution expounded afterwards by Polybius and Cicero. Cf. Barker
(
1956 , pp. 49–50) and Aalders ( 1968 , pp. 78–81).
72
Wehrli ( 1967 , pp. 22–25, Fr. 47–49).
73
Varro, Rerum rustic . II 1, 3 in Wehrli ( 1967 , p. 22, Fr. 48).
74
Cf. Pöhlmann ( 1925 , vol. I, p. 88, n. 1).
27
2 The Tradition of Economic Thought in the Mediterranean World…
The author describes extensively the four occupations for a good head of the
household ( o i k o n ό m o V ): acquiring, guarding, using, and arranging in proper order
( Oeconomica A VI, 1344 b22–27). This idea is infl uenced by Xenophon’s
Oeconomicus (VIII 31, 40 and VII 10).
Agriculture is especially eulogized by the author, in the spirit of Xenophon and
Aristotle. It is the primary means of natural acquisition, the others being mining and
allied arts whose source of wealth is the land. It is the most just acquisition, since it
is not gained from other men, either by trade, hired labor, or war (A II 1343 b 25–30),
and it contributes most to many strength (A II 1343 b2–7). Retail trade and the
banausic arts, on the other hand, are both contrary to nature ( Oeconomica A II, 1343
a28–30), since they render the body weak and ineffi cient ( Oeconomica A II, 1343 b3).
The second book consists of two parts. The fi rst part (I) is purely theoretical.
75
The author devotes his attention to the question of acquisition relevant to the poleis
and kings and makes an interesting classifi cation: There are four forms of economy –
royal, provincial, political, and private. The author researches the kinds of revenue
of each kind of economy ( Oeconomica B I 1345 b20–22; 1345 b28–31; 1346 a5–8;
1346 a10–13). For all four kinds of economy, the most important single rule is to
keep expenditure within the limits set by revenue ( Oeconomica B I, 1346 a16).
The distinction between these economies and their connection with the kind of
government for the three kinds demonstrates originality of the author and a remark-
able fact in the development of the economic thought of the Hellenes. The kind of
government played a decisive role and described the economic structure of the polis.
The passage 1345 b12–14 is famous, because we fi nd here the fi rst appearance of
the modern term ‘political economy (politike oikonomia)’. The author characterizes
with this term the revenues of a democratic polis. Andreas M. Andreades (1876–1935),
who has been infl uenced by this work, saw in it the birth of modern Financial Science .
76
Another characteristic feature of this part of the book is that the author deals with
the signifi cance of prediction for fi nancial purposes ( Oeconomica B I 1346 a21–25).
This is an idea which we meet in Rhetorica (I 4, 1359 b24–28) and in Rhetorica on
Alexander (II 33–35, 1425 b24–25, b24–28).
77
The second part of this second book (B II) is empirical and is clearly Hellenistic
in character. It contains a collection of Strategemata,
78
“anecdotes,”
79
anecdotal
references,
80
by which various rulers and governments fi lled their treasures.
These references deal with fi nancial and monetary means, or others like city plan-
ning reforms.
81
75
See for instance Wilcken ( 1901 , p. 187), Andreades ( 1915 , p. 27), and Kousis ( 1951 , p. 69).
76
Andreades ( 1930 ) .
77
The relation and connection of these three works have been pointed out. Cf. Riezler ( 1907 ,
pp. 37–43), Schlegel (
1909 , pp. 6–7), and Ruggini ( 1966 , pp. 207–208). Cf. also Klever ( 1986 ).
78
Papalexandris ( 1969 , p. 12).
79
Wilcken ( 1901 , p. 187), Andreades ( 1915 , p. 27), and Armstrong ( 1935 , p. 323).
80
Lowry ( 1979 , p. 68).
81
Like Hippias’ reforms: Oeconomica B II 4, 1347 d4–8. See Sterghiopoulos ( 1944 [1948]).
28 C.P. Baloglou
The author of the second part seems to have taken for granted the Cynic theory
that money need have no intrinsic value, at least for local purposes. Coinage of iron
( Oeconomica B II 16, 1348 d17–34), tin ( Oeconomica B II 20, 1349 d33–37),
bronze ( Oeconomica B II 23, 1350 d23–30), and the arbitrary stamping of drachmas
with double value ( Oeconomica B II 20, 1349 d28–34) are all offered apparently as
a proper means of escape from fi nancial diffi culty. Like Aristotle, he accepted
monopoly as shrewd and legitimate principle of fi nance.
82
The third book has survived in two Latin translations and has the title “ N ό m o i
a n d r ό V k a i g a m e t ή V .” It is of later origin and is of no economic interest. According
to Laurenti,
83
this book contains a little that is Peripatetic and is closer to the
Neopythagorean writings.
84
The Reception of the Work Oeconomica by the Authors of Middle
Ages and Renaissance
The work Oeconomica was a signifi cant part of the European intellectual corpus, stud-
ied as relevant to current problems by rulers as well as by ordinary men of affairs.
First of all, we have to mention that “Oeconomica” had a great acceptance in the
Medieval Arab-Islamic World. There exists a translation of the fi rst book entitled
Timar maqalat Arista fi tadbir al-manzil ( Extrait of the Treatise of Aristotle’s on
Administration of the Household ) written by the philosopher and medicine man
Abu-l-Farag Abdallah Ibn al-Tayyid (died in 1043), who lived in Bagdad.
85
In the thirteenth century, the study of practical philosophy and of moral theology
took a radical turn, a more theoretical foundation with the invasion of Aristotle’s Ethics.
The work of the Stagirite reached the Latin West in the company of Ibn Rushd’s theo-
retical reworkings. Its intellectual impact provoked a break in the Latin translation.
The work Oeconomica was translated and commented along with the other two
Aristoteleian works, the Nicomachean Ethics and Politics .
The work Oeconomica was translated by distinguished authors in West, like the
Bishop of Lisieux Nicolaus Oresmius or Oresme (1320–1382), who translated and
commented the work for King Charles V of France between 1370 and 1380.
86
A remarkable event of the reception and diffusion of the work in the West was the
translation and commentary by the Italian humanist Leonardo Bruni (1370–1444).
8 2
Oeconomica B II 3, 1346 b24–25 on the citizens of Byzantium, who “the right of changing
money sold to a single band….” Cf. Groningen (
1925 , pp. 211–222) and Newskaja ( 1955 , pp.
54–56).
83
Laurenti ( 1968 , pp. 137–157).
84
Nails ( 1989 , pp. 291–297) and Natali ( 1995 , pp. 52–56).
85
Jackson ( 1982 –1983, p. 155) and Zonta ( 1996 , p. 550).
8 6
Brunner ( 1949 ) , Goldbrunner ( 1968 , pp. 210–212), and Soudek ( 1968 , p. 71). Cf. Menut ( 1940 )
for Oresme’s French translations with commentary.
29
2 The Tradition of Economic Thought in the Mediterranean World…
Bruni’s translation of the work was the most widely read Renaissance translation
of this work.
87
Bruni dedicated his translation of the work to Cosimo de Medici,
88
a
man of wealth and culture who could afford to practice virtue and, as Bruni assured
him, who could manage his riches in a praiseworthy fashion and enlarge them with
honesty. To make the reading of the book easier for Cosimo, Bruni added to his ver-
sion “an explanation of the more obscure passages.”
89
If the infl uence of Bruni’s translation was responsible for a marked increase in the
popularity of Aristotle’s moral writings, this depended on a direct appeal to the aris-
tocracy, a public which had hitherto shown little interest in complex ethical systems.
Such men, who represented aristocracy, demanded neither a mere collection of “sen-
tentiae,” nor a systematic philosophy; instead they looked for a practical handbook on
how to best run their affairs. These requirements could, indeed, be met by Aristotle’s
moral writings. Bruni attempted to provide a polished version which would elevate the
reader by force of language. He simplifi ed Aristotle’s system for the benefi t of his
patron: “Ethics,” he claimed, caught the moral basis for action, “Politics” the princi-
ples of good government, and “Economics” the means of acquiring the wealth without
which no prince may achieve greatness
90
– a model which was to provide material for
many subsequent handbooks on the right government of princes.
Bruni’s translation and commentary infl uenced the Italian humanists who wrote
treatises on the household economy. In fact, three fi fteenth-century Venetian human-
ists, Giovanni Caldiera (1400–1474), Francesco Barbaro (1390–1454), and Ermolao
Barbaro (1453–1493), his grandson, provided in their treatises
91
– infl uenced by the
Aristotelian works and Oeconomica – the best rules for the governance of the
Oikos and the city.
Leon Battista Alberti’s (1404–1472) dialog Trattato del governo della famiglia
92
–
three books written between 1433 and 1434, and a fourth written in 1440
93
– was
one of the most kindly disposed to the new economic spirit, which has been pro-
vided by Bruni. In the historical transition, as experienced by the Italian Humanism,
Alberti was a prestigious and leading rhetorician who advocated the effi cient use of
one’s time in economic activities. He praised these as creative endeavors. With
Xenophon’s Oeconomicus and Oeconomica as a model, Alberti’s dialog offered
a penetrating analysis of the value confl ict between the traditional mould and the
modern business spirit. Alberti’s message is well-balanced: enjoy the things of this
world without being tied to them.
94
87
Soudek ( 1958 , p. 260, 1976 ) and Jackson ( 1992, 1995 ) .
88
Martines ( 1963 , pp. 326–327) and Jackson ( 1992 , pp. 236–237).
89
Baron ( 1928 , pp. 121, 8–10).
90
Baron ( 1928 , p. 120).
91
G. Galdiera, De oeconomia (1463); Fr. Barbaro, De re uxoria (1415), a work dedicated to
Lorenzo de Medici; E. Barbaro, De coelibatu (1471–1472). Cf. King (
1976 , pp. 22–48).
92
Alberti ( 1994 ) , cf. Bürgin ( 1993 , p. 212).
93
Furlan ( 1994 , pp. 438–439).
94
Burckhardt ( 1860 [1997], pp. 275–276). Ponte ( 1971 , pp. 306–308, quoted by Goldbrunner
1975 , pp. 114–115; Baeck 1997).
30 C.P. Baloglou
The Oeconomica had also a considerable resonance among the Cameralists.
95
It
is of great importance that A. de Montchrétien (1575–1621), who used the term
“political economy” in his work Traité d’ économie politique (1615), and Louis de
Mayerne Turquet (1550–1618), who introduced fi rst this term 4 years earlier than
Montchrétien in his book La Monarchie aristodemocratique et le gouvernement
compose et mesle des trois formes des legitimes republiques (1611),
96
seem to sup-
port their ideas and arguments in the same tradition which goes back to Aristotle
and the Oeconomica .
97
The use of the term “political economy” will rise again in the texts of the
Cameralists. Cameralism, basically an economic doctrine, discussed in the so-called
police science (Polizeywissenschaft) the public law aspects of an orderly common-
wealth, including jurisdiction, taxation but also sanitation, poor laws, and the like,
typically in some kind of interconnected treatment.
98
The procedure of analyzing
the methods of rising the revenues for the “camerae” of the monarchs seems to have
similarities with the second book of Oeconomica .
The work Oeconomica – except from its popularity and signifi cance in Medieval
Times and Renaissance – is therefore important in that it explains very simply and
effectively two ideas fundamental in Antiquity. The agrarian economy and country
life are considered superior since they respond to the ideal of self-suffi ciency, while
trade not only makes a person dependent on others, but allows him to get rich only
at the expense of others (according to the canon which belongs to the simple repro-
duction economy). These two ideas were so deeply rooted in Antiquity that, through
humanistic culture, they infl uenced modern thinking and they were often to be
repeated up to the late 1700s.
99
The Economic Philosophy of Epicureans
Epicurus (341–270) was born in Samos by Athenian colonists, migrated to Athens
after the expulsion of the colony, studied philosophy, and set up his own school in
about 307/6.
100
The central tenet of the Epicurean school was that in order to achieve happiness
(eudaimonia) it is necessary to avoid trouble; the highest pleasure is the “absence of
disturbance” (ataraxia). Epicurus’ elegantly expressed letter to Menoikeus, preserved
by Diogenes Laertius (X 121–135), gives a good idea of this. Epicurus taught that
psychic value is unlimited (cf. Aristotle, Politics Book VII) and that the wise are
95
Brunner ( 1949 , pp. 237–280, 300–312, 1952 ) .
96
It was King ( 1948 , pp. 230–231) who discovered Turquet’s work. Cf. Bürgin ( 1993 , p. 212).
97
Andreades ( 1933 , pp. 81–82). Cf. also Baloglou ( 1999b , pp. 34–35).
98
Backhaus ( 1989 , pp. 7–8, 1999 , p. 12).
99
Perrotta ( 2000 , p. 118).
100
Theodorides ( 1957 ) .
31
2 The Tradition of Economic Thought in the Mediterranean World…
contented with things easy to acquire (Diog. Laert. X 130; 144, 146). Real wealth is
only gained by limitation of wants, and he who is not satisfi ed with little will not be
satisfi ed at all ( Kyriai Doxai XXIX). “Self-suffi ciency is the greatest wealth,” says
Clement of Alexandreia ( Stromateis , VI 2, 42, 18) for Epicurus’ teaching. It is not
increase of possessions but limitation of desires that makes one truly rich.
101
In accord with his teaching, he seems to have lived very simply.
102
However, he
did not go the extreme of the Cynics, but taught that the wise will have a care to gain
property, and not live as beggars (Diog. Laert. X 119). Many subsequent sources
insist on the fact that the wise Epicurean should neither marry nor have children.
But his did not forbid the wise man from exercising his own particular oikonomia ,
probably in common with other men of wisdom.
103
In fact, Epicurus confi rmed that
one should laugh, philosophize, and oikonomein all together, with cheerful and
unpersuasive management of one’s own property.
104
Epicuraenism gained advocates in Rome, especially among writers and intellectu-
als. Lucretius (ca. 94–55 bc ), at the end of the fi fth book of his De rerum Natura
(v. 925–1457), which was written about the middle of the fi rst century bc ,
105
draws
a picture of the development of human society, which is unique in Latin literature
for its insight and originality. It is partly based on the ideas and teaching of Epicurus.
Among Epicurus’ disciples was Metrodorus the Athenian (330–277) who wrote
a treatise entitled P e r ί p l o ύ t o u (Peri ploutou, On Wealth) (cf. Diog. Laert.
X 24).
106
He explains that tranquility cannot be achieved if we back away from all
diffi culties. Admittedly, many things such as wealth produce some pain when they
are present, but torment us more when they are not. In fact, the greedy man seeks
opportunities to get rich and he specializes in this art; the wise man, on the other
hand, is satisfied if he knows how to acquire and to preserve what he needs.
107
It might be possible that this work infl uenced Philodemus, who cited Metrodorus’
treatise (Philodemus, Peri oikonomias Col. XII 10).
Philodemus
Philodemus’ of Gadara (110–40 bc ) book On Household-economics
108
consists of
three parts. In the fi rst part (col. I–VII), Philodemus gives us an extended discus-
sion, almost a line-by-line critical commentary of Xenophon’s Oikonomikos .
101
Usener ( 1887 , p. 302 Fr. 473; p. 303, Fr. 476).
102
Trever ( 1916 , p. 130) and Shipley ( 2000 , p. 183).
103
Natali ( 1995 , pp. 109–110).
104
Barker ( 1956 , pp. 179–180).
105
Barker ( 1956 , p. 173, 181). For the description of his theory of the development of the Society.
See Lovejoy and Boas, George
1973 .
106
Sudhaus ( 1906 ) .
107
Perrotta ( 2003 , p. 208).
108
For the text of the work see Jensen ( 1907 ) . For a systematic description of all editions and trans-
lations of this work see Baloglou and Maniatis (
1994 , pp. 139–140).
32 C.P. Baloglou
In the second part (col. VII–IX), he offers also a critical commentary of the fi rst
book of Oeconomica , which he attributes to Theophrastus (col. VII 6). In the third
and last part of his work (col. XII–XXXVIII), Philodemus adds a whole section
with economic and ethical instructions to the wise Epicurean.
Philodemus outlined precisely the area of his operation and the thematic param-
eters of his discussion: he does not intend to speak of right methods about organiz-
ing life at home, but only of the attitude one should have regarding wealth, dividing
this problem into three points:
Acquisition
Maintenance
Acquisition suitable for the philosopher.
109
In this way, compared to the four specifi c areas of oikonomia which Aristotle sepa-
rated out, Philodemus eliminates the section on social, affectionate, and hierarchical
relationships within the household and restricts the “economic” discussion to the
simple point of wealth.
‘I shall therefore discuss not’, writes Philodemus, ‘how one should rightly live in the house
but how one should behave regarding the acquisition and preservation of wealth (chrematon
kteseos te kai phylakes), points which specifi cally concern administration and the adminis-
trator (ten oikonomian kai ton oikonomikon), without in any way opposing those who
would put other points under the above headings; and also the acquisition of goods most
suited’ to the philosopher, and not just to any citizen’ (Col. XII 10).
The restriction laid down by Philodemus is not exactly a redefi nition of the fi eld of
oikonomia.
110
He says that he does not want to change the scope of the study when
he admits that others could put other points under the same headings (Col. XII,
12–15). He indicated, as far as economic practice is concerned, that he wishes to
limit himself to examination of a point of direct interest to the philosopher and does
not wish to take care of the question of internal family relations.
The question is important methodologically, given that the need to determine the
theoretical fi eld of a possible Epicurean art or science of “Economics” has been
perceived.
111
The scope of Philodemus’ idea is to indicate the principle of an “aris-
tos bios” (Col. XIII). Therefore, he gives advice for the determination of the real
measurement of the philosopher’s wealth, of the determination of the ploutou met-
ron, and this is something he deals with in another work: “There is a measurement
of wealth for the philosopher, which I have illustrated according to our leaders in the
book ‘On wealth,’ so as to show what the art of economics (oikonomiken) consists
of with regards to its acquisition and preservation” (Col. XII 10).
Philodemus declares that it is legitimate for an Epicurean to write on points of
Economics and he cites the examples of Metrodorus (Col. XII; XXI; XXVII) and
Epicharmus (Col. XXIV 24), who insists, according to Philodemus, on the prediction
109
Hartung ( 1857 , p. 7), Baloglou and Maniatis ( 1994 , p. 125), and Natali ( 1995 , p. 110).
110
This is apparently Schoemann’s ( 1839 ) view.
111
Natali ( 1995 , p. 111).
33
2 The Tradition of Economic Thought in the Mediterranean World…
of economic affairs (Col. XXV 24). From this point of view, Philodemus’ treatise is very
important, because it gives information about the Epicurean economic thought.
112
In the section where Philodemus gives positive rules, he suggests that one should
not concentrate too much on household management, overlooking external social
relationships – it is the opposite of what Xenophon ( Oeconomicus XI) advises; he
talks, instead, about concerning oneself with affability, generosity towards friends,
and attentiveness to one’s most hard-up friends, even to the extent of remembering
them in one’s will (Col. XXII; XXIII; XXVII).
Stoic Economic Thought
The Stoics gave to the ancient world, during the whole of the six centuries which lie
between Alexander of Macedonia and the Emperor Constantine I, the system of
philosophy, of ethics, and of religion, which was generally current among thinking
men. The fact that “the philosophy of the Hellenistic world was the Stoa and all else
was secondary,”
113
and that the Hellenistic world transmitted this philosophy to the
Romans of the later Republic and the early Empire, with modifi cations to suit their
genius, proves the signifi cance of this philosophical school.
Stoics write explicitly of political matters. Zeno’s principal political work was
entitled Politeia . Cleanthes wrote a treatise entitled Politikos ( Statesman ) (Diog.
Laert. VII 175), Sphaerus wrote on the Spartan constitution, Politeia Lakonike
(Diog. Laert. VII 178); Persaeus, Cleanthes, and Sphaerus wrote treatises on mon-
archy and kingship (SVF I 435 (Persaeus), 481 (Cleanthes), and 620 (Sphaerus)).
These treatises belong to the “mirror of princes” literature,
114
which will be found
later in Byzantine and Arab-Islamic thought.
The Stoics support the view that man is “naturally a political animal” (Stob. II,
VII, 5
b1
, p. 59, 6) and that “Polis is the most perfect society,” which has been founded
for the establishment of self-suffi ciency (Stob. II, VII, 26, p. 150, 4–6).
The Stoics also recognized another dimension of man, as a member of the Oikos,
the “economic animal” (zoon oikonomikon) according to the Aristotelian terminol-
ogy ( Eudemeian Ethics , VIII 10, 1242a 22–23).The Stoics claim that the establish-
ment of the Oikos is the “fi rst politeia” (Stob. II, VII, 26, p. 148, 5) and the Oikos
constitutes the “beginning of the Polis” (Stob. II, VII, 26, p. 148, 7). They recog-
nized the three relationships in the Oikos like Aristotle.
From this point of view, Oikos is a small Polis, while Oikonomia is a “narrowed”
Politeia; Polis, in contrast, is a great Oikos (SVF II 80). This is a clear statement of
a microeconomic concept. The wise man is not only a citizen of the Polis where he
lives, but he is a citizen of the Megalopolis of the universe, the cosmos, which
follows a single administration and law (SVF III 79).
112
Baloglou and Maniatis ( 1994 , p. 130).
113
Tarn ( 1930 , p. 325).
114
Habicht ( 1958 , pp. 1–16) and Chroust ( 1965 , p. 173).
34 C.P. Baloglou
The wise man, on the basis of his superior doctrine, is the best economist. In Arius
Didymus’ Stoic anthology, the features of the wise man are described: “He sc.
(the wise man) is fortunate, happy, blessed, rich, pious, a friend of divinity, worthy of
distinction, and of being a king, a general, a politician kai oikonomikos (housekeeper)
kai chrematisticos” (Stob. II, VII, 11
g
, p. 100, 2). As far as the qualities of oikono-
mikos and chrematistikos are concerned, Stoics appear to have considered with atten-
tion what was implied by the use of these adjectives (Stob. II, VII, 11
d
, p. 95, 9–23).
In Arius Didymus’ anthology cited by Stobaeus (II, VII, 11
m
, pp. 109, 10–110, 8 = SVF
III 686), we fi nd that the wise man can gain from teaching. We view a different context
of chrematistics than the Stoics which also differs from Aristotle’s ideas.
The Stoics studied the phenomenon of value when they discussed the ethical
subject of indifference. The value of things concerning which we should be indiffer-
ent depends on the possibility of their right use (SVF II 240; III 117, 122, 123, 135).
Among the meanings of value, there is in fact one tied to trade and to the market:
that which is given in return for a good, when it has been valued by an expert, for
example a load of wheat of barley for a mule (Diog. Laert. VII 105). We will recall
that in Stobaeus the position of Diogenes of Babylon is cited – he construed doki-
maston not as the valued object, but as the expert who values it; and that in Cicero
( De offi ciis II 50–55), the dispute between Diogenes of Babylon and Antipater of
Tarsus on behavior in trade is cited:
In deciding cases of this kind [sc. expediency vs. moral rectitude in business relations]
Diogenes of Babylon, a great and highly esteemed Stoic, consistently holds on view; his
pupil Antipater, a most profound scholar, holds another. According to Antipater, all the facts
should be disclosed, that the buyer may not be uniformed of any detail that the seller knows;
according to Diogenes of Babylon the seller should declare any defects in his wares, in so far
as such a source is prescribed by the common law of the land; but for the rest, since he has
goods to sell, he may try to sell then to the possible advantage, provided he is guilty of no
misrepresentation. ‘I have improved my stock’, Diogenes’ merchant will say: ‘I have offered
it for sale; I sell it at price no higher than my competitors- perhaps even lower, when the
market is overstocked. Who is wronged?’ – ‘What say you?’, comes Antipater’s argument on
the other side; ‘it is duty to consider the interest of your fellow-men and to serve society…’
The above passage seems the Stoic conception on trade. It is interesting to note that
there is a similarity to Aristotle’s position. Like Aristotle – who had dealt with the
problem of the market, not in the area of economics ( Politics I, ch. 8–11), but in the
context of his study of the kinds of justice – the Stoics had occupied this subject in
the context of justice.
115
Later Stoic Infl uences on the Field of Economics
It is evident that the economic doctrines of the Early Stoics reappear later in the
Roman Times. A stoic infl uence can be seen in some of Philo’s of Alexandreia
(30 bc to ad 45) texts on oikonomia. In his treatise De Iosepho , which is also
115
Baloglou ( 2002a ) .
35
2 The Tradition of Economic Thought in the Mediterranean World…
entitled The Statesman , he presents a view of “the Statesman” as in the nature of an
arbitrator, and thus like Solon of Athens: however powerful the people may be,
the statesman must give no more than its due, just as Solon had done in his day and
for its generation.
116
Philo in dealing with the period Joseph spent as a steward
(epitropos) in Egypt holds this was benefi cial for the future statesman (politician,
politicos), who must first be trained and practiced in household management
(ta kata oikonomian); for, he goes on, evidently quoting Chrysippus, “a household
is a polis compressed into small dimensions, and household management (oikono-
mia) is a sort of epitome of state government, just as a polis is also a great house ( w V
k a i p ό l i V m e n o ί k o V m έ g a V ), and state management is a public household manage-
ment of sorts. From these facts it is quite clear that the same man is both adept at
household management (oikonomikon) and equipped for state administration, even
though the magnitude and size of the objects under consideration differ” (Arnim
1963, SVF III 80,
13–16
, Fr. 323). Similarly, again following Chrysippus, he writes
that household management is “a special instance of stratecraft on a small scale,
since stratecraft and household management (oikonomia) are related virtues which,
it would not be amiss to show, are, as, it were, interchangeable, both because strate-
craft is household management in the state, and because household management is
stratecraft in the home” (Philo, Problems and Solutions of the books of Genesis
4. 164, SVF III 160,
8–11
). This passage, as Reumann
117
has pointed out, preserved in
Armenian, is found in older Latin translations. In spite, therefore, of the old distinc-
tion about size, “oikonomia” and “politeia” are related so that one can speak of
household and state management as “the offspring of the same virtue, as equals in
species yet unequals in magnitude, as house and state (ut domus et civitas).”
(Philo, De animalibus adv. Alexandrum in Arnim 1963, SVF II, 209,
26–28
). And thus
the way was open for applying “oikonomia” to the care, administration, and man-
agement of larger units in human society than an estate.
118
Joseph has been trained
in the household of Potiphar, before he became Pharaoh’s minister; that is an alle-
gory of the truth that the future politician must fi rst be trained and practiced in
household management (oikonomia). This idea closely recalls Plato’s Politicus
(Statesman), in which the distinction between household administration and civil
administration is based solely on the different size of the two communities and not
on their different natures.
Musonius Rufus (ca. 30–100 ad ), Epictetus’ teacher, speaks in his treatise
Whether Marriage is an Impediment to the Philosopher (Stob. IV 22, 20, p. 497,
19
–
501,
29
) directly of the philosopher and asks for what reason marriage should be
useful for the common man, but not for the philosopher: the philosopher is no worse
than other men; indeed, he is better and juster than them, a guide and master of natu-
ral activities like marriage (Stob. IV 22, 20 p. 498,
2–15
and p. 501,
13–16
). Furthermore,
Musonius supports in his diatribe entitled The Means of Acquiring Goods Most
Suited to the Philosopher (Hense 124,
17
- 125,
11
) the view that the form of livelihood
116
Barker ( 1956 , p. 157). See also Schofi eld ( 1991 , ch. 1).
117
Reumann ( 1980 , p. 370, n. 6).
118
Reumann ( 1980 , p. 370).
36 C.P. Baloglou
and acquisition of goods preferable to all is “philosophein and georgein,” to till the
soil and to philosophize. To live in the fi elds is more manly than to sit in the city like
sophists, and it is more the mark of a free man to procure necessary items alone than
to receive them from others (Stob. IV 15
a
18, p. 381,
10–15
). The discourse then con-
tinues outlining a kind of agricultural commune, in which the disciples should be
worked hard under the master’s command and, as a reward, receive the master’s
philosophical wisdom. All this is controversially aimed at the “sophists,” encourag-
ing young people not to follow a master who teaches in the polis and not to stay to
listen in a school (Stob. IV 15
a
18, p. 382,
12–13
). It is clear enough that the argument
was turned against views similar to those of Epicurus, Philodemus, and Chrysippus.
Another theme that occurs in connection with praise of the rural life is the con-
trast between life in the country and life in the town, when the former is seen in a
positive light and the latter in a negative. This theme is also to be found in Musonius.
In addition to excessive luxury, idleness, illhealth, and wickedness, he associates the
city with the – in his eyes – inferior sophists.
We observe similar ideas by Dio of Prusa, also known as Chrysostom (c. 40–120
ad )
119
who lived in the period of the “Second Sophistic.” Among the 80 orations
which have been survived, the seventh oration, the “Euboicus,” is the best of them,
as a document illustrative of the social conditions and ideas current in the Greek
world about ad 100, and especially the part of the oration which deals with urban
conditions and the reform of urban life.
120
Dio praises the simple life in the country. A simple life is possible in the city too,
but a life in the country is still to be preferred. The simple life does eventually lead
to inner freedom (see Or. 7, § 11, § 66, § 103); and as we can see in other works, Dio
believes that the person who is free is also good and in possession of arête (see Or.
15, § 32; Or. 6, § 34).
Dio believes that it is easier for the poor to lead a good life in the country than in
the city. This is why later in the treatise (Or. 7, § 107) he plays with the idea of, if
need be, actually forcing the poor to settle in the country as farmers. He accordingly
proceeds to ask what decent urban occupations can be found, to prevent the poor
from being compelled, by the pressure of unemployment, to betake themselves to
some low and degrading sort of trade (Or. 7, § 109). Unfortunately, he gives no clear
or positive answer to the question. He confi nes himself to suggesting (1) what is the
general nature of a decent urban occupation, and (2) what are the low and degrading
forms of employment which ought not to be allowed in a city.
119
It is always diffi cult to know in which philosophical school Dio should be placed. He is consid-
ered a Cynic by Paquet (
1975 ) , Blumentritt ( 1979 ) , Schmitt ( 1972 ) , Long ( 1974 ) , and Dudley ( 1937 ,
pp. 148–157). Barker (
1956 , p. 295), Jones ( 1978 ) , and Moles ( 1978 ) regard him a both a Cynic and
a Stoic. They are of the opinion that Dio was especially attracted to Cynicism during his exile
( ad 82), but he rejected it during the last years of his life. Moles (
1978 ) regards Dio as a person who
throughout his life was a Cynic, a Stoic, and a Sophist. Jones (
1978 ) fi nally prefers to see Dio as a
Stoic. Brunt (
1973 , pp. 210–211) and Hoven van den ( 1996 , p. 27) consider Dio to be a Stoic.
120
Barker ( 1956 , pp. 295–296), Triantaphyllopoulos and Triantaphyllopoulos ( 1974 , pp. 34–40),
and Triantaphyllopoulos (
1994 , p. 12).
37
2 The Tradition of Economic Thought in the Mediterranean World…
It is worth noting that Dio’s eulogy of the country life fi ts in the tradition of, for
example, Xenophon’s Oeconomicus and Cato’s De agricultura . For, like these
two writers, Dio believes the hard life of the country breeds physically strong men
who are able to defend their towns (Or. 7, § 49).
121
Dio goes further than the afore-
mentioned authors, whereas he wants to convince his listeners that virtue is compat-
ible with poverty, and that poverty is superior to wealth. Poverty in this context
should be understood as the state of having to work for a living so that, for Dio,
virtue is automatically compatible with labor (Or. 7, § 112–113). Out of ethical and
pedagogic convictions, Dio exhorted people to work. From this point of view, it is
not improper to support that one aim of Dio’s “Euboicus” was to obtain public sup-
port for the so-called “poor policy” of the emperor Trajan among others.
122
After reading the conclusion that it is not practicable to resettle all the poor people
from the city in the country, Dio goes on to list which city occupations could be practiced
by these poor people in order to live in what he believes is the proper way (Or. 7, 109).
What we must fi nally conclude is that the speech preaches the Stoic ideal of the
simple life with important component parts, such as self-suffi ciency and dignifying
tool. It should be noted that, certainly with reference to the last point, Dio takes an
exceptional view for his time.
The important representative of the Middle Stoa, Panaetius of Rhodes (185–
110 B.C.) – an aristocrat by birth and friend of Scipio Aemilianus – seems to have
a preference for agriculture. We gather from Cicero’s De offi ciis (I 151) that
Panaetius, – together with Cicero – is of the opinion that “there is no kind of gainful
employment that is better, more fruitful, more pleasant and more worthy of a free
man than agriculture.” His hommage to agriculture actually concerns only the
landowner and the hard-working farmer, just like Xenophon’s. So, on this point,
Panaetius cannot be compared with his two fellow Stoics, Musonius and Dio, of a
later period, who in addition to praising agriculture in general, extol the diligent
labor of the farmer and consider him virtuous for it.
The Neopythagoreans
A whole series of economic texts, surviving in Stobaeus, belongs to the tradition of
texts written by the Neopythagoreans. These include Bryson, Oeconomicus (Stob.
V 28, 15 pp. 680,
7
–681,
14
); Callicratidas, Peri oikou eudaimonias (=On household
121
Compare Xenophon, Oeconomicus IV 24 – V 17. Cato, De agricultura , preface; Livy VIII 20, 4.
Brunt (
1973 , p. 213) remarks correctly with reference to Dio’s comment that farmers make such
good soldiers: “He does not feel the irrelevance of this ancient platitude to the normal conditions
of a Greek city under the Roman peace, nor (if he was speaking at Rome) to those which obtained
in the capital itself or throughout Italy; under Trajan the whole peninsula now furnished few
legionaries.” Cf. Garnsey (
1980 , p. 37) who believes that the emergence and promotion of the myth
of the peasant patriarch came just at a time when the process of peasant displacement and the
concentration of estates in the hands of the rich was spending up.
122
Jones ( 1978 , p. 60) and Grassl ( 1982 , pp. 149–152).
38 C.P. Baloglou
happiness) (Stob. V 28, 16 pp. 681,
15
–688,
8
); Perictione, Peri gynaikos sophrosynas
(Stob. IV 23, 61 and 61
a
, pp. 588,
17
–593,
11
). Among epistolary collections, there
are letters attributed to Pythagorean women, which make reference to points about
oikonomia.
123
The surviving fragment of Bryson’s Oeconomicus consists of two parts (Stob.
V 28, 15 pp. 680,
8
–681,
3
and pp. 681
, 4–14
). He dealt with specifi c issues of which we
can give an overview: (a) The nature of economics (Stob. IV 28, 15 p. 680,
10–16
).
(b) The right methods of acquiring goods; the defi nition of wealth and economic
welfare; agriculture and trade (Stob. IV 28, 15 p. 680,
15–18
). (c) Relationships with
slaves; types of slaves (douleia); the legitimacy of douleia (Stob. IV 28, 15 p. 681
, 4–14
).
In the fi rst part, he gives a catalog of vocations (Stob. V 28, 15 p. 680, 13–681, 2),
similar to that of Xenophon ( Oecomonicus I 1–4) and Oeconomica (A II, 1343a
26–27).
124
In the Arabic text of Bryson’s treatise, we fi nd a strange theory about the fi xity
of professions: he maintains that, since there is a need in a polis for all crafts, it is
praiseworthy to remain within one’s own class (Plessner, 216,
12
–217,
14
) without
desire to improve oneself by taking a superior craft. Otherwise, in time, everybody
would be doing the same job and civilization would vanish (Plessner, 221,
29–31
).
This idea seems to be original, we are not able to say if this idea was connected with
the economic conditions of the Roman Empire, or if it refl ected Arab concepts.
In the second part of Stobaeus’ fragment (V 28, 15 p. 681,
3–15
), Bryson adds an
anthropological study of the different kinds of slavery, isolating the psycho-physical
characteristics in relation to the different duties assigned to them in the Oikos; while
the author of Oeconomica (A V 1344 a23–44 b21), like Xenophon, distinguishes
between two types of douloi according to their function (workmen and superinten-
dents), Bryson distinguishes three kinds: fi rstly according to origins – by law, by
lack of control, by nature (V 28, 15 p. 681,
5–8
) – secondly according to their duties –
domestic, personal, outdoor workers (V 28, 15 p. 681,
10–13
). It seems to be a new
approach in the slave theory of the Ancient Hellenes, while Aristotle distinguishes
two kinds of douloi, by law and by nature (Aristotle, Politics I 6, 1255a 5: doulos by
law; I 4, 1254b 15; 1254b 19; III 6, 1278b 33: doulos by nature).
A particularly interesting text is the fi rst chapter of Bryson’s Oeconomicus , which
survives in an Arabic translation and is devoted to the subject of money. This chapter
125
consists of a practical section
126
dedicated to the problems of acquiring money, the
conversation of one’s estate, and the correct manner of expenditure; but before these
instructions, Bryson put forward an anthropological theory of trade and money, based
on medical considerations.
127
It is perhaps because of these elements that this work is
attributed to Galen in some manuscripts of the partial Latin translation.
123
All these texts have been edited by Thesleff ( 1965 ) . For a philological analysis of the survived
fragments see Wilhelm (
1915 ) .
124
Baloglou and Constantinidis ( 1996 , p. 49).
125
Plessner ( 1928 , pp. 218–219).
126
Plessner ( 1928 , p. 218, 16–219, 20).
127
Natali ( 1995 , p. 105).
39
2 The Tradition of Economic Thought in the Mediterranean World…
Money arises out of diffi culties in trade. The necessity of transactions creates a lot
of needs; and it is diffi cult to know what exact quantity of each good one has to give
to match another quantity of another commodity and we have tried to fi nd something
which corresponds to all the goods of any specifi c value. Then the need for money
arose.
128
Money was invented as a method of circulation and as a measure of value,
to use Marx’s terms. In virtue of its existence and by equating a little of its kind with
a great amount of other things, gold and silver were used to permit people to dispense
with the inconvenience and trouble of transporting provisions to remote places.
129
The aristocratic ideology of the ethical superiority of wealth gained by the culti-
vation of land and of the disrepute attached to commercial activity, already expressed
in Xenophon ( Oeconomicus IV–VI), in Aristotle ( Rhetoric II 4, 1381 a21–24) and
in Oeconomica (Book I, ch. II), turned up in Bryson’s treatise.
Bryson’s treatise became very famous and exercised an infl uence on the Arab-
Islamic economic thought, as we‘ll show below.
Callicratidas’ study entitled Peri oikou eudaimonias ( On Household Happiness )
is addressed to a despotes, as commonly understood. The term “oikodespotes” is
used in the essay for the fi rst time (Stob. V 28, 16 p. 682,
25
). He considers that the
family community consists both of people and of property (Stob. V 28, 16 p. 681,
14–15
).
He affi rms that the family is a harmonious community of different elements, which
tends towards the good of the head of the family and towards unanimity, the homoph-
rosyna (Stob. V 28, 16 p. 682,
26–27
).
Callicratidas compares the different kinds of family relationships to the different
constitutions of the Polis in a very similar way to Aristotle (cf. Politics , I § 12;
Nicomachean Ethics VIII 12, 1160 b22; 1161 a9). Then he analyzes the three
relationships in the Oikos; the despotic, the superintendentic, and the politician
(Stob. V 28, 17 p. 684, 17–18).
It is worth noting that Callicratidas compares the organization of the Polis and
the Oikos with the organization of the world (cosmos) (Stob. V 28, 17 p. 685,
12–13
).
The view is a new one and is, in my opinion, infl uenced by the organization of the
kingdoms (empires) in the Hellenistic World. This approach, which has not been
explored yet, will be found later in the Stoic doctrines of the Roman times.
Wealth and Labor in the Cynic Sect
The essence of the Cynic state is the virtue of the self-suffi cient individual, a state
certainly attainable in practice. This state involves rejection of the polis and all its
institutions – and so the Cynic idea of self-suffi ciency, where the individual lives in
the polis (Aristotle, Nicomachean Ethics I 9, 1099 a33ff; Eudemeian Ethics 12,
1244 b1ff; Great Ethics II 15, 1213 a24ff) – except those that have immediate
practical utility. The minimalist Cynic requirements for subsistence mean that the
128
Plessner ( 1928 , p. 219).
129
Plessner ( 1928 , p. 219, 21–33).
40 C.P. Baloglou
Cynic can support himself by begging and “living of the land.” The self-suffi cient
Cynic recognizes actual kinship with other Cynics. Hence, he may freely choose to
have relations with fellow-Cynics. If children result, a Cynic community will come
into being.
130
Did Cynics have anything to say about “the means of production?” Not, it seems,
very much, but there are Cynics, or Cynic-infl uenced, texts which endorse humble
occupations
131
and we may perhaps get some idea of what a universal Cynic state
would look like from the famous “Golden Age fragment” of Diogenes of Oenonanda:
“then truly the live of the gods will pass to men. For everything will be full of justice
and mutual love, and there will come to be no need of fortifi cations or laws and all
the things which we contrive on account of one another. As for the necessaries
derived from agriculture, since we shall have no [slaves at that time] (for indeed)
[we ourselves shall plough] and dig and tend [the plants] and [divert] rivers and
watch over [the crops], we shall (…).”
132
The characteristic feature of the Cynic theory lies in the fact that they expressed
a radical asceticism. Their founder Antisthenes (ca. 445-after 366), one of Socrates’
pupils, boasts of his wealth because – he says – wealth and poverty are not in men’s
houses, but in their souls (Xenophon, Symposium IV 34). Wealth without virtue was
not only worthless, but a fruitful source of evil (Xenophon, Symposium IV 35–36),
the lover of money could be neither virtuous or free.
133
In utter antithesis to Aristotle
( Politics I 1, 1253 a1–4), he declared polis life and civilization to be the source of
all injustice, luxury, and corruption.
According to Diogenes of Sinope (412–323), “wealth without virtue is worse
than poverty” (Stob. IV 31 p. 766,
12–13
), and “virtue cannot dwell either in a wealthy
state or in a wealthy house” (Stob. IV 29 p. 708,
9–12
). Poverty accords better with
virtue and is so the real cause of suffering (Stob. IV 32 p. 806, 17–807, 2). In his
fi fteenth letter he refers to love of money as the cause of all evil. According to Dio
of Prusa (Or. 6, § 25), Diogenes said that people gathered in the towns in order to be
free from injustice. But in the cities, they did the worst things, as if they had gath-
ered with that aim. That would have been the reason of the punishment of Prometheus
by Zeus, for the distribution of fi re was the origin and cause of effeminacy and
luxury (Dio of Prusa, Or. 8, 285R-286R).
134
He wrote a treatise entitled Politeia in which he seems to have advocated fi at
money to take the place of the hated gold and silver (Athenaeus, Deipnosophistai
159c) and to prevent the extensive accumulation of movable wealth. In this natural
community, there is an absence of “chrematistics,” because there is no place in the
institution of private properties and in the exchanges relations (SVF I 590; Onesicritus
in FGrH 134F 24 (20)).
135
130
Moles ( 1995 , pp. 141–142, 1996 , p. 111). For an overview of the cynic doctrines. See Branham
and Goulet-Caze (
1996 , pp. 1–27).
131
Hock ( 1976 , pp. 41–53) = Billerbeck ( 1991 , pp. 259–271).
132
Smith ( 1993 , F 56) and Diogenes of Oenoanda ( 1998 , p. 90).
133
Trever (1975, p. 131) and Eleutheropoulos ( 1930 , p. 57).
134
Cf. Bayonas ( 1970 , p. 49).
135
See Aalders ( 1975 , p. 57) and Ferguson ( 1975 , pp. 91–97).
41
2 The Tradition of Economic Thought in the Mediterranean World…
Crates of Thebes (ca. 368/65–288/85 bc ), a wealthy landowner, and therefore at
the opposite end of the social spectrum from a poor exile like Diogenes, gives away
his possessions exclaiming that in this way he is freeing himself (Diog. Laert. VI
86). If Diogenes is regarded as the embodiment of self-suffi ciency (autarkeia),
Crates may stand for that of philanthropy, variously symbolized in the conceptions
of the Cynic as the Watchdog, as Doctor, or as Scout, working in the interests of
humanity. He denounced everything which tended to limit or restrict freedom, viz.,
the care of property, pleasure seeking, patriotism, friendship, and love, and it was
the greatest wish that he might be able to emancipate himself from dependence of
food as he had done from other ties (Athenaeus, Deipnosophistai 10 422c; Diog.
Laert. VI 90). Simplicity and Good Judgement must replace Luxury and
Extravagance. But asceticism, and even philosophy, are not ends in themselves.
They are means to the supreme end, which is of course eudaimonia (happiness), or
what was synonymous to the Cynic, apatheia . Through asceticism and “philoso-
phy,” we may come to the “island of Pera,” the Cynic paradise where the natural life
of Cynics has been realized (Diog. Laert. VI 85).
Teles of Megara (fl . ca. 235 bc ), a teacher and moralist, maintains that the pos-
session of money is not free from want. The poor, not the wealthy, has pleasure
because he can attain to contemplative life; while the wealthy is effeminate, because
he does not need to work.
136
The description of the Golden Age of Hesiod fi nds an imitator in the personality
of Onesicritus of Astypalea, “one of Diogenes’ distinguished pupils,” according to
Diogenes Laertius (VI 84). A great admirer of Diogenes, he later joined the expedi-
tion of Alexander, in which he played a not unimportant part, being the pilot of the
King’s ship, and chief navigating offi cer under Nearchus in the famous voyage
through the Persian Gulf.
137
The most interesting fragment of Onesicritus is probably his account of the
Indian sages. We have two versions, the condensed one of Plutarch ( Alexander 65)
and the fuller one of Strabo ( Geographica XV 1, 63–65), where Onesicritus’ own
language has sometimes been preserved. It is interesting to see how he represented
a sect of Indian fakirs as so many Cynics, holding beliefs about a vanished Golden
Age. Cynic is the way in which he writes of the simple virtue of savage races. In the
description of the land of Mousicanus, Onesicritus provided the simple and health-
ful life of the citizens “despite the fact that their country offers abundance of every
commodity […]. They use neither gold nor silver, although mines exist in their
country. Instead of slaves they use the young men in their prime […]. They cultivate
no science except that of medicine…”
Few fi gures in the Hellenistic world were more impressively versatile than
Cercidas of Megalopolis (ca. 290–217),
138
who combined the roles of statesman
136
Trever (1975, pp. 138–139).
137
Brown ( 1949 , pp. 1–23).
138
Goulet-Caze and Lopez ( 1994 , p. 271). It is not an exaggeration, we believe, if we compare
Cercidas with Solon, who combined in his time the art of the poem and philosopher with that of
the statesman.
42 C.P. Baloglou
(Polybius, Histories II 48,
3–41
; 50–53; Aelian, Varia Historia XIII 20), military
commander – he was the commander of the 1,000 Megalopolitan exiles, who faught
on the Achaean side against Cleomenes of Sparta at Sellasia (222 bc ) (Polybius,
Histories II 65,
3–4
), poet, and Cynic philosopher (Diog. Laert. VI 76–77). The para-
dox and “provocative” of his poem is that a citizen of one of the cities of the conser-
vative Achaean League should have been so radical an exponent of the idea of social
justice. The explanation could be, that Cercidas as a Cynic thinker, and as such an
egalitarian, may have been attracted by Cleomenes’ III of Sparta social reforms
(cf. Plutarch, Cleomenes ) to achieve some system of social justice.
139
After the
destruction of the city in the course of a war with Sparta, and when plans for rebuild-
ing it were being mooted, a proposal was made (which led to disputes) that one third
of the estates of the land-owing class should be divided among new owners. Cercidas
emphasized in his poem the great contrast between wealth and poverty.
Cercidas dissatisfi ed with the existing order exhorted his wealth friends to meet
the threat of social revolution by healing the sick and giving to the poor. So, he
emphasized the fact that
for sharing - with – others is a divinity, and Nemesis is still present on earth.
140
“Nemesis” is a word which in its original sense means a proper distribution of
shares. He is warning the ruling class to be generous and help the poor before they
are overwhelmed. Cercidas’ poem refl ected the one expression of philanthropy in
literature.
141
The poem is a call to the party of reform not to wait for the vegance of
Heaven to strike the rich, but to act themselves under the inspiration of new triad
of deities, Paean and Sharing, and Nemesis.
142
The characteristic feature of the Cynic behavior is that the Cynics did have been
respected by their contemporaries.
143
They infl uenced the Early Christian Fathers.
144
There are several elements in the behavior of the Cynics that remind us of extremist
Christian movements. The search for suffering and mortifi cation recall eastern
monasticism of the fi rst centuries after Christ. The missionary character of their
preaching, the obsession with poverty and the practice of begging recall the pauperist
movements of the twelfth to thirteenth centuries, and in particular, the Franciscans.
139
It is worth noting that Cleomenes’ reforms, which had a great success, led to an attack by
Cercidas (Baloglou
2004a ) .
140
López-Gruces ( 1995 , p. 251, Vv. 31–32).
141
Tarn ( 1930 , p. 102).
142
Dudley ( 1937 [1973], pp. 78–79).
143
For instance the comic Menander, who was Theophrastus’ disciple (Diog. Laert. V 36–37). See
Tsekourakis (
1977 , pp. 384–399).
144
For example by Gregor of Nazianz, who emphasized and annotated Cercidas’ thought. See
Gregor of Nazianz “De virtute,” PG XXXVII (1862) col. 723. Cf. Asmus (
1894 [1991]).
43
2 The Tradition of Economic Thought in the Mediterranean World…
Utopias
The conquests of Alexander had broadened the vision of the Hellenes, so that they
no longer thought in terms of the typical circumscribed Hippodamean polis of clas-
sical times, but rather in terms of world-state. Contact with distant peoples had led
to a renewal of curiosity. A new kind of literature appeared, to so-called
“Staatsroman.”
145
Quite reputable historians and geographers might incorporate fi c-
titious Utopias in otherwise sober works. There are two opposite tendencies in
Greek speculation about the remote past, one of which thought of early society as
rude and uncivilized, while the other looked back to a Golden Age. The Golden Age
view is older, according to Rohde, fi nding support in later days in Plato, Dicaearchus,
and ultimately in the Stoics. This has as a corollary the early Greek belief that at the
edges of the earth there still existed a righteous and wholesome society.
146
The
advance of geographical knowledge brought with it the names of other divinely
happy people besides the Hyperboreans of Homer and Pindar. The Scythians in the
far north are credited with all the virtues, as are the Indians in the Far East, and also
the Ethiopians and the “Silk People” of India. Not only do these people live in a
state of idyllic bliss, but they also enjoy a far longer life than ordinary men.
147
We consider Theopompus’ (380–300) Meropian Land (Aelian, Varia Historia III
18 = FGrH B II 115 F75), Hecataeus’ Aigyptiaca (FGrH A III 264, F 7–14), Euhemerus’
(c. 340–260) Sacred Chronicle ( Hiera Anagraphe ) (Diodorus Siculus, Bibliotheca
Historike V 41–46)
148
and Iambulus’ Sun State (Diod. Sic. II 55,
1
–60,
3
).
Hecataeus’ work “On the Egyptians” is perhaps the best example of a complete
ethnographic and historical description of a particular people and served as a model
for many later writers. After a visit to Egypt – in the period 320–315
149
– he describes
the kingdom of Pharaohs. He describes the ideal state,
150
which extends through
administration, social organization, justice, marriage, education, health, religious
customs, and burial practices. In a constitutional monarchy,
151
Hecataeus provides
the ideal of King Euergetes (Benefactor), the “King Philanthrop,”
152
which is a char-
acteristic feature of the Kings in Hellenistic Times. The King is the guarantee of
justice and concord between the citizens
153
and is surrounded by highborn sons of
145
Rohde ( 1893 ) , Cf. also Rohde ( 1914 [1974]).
146
Rohde ( 1914 , p. 203).
147
Rohde ( 1914 , p. 203) and Brown ( 1949 , p. 61).
148
All the existing material concerning Euhemerus’ life and work has been collected by Winiarczyk
(ed.) (
1991 ) .
149
Murray ( 1970 , pp. 143–144).
150
Pöhlmann ( 1925 , p. 291) points out “eine Idealschilderung des alten Pharaonenstaates.”
151
Jacoby ( 1912 , col. 2763) and Murray ( 1970 , p. 159).
152
Tarn ( 1930 , pp. 50–51) and Murray ( 1970 , p. 160).
153
Steinwerter ( 1946 [1947]).
44 C.P. Baloglou
priests to serve him (Diod. Sic. I 70,
2
). The whole population is divided in three
“syntagmata,” as Diodorus refers to: Shepherds, Farmers, and Craftsmen (Diod. Sic.
I 74,
12
). The social division of labor is mainly regarded as a matter of justice, which
is essential for preserving the smooth function of the social life. The people were
free from green for gain, civic strife, and all the ills that follow it. The ideal was not
the greatest increase of wealth, but the development of the citizens to the highest
social ideal (Diod. Sic. I 6, 93; 4).
Euhemerus of Messene describes in his work “Hiera Anagraphe” – written dur-
ing Cassander’s reign as King of Macedonians (306/5-297) – the ruler cult of
Hellenistic times; with his explanations about the origins of the gods, he wants to
show how a king may obtain divine worship by his greatful subjects.
154
This proce-
dure refl ected Alexander’s Successors practice and expectations and, of course,
Cassander’s himself. In that case, the “Hiera Anagraphe” would partly be a
“Fürstenspiegel (mirror of princes),” an issue which we will meet again and again in
the Arab-Islamic and Byzantine World.
Here labor was held in high esteem. The social division of labor is the character-
istic sign of the society of the Island. The population is divided in “three merides,”
as Diodorus calls them. The fi rst “meris” composed of the priests, to whom the
artisans are assigned; the second comprising the farmers; and the third consisting of
the soldiers, with whom the shepherds are associated (Diod. Sic. V 45, 3–4). In this
tripartite division of the population, Euhemerus follows a similar tradition which is
known to the political theorists of the Classical Times and of Hellenistic Age (Plato,
Politeia III 415 a–b; Plato, Critias 112b. Isocrates, Bousiris 15. Hecataeus,
Aegyptiaca, in: Diodorus Siculus, Historical Library I 74,
1
; Strabo, Geographica
XVII 1,
3
). All land and other means of production were common, except the house
and garden (Diod. Sic.V 45, 5; 46, 1). The land was not worked collectively, but
farmers and herdsmen alike brought their products to a common storehouse for
common consumption (Diod. Sic. V 45,
4
). The distribution is made by the priests.
They give prizes for those farmers and shepherds who have produced outstandingly
good results (Diod. Sic. V 45,
4
). By this procedure is introduced the institution of
the incentives in the productive process, which is absolutely necessary for the pro-
duction of commodities in the best quality achievable. The process of production
and distribution of the goods leads to the conclusion that there is no place for cur-
rency, and one would suppose that Euhemerus, like Zeno the Stoic and unlike
Diogenes the Cynic, did away with it.
Iambulus (third century) described in his Sun Polis a sort of paradise of sun wor-
shipers at the equator. Here the trees never fail of ripe fruit, and citizens never lose
their strength and beauty. The citizens lived together in associations (“kata syggene-
ias kai systemata”) of 400 members each (Diod. Sic. II 57,
1
). There was collective
ownership of all the means of production, and the communism extended also to the
family (Diod. Sic. II 58,
1
). The absence of slaves creates the necessity of the obliged
labor by the adults. The time of labor is not very long, because the most products are
154
Thus Dörrie ( 1967 , col. 415) and Panagopoulos ( 1992 –1993, p. 160).
45
2 The Tradition of Economic Thought in the Mediterranean World…
given by the nature without cultivation. In the long time of leisure, they are occupied
with the music and fi ne arts, especially with astronomy (Diod. Sic. II 57,
3
). The
recognition of the annoyance created by the uniform daily labor conducts in the
degree of the alternation in the occupation of the productive work (Diod. Sic. II 59,
6
).
There is no elite; in principle, this society is completely egalitarian,
155
an idea for
which an idealized Sparta may have been the model.
156
The existence of concord
among the citizens is a characteristic feature of the “Sun State.” The friendship and
concord are recognized as the two stones in the Stoic city of the “wisemen” and the
Cynic thought; both features declare in Iambulus’ work, but in the political romancy
in general, the presupposition of the internal stability of the city. Connected with the
internal stability of the “Sun State” is the organization of labor. And it is really
interesting indeed that the organization of labor in “Sun State” does not seem to
have any equal historical preceding. The rotation in labor during the productive
process constitutes Iambulus’ originality. Thus, Iambulus recognizes the negative
attitudes of the division of labor. He took it from Aristotle, who had met the idea
somewhere and had criticized it (Aristotle, Politics II 2, 1261 a36–37).
157
This idea of the “World-State,” where all the citizens live in concord without dif-
ferences, is presented by Zeno. It is the new idea propagated by various authors, like
Arrian ( Histories VII 11, 8 and 9) and Eratosthenes (Strabo, Geographica I 4,
9
(C. 66); Plutarch, De Alexandri Fortuna aut Virtute 329 B) and had been formed by
Alexander who was the fi rst to think of something which may be called the unity of
mankind or a human brotherhood.
158
The concord and friendship are the character-
istic features of Zenos’ Politeia . Zeno did not concern himself with the size or geo-
graphical area of his ideal polis. Judging from the surviving reports, it could be a
single city (Athenaeus, Deipnosophistai XII 561c), including several separate towns
(Diog. Laert. VIII 33).
159
Zeno proposes that all citizens are to wear the same clothing
and there shall be no artifi cial modesty (Diog. Laert. VII 33, 131). He also proposes
the abolition of assemblies, temples, law-courts, and gymnasia (Diog. Laert. VII
33). The law-courts are not needed in a state guided by goodness and love. The
gymnasia were rejected because they were concerned with bodily welfare, which
is irrelevant to the true happiness of the wise.
160
There is no need for buying and
155
Mossé ( 1969 , p. 303). Kytzler ( 1973 , p. 67) , however, contends that there is a certain hierarchical
order because men “have” the wives in common (Diod. Sic. II 58, 1), because women are not consid-
ered apt to rule their group, and because there is the authority that is always exercised by the oldest
man in the group. It should, however, be noted that for ancient conceptions egality is very great in
Iambulus and that only the modern mind can trace here some remnants of hierarchical structures.
156
Mossé ( 1969 , p. 304) and Huys ( 1996 , p. 49).
157
For a recent analysis of Iambulus’ economic thought, see Baloglou ( 2000a , pp. 19–31). A full
bibliography is given at pp. 21–22, not. 3; cf. Baloglou (
2000c , pp. 159–172).
158
Tarn ( 1939 , p. 41, 1948 ) and Baldry ( 1965 , pp. 113–115).
159
Chroust ( 1965 , p. 177).
160
Baldry ( 1959 , p. 11). Zeno is rejecting institutions which Plato had allowed in the Laws : temples
(VI 771 a-7; 778 c4), law-courts (VI 766 d5; 778 d2), and gymnasia (VI 778d). Cf. Baloglou
(
1998c , pp. 27–28).
46 C.P. Baloglou
selling or commercial trading and, hence, no need for money in a Polis where the
principles of friendship, concord, and mutual affection governs the whole community.
The ideal community where friendship and concord exist describes Megasthenes,
who visited the court of Sandrakottos (Chandragupta) at about 300 bc as ambassa-
dor of Seleucus I several times (Strabo, Geographica XV (C. 724); Plutarch,
Alexander 62).
161
According to Megasthenes, slavery was nonexistent in the whole
of India (Diog. Sic. II 39,
5
). He idealizes India, when he describes it as an extremely
fertile country, in which scarcity of food is unknown (Diod. Sic. II 36 and II 40, 4),
and when he eulogizes Indian institutions.
Another explorer, Agatharchidas of Knidos (Strabo, Geographica XIV 2, 15),
describes the exchange of products. He explained the way use and scarcity were
taken into account in determining exchange value by peoples in a region abounding
in gold, as follows:
They exchange gold for three times as much bronze, and for iron they give twice as much
gold, while silver is worth ten times than gold is. Their method of fi xing value is based on
abundance and scarcity. In these things the whole life of men considers not so much the
nature of the thing as the necessity of its use
(Agatharchidas, De mari rubro , Ch. 49, in: FGrH II 86 F 19).
It is interesting to note that the German jurist and philosopher Samuel Pufendorf
(1632–1694) mentioned Agatharchidas’ description and explanation in his chapter
on value and price .
162
The Roman Heritage
The Greek culture which was brought to the Scipionic circle, about the middle of
the second century bc , by three Greek visitors – the Stoic Diogenes of Babylon,
Critolaus, and the Sceptical philosopher Carneades (Cicero, Tusculan Disputations
IV 5; Plutarch Cato 22) – was a leaven and a stimulus to the germination of Latin
thought.
163
But it may also be said that the triumphant movement of Roman legions
and Roman government into the Eastern Mediterranean, after the defeat of the
Seleucid King at Magnesia in 190 and that of King Perseus of Macedonia at Pydna
in 168, gave Rome a new self-consciousness and a fresh power of self-expression
which were the natural and inherent consequences of her political advance.
164
In
these conditions, a Latin literature fl owered; beginning with Plautus, and continued
by Ennius and Terence during the fi rst half of the second century bc , it achieved its
great glories in the next century with Cicero, Lucretius, and Virgil. Greek had not,
161
Muller ( 1878 , vol. II, Liber IV, pp. 397–430).
162
Pudendorf ( 1759 [1967], Liber V, ch. I, § VI, p. 675).
163
Long (( 1974 ) [1990], p. 172).
164
Barker ( 1956 , pp. 167–168).
47
2 The Tradition of Economic Thought in the Mediterranean World…
of course, disappeared entirely during the Latin centuries. The 40 books of the
Historical Library of Diodorus Siculus (ca. 60–30 bc ), and the voluminous philo-
sophical writings of Philo Iudaeus (in the fi rst half of the fi rst century ad ), are
testimonies to its survival.
There is an agreement between many authors that there is a small contribution of
the Romans
165
to the evolution of economic thought; Roman economic ideas may be
gathered from three main sources: (1) the few writers on agriculture (de re rustica);
(2) the jurists and writers on legal matters; and (3) the philosophers, especially
Cicero and Seneca.
The Roman Agricultural Economists
The best known writers on agriculture were Pliny, Cato, Varro, Columella, and
Palladius. They were primarily interested in improving the agricultural methods and
reforming land ownership and holdings. They produce semitechnical treatises on
rural economy, dealing with the production of special goods, such as wine, oil, etc.,
the raising of different grain crops, and grazing. Then, in the introduction or some
concluding book, general principles of private economy were added.
Marcus Porcius Cato (234–149 bc ) wrote a work entitled De agri cultura ,
where he praised small farms and denounced the large ones.
166
Marcus Terentius
Varro (116–27 bc ) was trying to advise in his work De re rustica , libri tres (37 bc )
both large and small landholders on what crops should be grown and on stock-
breeding. He advocated a “back to the land” movement as a means of counter-
acting the increasing poverty of the masses and the certain impoverishment
of the state. He also complained that land was being given over to olive and wine
production, whereas the production of grains, especially wheat, was rapidly
declining.
167
L. Junius Moderatus Columella was the more signifi cant of the “scriptores de
re rustica;” he lived during the middle of the fi rst century ad and was born in
Spain. He was like Xenophon a landholder and farmer and he described his knowl-
edge on agriculture in his famous work Rei rusticae , libri duodecim . He devoted
most of the work to wine and olive growing, livestock, bees, and gardens, but
neglected emphasizing grain crops. He praised small farms and denounced the
large ones.
168
165
Cf. Sismondi ( 1819 , p. 10), Ingram ( 1888 , p. 19) who denied for a contribution of the Romans
to the evolution of economic thought. For a different view which does refer to the contribution of
the Romans, see Barbieri (
1958 , pp. 72–73, 1964 , pp. 893–926) and Tozzi ( 1961 ) .
166
Kautz ( 1860 , pp. 162–164) and Stephanidis ( 1948 , vol. I, pp. 190–192).
167
Riecke ( 1861 ) , Kautz ( 1860 , pp. 164–165), Stephanidis ( 1948 , vol. I, pp. 192–193); Cf. also
Harrison (
1913 ) .
168
Kautz ( 1860 , pp. 165–166), Gertrud ( 1926 ) , and Stephanidis ( 1948 , pp. 194–195).
48 C.P. Baloglou
The Economic Element in the Roman Law
The Roman Empire as a political entity passed away centuries ago, but Roman Law
through its infl uence still remains a world force. Roman Law was developed by an
evolutionary process over several centuries. From the founding of Rome (753 bc ) to
the death of Justinian ( ad 565), more than 13 centuries elapsed.
The Twelve Tables (codifi ed in 450 bc ) mark the real beginning of Roman Law.
The Roman jurists considered them the foundation of all law. In style, they were
brief, terse, and imperative. They were a collection of legal principles covering the
general outlines of the law, engraved on metal tablets and set up in the Forum.
The Roman jurists analyzed facts and produced principles that were not only
normative, but also, by implication at least, explanatory. They created a juristic
logic that proved to be applicable to a wide variety of social patterns – indeed to any
social pattern that recognizes private property and “capitalistic” commerce.
169
They
gave defi nitions – for example, of price, money, of purchase and sale, of the various
kinds of loans (mutuum and commodatum), and of the two types of deposits (regu-
lare and irregulare) – which provided starting points for later analysis.
170
The Roman jurists formulate numerous economic concepts, which later in the
Middle Ages would form the basis for the analysis of the new mercantile economy.
These concepts had the great advantage of being free from the values and prejudices
opposed to wealth-getting, commerce, and investment, which permeated the rest of
ancient literature. They therefore refl ected real economic phenomena.
171
Worthy of mention is the fact that Roman jurists had a good appreciation of
money. Juridical texts and literary sources demonstrate that Romans were not
unaware of the interdependence between the availability of precious metal or money
on the one hand, and price levels, as well as rates of interest, on the other. In a well-
known passage from the jurist Paulus (fi rst part of the third century bc ) (cf. Dig .
XVIII, 1, I), it is stated that the act of buying and selling springs from exchange; that
originally men bartered useless things for useful things; that owning to the diffi cul-
ties attendant upon the direct exchange of goods, a material was agreed upon to
facilitate bartering. An offi cial material was then to be established by the relevant
authorities.
172
From Julius Paulus’ remarks (echoed in Pliny Naturalis Historia
XXXIII 6–7) spring a number of interesting questions, such as an allusion to “quan-
titas” – in the phrase “usum dominiumque non tam ex substantia praebet, quam ex
quantitae” (is connected (sc. this material) the right to use and to own not so much
169
It is worth to note, and still unknown, that the Romans quoted as an authority Theophrastus,
Aristotle’s pupil and successor in Lyceum, who wrote p e r ί s u m b o l a ί w n (Cicero, De fi nibus V 4;
Dig. 1, 3, 6 = Dig. 5, 4, 3 Paulus on legislators). A precious fragment on sale, perhaps however
inaccurately transmitted, has survived. Cf. Pringsheim (
1950 , pp. 134–142).
170
Salin ( 1963 , pp. 160–161) and Schumpeter ( 1954 , pp. 69–70). For the economic concept in the
Roman Law see von Scheel (
1866 , pp. 324–344), Bruder ( 1876 , pp. 631–659), and Oertmann ( 1891 ) .
171
Perrotta ( 2003 , p. 212).
172
Vivenza ( 1998 , pp. 292–293).
49
2 The Tradition of Economic Thought in the Mediterranean World…
on account of its substance as on account on its quantity) – which economists
173
have interpreted as being a forerunner of the quantitative theory of money and as
refl ecting a preference on the Roman’s part for the theory of money as merchandise
rather than that of money as a sign. However, other scholars feel that the notion of
“quantitas” in this passage is simply an allusion to the content of metal.
174
What Paulus means and says is that the mediation of the right to use and to own
by the instrumentality of money in the fi rst place is expressed by the quantity of
money and not by the substance of money, i.e., not by a certain amount of weight,
as was originally done.
175
In the earlier periods of Roman history, the law appears on the whole to have
opposed interest-taking. The “Laws of the Twelve Tables,” according to Tacitus ( ad
55–117), set a maximum legal rate of “fenus unciarium,” which most scholars belief
to mean 1/12 part of the capital.
176
In 347 bc, this rate was reduced to “fenus semi-
unciarium” (Tacitus, Annals VI, 16; Livy, Ab Urbe Conditia 7, 16); before in 342
bc , a “Lex Genucia” prohibited the taking of interest on loans at all (Tacitus, Annals
VI, 16, 2; Livy, Ab Urbe Conditia 7, 42, 1). We do not know how long this prohibi-
tion lasted, but the “Lex Sempronia” of 193 bc attests again to the existence of a
maximum legal rate; before 88 bc, the “Lex Unciaria” introduced the legal rate of
“centesima usura” (12%). The Fathers of the Church will support their usury argu-
ments referring to Roman Law.
177
The Economic Thought of the Philosophers
The infl uence of the Stoic ideas is evidently on the two signifi cant Roman philoso-
phers, Cicero and Seneca.
Cicero (106–43 bc ) was at once an orator, a man of affairs, and a voluminous
writer on philosophy. His philosophical writings belong to the end of his life (52–43
bc ), and especially to the troubled period after 45 bc – when the world was rent by
political strife and armed confl ict. Although Cicero’s model incorporates the Stoic
disdain for greed and for uncontrolled passions, it is actually closer to the moderate
teaching of Epicurus.
Cicero’s Stoicism is tempered by some considerations taken from Aristotle. For
instance, the praise of parsimony as a source of income; or the praise of generosity,
accompanied by a criticism of extravagance (Cicero, Paradoxes VI; Idem, De offi ciis
II xv–xvii). He contrasts those who waste money on parties, shows, and donations for
173
See e.g., Marget ( 1938 [1966], vol. I, p. 9), Heckscher ( 1935 , vol. II p. 225), Kemmerer ( 1907 ,
p. 2) and Wicksell (
1936 , p. 8).
174
Nicolet ( 1984 , p. 107) and Vivenza ( 1998 , p. 293).
175
Monroe ( 1923 , p. 11) and Hegeland ( 1951 , pp. 12–13).
176
De Martino ( 1991 , p. 169) and Maloney ( 1971 , pp. 93–94).
177
Haney ( 1949 , p. 76) and Moser ( 1997a , pp. 7–8).
50 C.P. Baloglou
masses with the money spent by certain aediles , or civil magistrates, on walls, gates,
and aqueducts.
178
However, Cicero also repeats more recent and more tolerant ideas;
he thinks that large-scale commerce, unlike the retail trade, “is not so despicable,” in
that it brings goods from all over the world and provides work for so many people.
179
Cicero belongs to those authors who supported the idea that the only honorable
industry is agriculture. It is worth noting that he translated Xenophon’s
Oeconomicus into Latin. He wrote that “of all means of acquiring gain, nothing is
better than agriculture, nothing more productive, nothing more pleasant, nothing
more worthy of a man of liberal mind” (Cicero, De offi ciis I 42, 151). We would like
to underline that this argument infl uenced sixteenth century culture. Cicero also
repeats the Greek argument, the disdain for manual work, which is wretched; and
for retail traders, he says, “they can never succeed unless they lie most abominably”
(Cicero, De offi ciis I 42, 151). On the contrary, “commerce if large and rich, import-
ing much from all quarters, and making extensive sales without fraud, it is not so
very discreditable” (Cicero De offi ciis I 42, 151). In this context, there is a direct
relationship with Plato’s similar ideas (Plato, Laws XI 915d, 918d, 919d). Cicero
provided the idea that the types of work to condemn more than any other are those
that serve for sensual pleasures, from chefs and pastrycooks to perfumers, dancers,
and jugglers of all kinds. Instead, respect should go to the liberal professions, which
require intelligence and are useful (Cicero, De Offi ciis I 42, 151).
180
This reference
on architecture and medicine does remind us a similar argument provided by
Aristotle ( Nicomachean Ethics I 1, 1094a). In the 1500s, these ideas frequently
recur; they are certainly inspired, or at least supported, by the reading of Cicero.
181
Though there was a feeling of disfavor among the upper classes, at least, toward the
crafts and small-scale commerce, and the quietism in thought just noted, the Romans
were notably careful in business relations and matters of account. Many instances
might be cited of their accurate and cautious manner of recording both public and
private transactions. Moreover, there is evidence that credit institutions similar to the
check and promissory note were known and used, while Cicero requested Curius to
honor Tiro’s draft for any amount and asked Atticus to ascertain if he could get
exchange in Athens (Cicero, Epistula ad Fam. XVI iv, 2; XI I, 2; XII xxiv, 1). While
of little direct signifi cance as to economic thought, these facts would indicate that the
Romans must have had concrete ideas about economic relationships.
Cicero also reports in an approving tone the argument put forward by Hecaton of
Rhodes, scholar of Panaetius, that it is the wise man’s duty to improve his patrimony
by legitimate means, not only for his own advantage, but also for that of his children
and relations. In fact, “the means and affl uence of each individually constitute the
riches of the state” (Cicero De Offi ciis I viii 16; III xvi, 139). What is more, it seems
178
Haney ( 1949 , pp. 78–79).
179
On the moderate attitude of Cicero toward riches see Tozzi ( 1961 , pp. 55–56, 289–308) and
Perrotta (
2003 , p. 211).
180
For comments on De Offi ciis see Schefold ( 2001 , pp. 5–32) and Vivenza ( 2001 , pp. 97–138).
181
Hammond ( 1951 , pp. 81–83) and Barker ( 1956 , pp. 185–186).
51
2 The Tradition of Economic Thought in the Mediterranean World…
that Cicero hints at a fundamental modern principle that only Enlightenment thinkers
really used: the relative nature of the concept of superfl uous and the consequent
rejection of Aristotle’s dinstinction between natural and unnatural needs. According
to Baeck,
182
the notion of superfl uous applies to different things according to the
time, place, and status of the person. What is considered luxury in a peripheral prov-
ince can be a normal income in Rome.
183
Seneca, the younger (Cordova 5. bc -Rome ad 65) son of the elder Seneca the
Rhetor, was a rhetorician who cultivated a mannered style, wedded that style to a
profession of Stoic philosophy, and attempted also, besides being stylist and a Stoic,
to pursue the career of a politician.
Seneca elaborates, in difference to Cicero, of the fateful idea of a primitive state
of society, a “Golden Age,” which was followed by the era of the origin of the con-
ventional institutions of society, as a remedy for the evils which brought this age to
an end. This was a very signifi cant doctrine – it appeared in Dichearchus’ work – for
it was taken up by the Christian Fathers and had considerable vogue all through the
early Middle Ages.
184
In the “Second Epistotle” to his friend Lucilius, Seneca sets
forth his theory of the primitive condition of society in the Golden Age of pristine
innocence. In this period of primordial felicity, mankind lived without coercive
authority, gladly obeying the wise, and without distinctions of property or caste. His
explanation of the course of events which brought about the transition from this
primitive stage to modern society is strikingly like that given by Rousseau in his
Discourse on the Origin of Inequality Among Men . A similarity exists also to
Dichaearchus’ theory. The people became dissatisfi ed with the common ownership,
and the resulting lust after wealth and authority rendered necessary the institution of
political authority to curb the lusts of man.
In the ninetienth of his letters to Lucilius, which is a “Protrepticus” or exhorta-
tion to philosophy, Seneca deals with the argument of Posidonius of Apamea that
philosophy was the inventor of the arts of civilization. He argues that it was mother-
wit and chance, and not philosophy, which found out useful inventions, and in this
he is at one with Lucretius ( De Rerum Natura Vv 1448–1457); but he claims for
philosophy the discovery of true wisdom – wisdom in the sense of an understanding
of nature and human life and a grasp of ultimate truth.
It is worth noting and of great interest that the comparison of the philosopher and
the artisan, which is existed in Bernand Mandeville’s Fable of the Bees (1714)
185
and
in Adam Smith’s, Wealth of Nations (
1776 ) ,
186
is also founded in Seneca’s ninetienth
letter. Seneca ( Epistles XC, 24–25) mentions the specifi c inventions in the productive
process of ships, and both men – Mandeville
187
and Seneca – comment the rudder in
182
Baeck (1997, p. 159).
183
Mase-Dari ( 1901 ) and Eliopoulos ( 1973 , pp. 146–170).
184
Barnes ( 1924 , pp. 57–58).
185
Mandenville ( 1924 , vol. 2, p. 145).
186
Smith (1937, p. 11).
187
Mandenville ( 1924 , vol. 2, pp. 143–144).
52 C.P. Baloglou
some detail. As Foley has pointed out,
188
the parallels are much closer between Smith
and Seneca, since Seneca concentrates chiefl y on two devices, grain mills and weav-
ing (Seneca, Epistles XC 20 (weaving); 21–23 (grain mills)). Smith’s discussion of
grain mills in the Early Draft is quite detailed,
189
and in the fi rst chapter of the “Wealth
of Nations,” he refers several times to the arts which cluster around cloth production,
including weaving.
190
Seneca also discusses the plow ( Epistles XC 21), to which
Smith refers several times,
191
and the provision of windows in houses, which Smith
repeats in the laborer’s coat passage.
192
In the “Lectures of Jurisprudence,” Smith
mentions mining and writing, which also fi gure in Seneca.
193
Seneca repeats all the
ideas of the canon against the increase in consumption.
194
It is worth noting and it has not been mentioned by the economic historians yet, as
far as we know, that C. Julius Caesar (100–44 bc ) gives a full description of the divi-
sion of labor by the construction of a bridge (Caesar, De bello Gallico , III 17, 1–10).
The above analysis would like to show that the works of Roman philosophers
were read, studied by scholars of a later day in Europe, whose veneration for them
gave them a weight which we can hardly realize. Moreover, the relative develop-
ment in economic thought of the early moderns was not great, and their economics
and ethics were not untangled. Thus, it is that this seeming commonplace of Cicero’s
or that of Seneca’s had much greater infl uence that was warranted by its intrinsic
economic worth, and greater than it could have with ourselves.
195
The writings of
the Romans constitute a continuity of the history of economic thought, although
they did not directly develop economic theory.
The Byzantine Economic Thought: An Overview
The Eastern Christian Fathers
In the second half of the fourth century ad , the Eastern Christian Fathers developed
some interesting economic ideas and suggestions, scattered throughout their reli-
gious texts, the majority of which focused on solving the problem of the extreme
188
Foley ( 1974 , p. 223).
189
Scott ( 1937 , pp. 336–338).
190
Smith (1937, pp. 5–6, § 11–12).
191
Smith in the “Early Draft,” in Scott ( 1937 , p. 336).
192
Seneca, Epistles XC 25 with Smith (1937, p. 336).
193
Seneca, Epistles XC 11–13 (mining) and XC 25 (shorthand writing) with Smith ( 1978 , p. 160).
194
Perrotta ( 2003 , pp. 212–213).
195
Another example which does prove this continuity in economic thought is Fr. Hutcheson’s
acknowledgement to Cicero on the description of the social division of labor. Indeed, Francis
Hutcheson (1694–1747) does repeat in his System of Moral Philosophy , vol. I, London (1755,
p. 290), Cicero’s passage in De offi ciis II, chaps. 3–5.
53
2 The Tradition of Economic Thought in the Mediterranean World…
maldistribution of wealth.
196
The Fathers considered the only vital concern of man
to be life after death. The personal path to salvation involved a disciplined and aus-
tere pattern of behavior on this earth. The Christian, however, lived in a setting of
civil government and specifi c social institutions. Like other men, he needed in some
manner to acquire the necessities of earthly life. The Fathers accepted the social and
political institutions of their time as facts, substantially as unchangeable facts. They
commanded the faithful to obey the civil authorities except where such obedience
would involve a clear breach of divine law. Where such confl ict of obligations did
arise, the Fathers taught passive resistance, if necessary to the point of deliberate
martyrdom. On the other hand, the Fathers never expressly recommended and often
strongly warned against active participation by Christians in offi cial life, military
activities, or judicial functions, largely because such occupations often involved
participation in pagan rites and ceremonials.
197
The early Christian ideal was infl uenced by the doctrines of the Cynics. The
Fathers maintained that in the beginnings of human society, all things were held and
used in common. They were infl uenced by the Greek and Roman doctrines of the
primitive Golden Age, and at times, assimilated it with the biblical myth of the
Garden of Eden, perhaps in order to have a more convenient basis for social theoriz-
ing than the biblical model of a single pair living in the Garden of Eden.
198
The assessment of the nature of the Economic Problem by the Early Christian
Fathers and the Cappadoceans shows little affi nity with that of the “Pentateuch” and
the Johannine writings. Rather, interpreting the Scriptures with minds heavily con-
ditioned by Hellenistic philosophy, they adopt a minimalist-retreatist position on
economic activity that is similar to the outlook of their Cynic and Stoic contempo-
raries. Justin (c. 110–165) (Justin, Defence I XIV 2) and to a greater extent Clement
of Alexandreia (c. 150–215) are signifi cant exceptions to this general tendency
which was to help stifl e movement towards systematic economic analysis in Europe
for many centuries.
199
Under this aspect and in the frame of the Christian Ethics, the Christian Fathers
of the East will deal with the following issues
200
:
(a) Wealth and poverty: The main economic concern of the Fathers was the moral
consequences and implications of the existence side by side of rich and needy
196
Katsos ( 1983 , pp. 182–184). Karayiannis ( 1994 , p. 39).
197
Viner ( 1978 , p. 13).
198
Boas ( 1948 , pp. 15–53) for the combination in the Patristic period of pagan “golden age” and
biblical “Garden of Eden” ideas.
199
Gordon ( 1975 , pp. 91–92).
200
The literature on the ethico-economic ideas of the Eastern Christian Fathers is extremely large.
Bougatsos 1 (
1980, 1988
2
) offers in his three-volume work a collection of those passages from the
works of the Fathers which provide a social character. For an overview of the economic ideas of the
Eastern Fathers, see Stephanidis (
1948 , pp. 248–279), Thurn ( 1961 ) , Reumann ( 1961 , pp. 370–379),
Chrestou (
1973 , vol. III, pp. 291–297), Spentzas ( 1984 , pp. 193–201), Houmanidis ( 1990 ,
pp. 194–201), Baeck (
1996 , pp. 538–540), and Karayiannis and Drakopoulou-Dodd ( 1998 ) . On
the meaning of “oikonomia” in the patristic thought, see the two dissertations by Lillge (
1955 ) and
Thurn (
1961 ) .
54 C.P. Baloglou
poor. With the exception of Theodoretus (393–466), they never attached any
religious value to private property as an institution or merit for any kind to it
except in so far as there was no available substitute. They deplored the fact
that, under private property, luxurious living and extreme poverty could exist
side by side. They questioned or denied the possibility of acquiring great
riches without resort to evil practices or without inheritance from persons who
had resorted to them. They advised all Christians to avoid seeking riches, to
avoid attaching value to them other than as reserve for almsgiving, and to
beware of the propensity of the possession of riches to foster luxurious living,
pride, and arrogance and distract attention from religious duties. As an ideal to
keep in mind, if not to pursue actively, they pointed to the fully common use
of possessions which they believed to have prevailed in the early days of man-
kind and among the fi rst Christians.
Their main interest was in redistributing the general wealth and income of
a community through almsgiving. Whether through lack of interest or of
economic insight, they gave no attention to the possibility of fi nding a rem-
edy for extreme poverty in measures or behavior which would augment com-
munity wealth and income. Above all, they refrained from recommending
any action involving compulsion to relieve poverty or modify in any way the
existing social structure. Any program of economic “reform” they may have
entertained was restricted to advocacy of self-restraint in the pursuit of
riches, just behavior in business, and generous but voluntary almsgiving to
the needy poor.
(b) Theodoret: the transgressive legislation of economic inequalities.
Theodoretus of Kyrus (393–466), in a “Discourse on Providence” (PG 83,
652A-656B) written about 435, presents an elaborate defense of the existing
economic society, without any reference to its being a necessary consequence
of the Fall of man. God had given different functions to different men, each
according to his nature, and had so arranged things that each was serviceable to
the community. If riches were equally distributed, no one would be willing to
do humble tasks for others. Either each would do everything needed for him-
self, or mankind would lack necessaries. But without specialization of occupa-
tions, there would be lack of skill. Inequality, therefore, is a mode of social
organization which yields to the poor as to the rich a more agreeable life, since
it is the mode by which all satisfy their needs by mutually supplying each other
with what is lacking to them.
The service which the rich render to the poor is that of providing a market
for their products. Theodoretus admits that most of the rich live unjustly, but
claims that the existence of some rich people who managed their riches with
justice and honesty, who had not exploited the sufferings of the poor to increase
their own wealth, and who had given the needy poor a share of their opulence
suffi ced to limit condemnation to the unjust rich.
55
2 The Tradition of Economic Thought in the Mediterranean World…
This seems to be a substantially different approach to the question of rich vs.
poor than that of the other Fathers.
201
(c) Work: The retreatism of the majority of the Fathers of the East is illustrated
vividly by their treatment of the role of work in human existence. Given their
Cynical or Stoic predispositions, the passages of the Book of Genesis in which
work is portrayed as an activity commanded by God posed important problems.
This command they endeavored to explain away by positing that “it is through
idleness that man learned all evil.”
In Basil’s so-called Corpus ascetism, the Regulae fusius tractatae ( the lon-
ger rules ) and the Regulae brevius tractatae ( the shorter rules ) are of special
importance. There is a set of 203 questions concerning the monastic life and
answered by Basil.
202
I n Regulae fusius tractatae 37, 1 Basil summarizes his
views on work. He writes, “Our lord Jesus Christ does not just say ‘someone’
or ‘somebody,’ but ‘the labourer is worthy of his food’ (Matt. 10, 10). Likewise,
the apostle instructs us to work and to make things with our own hands to give
to the needy. Clearly one should work diligently. We may not believe that the
importance attached to piety is an excuse for laziness and idle hands; rather,
work offers an opportunity for struggle, for great effort, for patience in hard
times, so that we can also say ‘in labour and travail, in watchings often, in hun-
ger and thirst’ ( II Cor. 11, 27).” The main purpose of labor was charity (Basil,
Reg. fus. tr. 7, 1–4 and 35, 1–3). Work is a social duty with a socio-ethical
meaning (Basil, Reg. fus. tr. 42).
203
He analyzed the content of many occupa-
tions, which would not disturb the peace and quiet of the monastery, but he
shows his preference for farming (Basil, Reg. fus. tr. 38, in PG 31, cols 1016–1017).
204
St. Chrysostom also prefers the agriculture ( PG 61, col. 87).
205
(d) Usury:
206
If one considers the conformity between the Classical Graeco-Roman
philosophy and the Old Testament in attitude towards lending at interest, it is
somewhat surprising that usury was not an issue at all in the Christian writings
of the fi rst century ad. The New Testament, which contains the oldest surviving
documents of Christianity almost contemporary with Philo, has nothing to say
about usury. Lending at interest is mentioned only once, namely in the “Parable
of Talents” (Matth. 25: 14–30; Lk 19: 11–27). If this passage contains a judge-
ment about usury at all, it seems to be an approval, since the “Lord” punishes
his servant for not having brought the money to the bankers to gain some interest
201
Viner ( 1978 , pp. 18–20), Gotsis ( 1997 , pp. 30–32), and Baloglou ( 2003a , pp. 77–80).
202
Hoven van den ( 1996 , pp. 139–140).
203
Savramis ( 1965 , p. 28).
204
Stephanidis ( 1948 , p. 260), Drack ( 1960 , pp. 412–413), and Savramis ( 1965 , pp. 29–32).
205
Stephanidis ( 1948 , pp. 278–279).
206
The literature on the ideas of the Eastern Christian Fathers concerning usury is extensively large.
It seems to be an issue which has been covered until today. See, e.g., Maloney (
1973 , pp. 241–265),
Gordon (
1982 , pp. 421–424), Bianchi ( 1983 , pp. 321–342, 1984 , pp. 136–153), Siems ( 1992 ) ,
Osborn (
1993 , pp. 368–380), Kompos ( 1996 , pp. 155–164), Gotsis ( 1997 , pp. 40–41), Moser
(
1997a, b ) , and Schefold ( 2000a , pp. 149–151).
56 C.P. Baloglou
(Matth. 25: 27; Lk 19:23). But is not only the authors of the New Testament
who show no interest in the usury law, the same is true for all other early
Christian fathers, the Apostolic Fathers and the Apologists.
The issue of usury made its fi rst appearance in Christian literature in
Clement’s of Alexandreia Paedagogus ( ad 197). Its three books represent an
instruction for new converts on Christian conduct in daily matters. Concerning
the “just man” Clement quotes Ezekiel: “His money he will not give on usury,
and will not take interest.” “These words,” Clement concludes, “contain a
description of the conduct of Christians, a notable exhortation to the blessed
life, which is the reward of a life of goodness-everlasting life” (Clement,
Paedagogus I 10). Clement therefore regards the interest prohibition of “the
Law” as still binding on Christians. The subject of usury is taken up again some
years later in the second book of his major work Stromateis . Here he makes on
several occasions copious use of Philo’s De virtutibus . His arguments follow
very closely Philo’s words ( De Virt. 82–83).
After the Church Fathers had clarifi ed that the Old Testament interest prohi-
bition was also valid for Christians, ecclesiastical legislation was soon to fol-
low. In 306 ad, the provincial Counsil of Elvira, though only concerning Spain,
stated for the fi rst time a canonical prohibition of usury and in a degree of clar-
ity and severity which was to remain unsupposed during the following centu-
ries. Canon 20 prohibited the practice of usury to all clerics and laymen under
penalty of excommunication. In 314 ad, the fi rst Council of Arles representing
all of the Western Church forbade in canon 13 usury only to clerics, but still
under the penalty of excommunication. Finally, in 325 ad, the fi rst general
Council of Nicaea (and therefore valid for the entire Church) prohibited in its
canon 17 the taking of interest, but (1) only to clerics und (2) only under the
penalty of removal from offi ce.
The Cappadocean Fathers brought the Aristotelian strain of argumentation
through the Alexandrian tradition back into the Christian teaching on usury.
Descending from a wealthy aristocratic family, both Basil and Gregory of
Nazianzus received a thorough education in Classical literature, rhetoric, and
philosophy at different locations. What is new in the usury controversy is that
they not only refer to the subject of interest-taking, but indeed devote entire writ-
ings to the matter. But since they were in close contact with each other and since
the usury treatments of both the Gregorys were strongly dependent on Basil’s
work, we can consider them together as a group. First of all, they also used the
scriptual argument which they enlarged: In his second Homily on Ps. 14, Basil
quotes Ex 22:25, Dt 23:19, Jer 9:6, Ps 54:12, and Mt 5:42, the last three passages
dealing in general with oppression, fraud, and charity. The clarity and forthright
nature of the Old Testament texts in regard to the issue of usury can be seen by
Gregory of Nyssa’s statement in his Contra Usurarios ( PG vol. 46). The creditor
is asked as to how he will defend his employment of usury on the day of his fi nal
judgement: “You had the law, the prophets, the precepts of the gospel. You
heard them all together crying out with one voice for charity and humanity.”
The motive-argument receives a comprehensive treatment. The usurer seeks
57
2 The Tradition of Economic Thought in the Mediterranean World…
money from the poor, and he takes advantage of the misfortunes of the wretched.
However, there is a new argument, taken from the statements of the “Lord” in
the Parable of Talents, that points into a new direction. As there should be no
return on “idle” money, the “idle” creditor should not receive a wage: The usurer
is, according to Basil, “gathering where he had not sowed and reaping where he
had not strawed,” and Gregory of Nazianzus adds “farming, not the land but the
necessity of the needy” ( Oration 16, 18). Citing Lk 6:35, Basil fi nally appeals to
the rich to lend their money “that lies idle with them.” Bringing forward the
effect-argument, he gives a lively description of the sleepless nights and sorrows
of the borrower over his debt. But he also deals with an objection against the
effect-argument: “But many,” he lets the money-lender say, “grow rich from
loans,” to whom he answers: “But many,” he lets the money-lender say, “grow
rich from loans,” to whom he answers: “But more, I think, fasten themselves to
halters. You see those who have become rich, but you do not count those who
have been strangled.” Gregory of Nyssa adds in his sixth Homilia in Ecclesiasten :
“if there were not such a great multitude of usurers, there would not be such a
crowd of poor people.” But more original is their treatment of the nature-argu-
ment. On the one hand, they take up the Aristotelian line of thought again by
explicitly playing with the work tokos . Basil devotes quite some effort to this
subject. Referring to the fertility of hares he states: “By its nature, money is
indeed fruitless. Nevertheless, through the industry of greedy individuals it sur-
passes all living things in productivity.” He then explains that interest is called
tokos , either because it bears evil of because of the travail it brings to the bor-
rower. Compound interest in particular, he continues, is an “evil offspring of evil
parents” like a “brood of vipers,” because like vipers destroying the womb, usury
is “born to destroy the houses” of the debtors. Interest is a “unnatural animal”
since everything “natural” stops growing once it reaches its natural size, only the
“money of the greedy” grow without any limits. Gregory of Nyssa remarks in
his Contra Usurarios that usury is against nature since copper and gold, “things
that cannot usually bring forth fruit, do not seek to have offspring.” In his Homilia
IV in Ecclesiasten, he calls usury “an evil union unknown to nature.” But in
addition to the sterility-version of the nature-argument, he also refers to the
equality-version, since here he calls the usurer a thief who takes from the lender
what does not belong to him.
(e) Slavery:
207
Slavery was, in the time of the Fathers, as it was to continue to be
until the nineteenth century, a respectable private-property institution. If a few
brief expressions of disapproval be disregarded, the Fathers accepted it as such;
and it would be diffi cult to show from their writings that they were more hostile
to slavery than to private property in general.
Some philosophers, both Greek and Roman, with the notable exceptions of Plato
and Aristotle, condemned slavery in principle as inhumane, or as contrary to natural
207
Wilks ( 1962 , pp. 533–542), Ste Croix ( 1975 , pp. 1–38), Viner ( 1978 , pp. 18–22), Kontoulis
(
1993 , pp. 119–378), and Nikolaou ( 1996 , pp. 476–478).
58 C.P. Baloglou
law, but carried on no crusade against it. Such defense of slavery as can be found in
the writings of the Fathers rested primarily on the proposition that slavery was a
punishment for sin and to some extent a remedy for it. This was a novel argument
for slavery, unavailable to the pagan Greeks and Romans. It did not mean, however,
that the Fathers had adopted and provided a religious support of the Aristotelian
view that slaves were by nature an inferior species of man, from whom the dignity
of human personality could justly be withheld. On the contrary, the Fathers insisted
that slavery was a merely material condition not affecting the spiritual quality of the
slave. Many slaves, they said, were better men than their masters. Before God all
men were equal. The only real slavery was the slavery to sin and subjection to the
evil passions; the virtuous slave had more true freedom that the sinful master. Of
itself, slavery in the objective sense was morally neutral; it was good or bad accord-
ing to the disposition of the souls submitted to this trial. Aristotle and Plato accepted
this was a more favorable view of the ethical quality of slavery as an institution than
prevailed in the writings of the pagan philosophers. St. Basil, in apparently his only
substantial treatment of slavery, begins with a denial that any man is a slave by
nature, but continues with what seems to be an unqualifi ed acceptance of slavery, as
being in accord with wordly practice or in the interest of the slaves themselves in
cases where they are by nature inferior to their masters.
Later Byzantine Authors
The Byzantine Thought and Literature has not shown a tradition of economic
thought, similar to that of the West, and specifi c contributions which would make up
a creative renovation or a systematic elaboration of the economic ideas and doc-
trines of the writers of the Classical Antiquity. From this point of view, a gap seems
to be present in the historical evolution of the economic doctrines and theories,
which cannot be covered only by the economic ideas of the Fathers or by the estima-
tion of the Byzantine writers and scholars which are rather rare to fi nd according to
the nature or the causes of specifi c economic developments.
208
Moreover, these
ideas are functioning as empirical observations of the economic phenomena or as
dutiful suggestions of intervention in the function of the economic process.
Nevertheless, certain suggestions within a theoretical scope do appear, which
could be classifi ed within the province of the jurisdiction of more specifi c abstrac-
tions, having a more explanatory value, an issue which declares that the byzantine
problematic, despite the absence of appearance of systematic economic theories,
did not resign from introspecting the functions of economic phenomena as manifes-
tations of such reality, which determines the private target and sets the boundaries
for the possible selections of collective action.
209
208
Gotsis ( 1997 , pp. 15–50, 53).
209
Gotsis ( 1997 , pp. 53–54).
59
2 The Tradition of Economic Thought in the Mediterranean World…
It is obvious that, in the Byzantine World, the request for a more comprehensive
research approach to the sphere of economic phenomena cannot take a specifi c
form. The main part of the economic studies in Byzantium is expressed through
legal texts and relevant provisions which do not reach a conclusion by means of
treatises or other independent works: the cause of this phenomenon should be inter-
preted by taking account of institutional particularities, such as the structure of the
Byzantine bureaucracy and its relation to the intellectuals, the ordering of the priori-
ties of the authors.
210
It is worth noting at this point that the Byzantines have not put
forward any political or philosophical theories to organize in a systematic way the
prevalent opinions about the Emperor and the State.
211
On the contrary, the West was
prolifi c in ideas and theories referring to the concept of the empire. This confl ict is
due to the different way of dealing with problems; the West was dominated by the
horror of death and total destruction, a fact unknown to the East.
212
As far as we know, a general overview of the subject matter about which we are
concerned is not available. We would like, at this point, to refer to some interesting
references to texts and authors, which prove an economic character and have not
been systematically recognized yet.
In Byzantine Empire, three elements had a strong impact: Christianity, the
Roman legal tradition, and the ancient Greek philosophical tradition. There people
grappled with the issues both in terms of theoretical discourse and in practice.
The concept of social justice was deeply embedded in Byzantine society, where
justice carried both the general meaning of equality and the specifi c meaning of the
protection of the weaker members of society. At the same time, the principle of free
negotiation was also present; through the centuries, one can see a development in
the emphasis that was given to each of these two principles.
213
Until the middle of
the tenth century, the state’s concern was focused on the protection of the weak.
Through the instruments of legal justice and legislation, the state intervened in the
economic process, for example, in the matter of the formation of prices. The con-
cept of the “just price” was a powerful one and the discussion revolved around one
of its components, the just profi t, more specifi cally the just profi t of the merchant.
The state set limits on interest rates, as well as on profi t rates.
214
In the second half of the eleventh century and during the next 100 years, Byzantine
intellectuals engaged in the systematic study of the works of Aristotle, whose state-
ments on justice in exchange have been scrutinized and commented upon by vast
members of scholars and thinkers, providing the basis for the science of political
economy. The Byzantines, and especially Michael of Ephesos, as Professor Angelike
Laiou (1941–2008)
215
has emphasized, were the fi rst to study and refl ect upon the
210
Hunger ( 1994 , vol. III, p. 316) and Gotsis ( 1997 , p. 58).
211
Beck ( 1970 , pp. 379–380) and Karayannopoulos ( 1992 , pp. 13–14).
212
Bryce ( 1904 , pp. 342–344).
213
Laiou ( 1999 , p. 128).
214
Laiou ( 1999 , p. 129).
215
Laiou ( 1999 , pp. 118–124, 129).
60 C.P. Baloglou
fundamental problems of the formation of value, as well as upon the question of
money and its function in the economy. Michael of Ephesos saw the economic pro-
cess as a complex and dynamic problem. He sketched the elements of a concept of
supply and demand, without developing it fully. His commentaries on the
“Nicomachean Ethics” became the foundation stone for the subsequent analyses by
the great scholastics of Western Europe.
The existence of a systematic collection of 20 volumes entitled G e w p o n i k ά
(Agriculture), of which is identifi ed the Emperor as author Constantine VII
Porphyrogenitus, written during the years 944–959, contains technical issues con-
cerning farming. The author gives also advices of an economic character.
216
He sup-
ports the view that the State is organized in three different and discrete levels: the
army, the church, and agriculture ( G e w p o n i k ά p. 2, 6–7).
217
Observations on the Role of the Market and Price-Mechanism
Michael Psellus (1018–1081) wrote a Life of Saint Auxentius ,
218
who lived in the
fi fth century, but the ideas which he is describing refl ect the reality of the eleventh
century, and indeed, Psellus’ personal experience. Auxentius once walked along the
Battopoleion – it should be an industrial district of Constantinople – and saw crafts-
men in tears since they had been forced to close their shops under the duress of the
moment (perhaps k a i r ό V a p r a g ί a V means even more precisely “the shortage of
employment”) ( PG 114, col. 1384A).
219
Auxentius went to succor one of the crafts-
men: having changed his appearance, he proposed, to the craftsman’s surprise, to
run the shop for 3 days for a mere pittance – three follies a day; and in 3 days he
managed to make “this shop” fl ourish. Psellus transforms the episode from a story
of limited, individual help to one owner of a single shop, into a fact of broad eco-
nomic signifi cance. Instead of running a single ergasterion, Psellus’ Auxentius
improved the whole market situation in Constantinople. He realized that the mer-
chants in the capital were doing poorly, that the workshops were in bad condition
due to the general predicament, and that trade (=pragma) was on the verge of catas-
trophe and industry (Vtechne) could barely continue; the wares, says Psellus, were
abundant while the population was unable to acquire goods, for prices were soaring.
Auxentius gave support to the artisanal industry. How did he accomplish his diffi -
cult task? He changed the minds of citizens by convincing them to buy goods for
the price demanded. Thus the city recovered, the merchants could breathe more eas-
ily, and Auxentius’ theory (=philosophema) became the basis of a sound economy.
Psellus concludes: where the plans of the emperor were ineffi cient, Auxentius’
216
Lemerle ( 1981 , p. 264).
217
Hunger ( 1994 , vol. III, pp. 88–89).
218
The text has been published by Ioannou ( 1971 , pp. 64–132).
219
Kazhdan ( 1983 , pp. 549–550).
61
2 The Tradition of Economic Thought in the Mediterranean World…
virtue helped.
220
It is interesting to note that Psellus presented his holy man as a man
of broad economic thought, and this is quite compatible with his self-image.
221
Patriarch Athanassius I (ca. 1235-ca. 1315, tenure of offi ce 1289–1293, 1303–
1309) reveals in his letters to the Emperor Andronicus II. Palaiologos (1282–1328)
specifi c hints of economic character for the recovery of the Byzantine economy. He
organized a committee for the control of supply and the prices of the cereals in
Constantinople.
222
It is worth noting that Tzetzes expresses the view that the labor as an objective
cost determines the price of the product (Tzetzes, Epistulae ed. P.A.M Leone,
81.16–82.2, Leipzig 1972, 121–122).
The Strategicon (or offi cer’s manual) of Kekaumenos, an offi cer in the imperial
service during the eleventh century – written between 1070 and 1081 – contains
maxims and rules for the conduct of civil offi cials (Part 1), rules backed by exam-
ples and instances, for the conduct of a military offi cer (Part 2), suggests principles
of conduct in private and domestic life (Part 3), and deals with the behavior which
is proper in times of sedition and civil strife.
223
The third part (pp. 36–64) is con-
cerned with the conduct of private life, oikonomia, and with the moral rules and
maxims of ordinary behavior. It contains remarks on borrowing and lending, on
agriculture, and on tax-farming. The author suggests that one should avoid changing
one’s occupation and maintaining rather a specifi c occupation, not because there are
any legal restrictions, but because he recognizes that the continuous change of an
occupation is in economic terms neither effi cient nor profi table.
224
The “Mirror for Princes” Tradition
In the East, where an absence of a political philosophy can be noted which would
produce an economic thought, one could notice the existence of nonformulated
thoughts and ideas which aim either at praising the emperor on the occasion of an
anniversary, or at advising and teaching him, in order to compose the ideal form of
the ruler. These are the Mirror for Princes (speculum principiis),
225
such as that
found in The Exposition of Heads of Advice and Counsel addressed by Agapetus, a
deacon of the Church of St. Sophia, to Justinian I (PG vol. 86, cols 1164–1185),
226
and as it began in this genre, so it continued in it for nearly a 1,000 years.
220
Ioannou ( 1971 , pp. 74, 11–22).
221
Kazhdan ( 1983 , p. 550).
222
Laiou-Thomadakis ( 1972 , Appendix).
223
Wassiliewsky and Jernstedt ( 1896 ) and Barker ( 1957 , pp. 120–125).
224
Kekaumenos, Strategicon § 20, 22, edit. Tsougkarakis ( 1996 , pp. 82–84).
225
It is interesting to note, at by some way surprisingly, that the term appears in twelfth century by
Gottfried von Viterbo (ca. 1125–1192), Speculum regum (1180/83). Cf. Hadot (
1972 , col. 556).
226
Barker ( 1957 , pp. 54–63). The text by Riedinger ( 1995 , pp. 25–77). For a German translation
see Blum (
1981 , pp. 59–80). Cf. Henry ( 1967 , pp. 281–308), Sevčenko ( 1978 , pp. 3–44), and
Letsios (
1985 , pp. 172–210).
62 C.P. Baloglou
This literature which begins with the speeches of Isocrates
227
in Classical Antiquity
reaches its peak in the Hellenistic Times; the Stoics wrote treatises “on Kingship”
and the authors of this period describe the ideal king as the personifi cation of the law
itself.
228
The king is a model and example for all men, and all look to him and imitate
his ways. The king disposes of the four virtues: courage, justice, temperance, and
wisdom. This ideal, the King is Animate Law, has been later adopted by Themistius
(317-385/90) in several speeches (Themistius, or. 5 , 64b; or. 16 , 212d; or. 19 , 228a,
ed. Schenkl and Downey
1965 ) . He also declares the duties of the King and empha-
sizes the fi nancial problems of the State, which the King has to solve.
229
Q. Skinner
230
supports the view that the form of the mirror-for-princes-handbook
had been used since the Middle Ages. According to Y. Essid,
231
the “mirror for
princes” literature originated in Persia perhaps as early as the eighth century and sug-
gests how “the art of government” had become the “object of great interest among
Muslim writers.” The approach drew inspiration from the oikonomia literature and
analogized the management of the household to the management of the Kingdom.
232
As Hadot
233
had demonstrated, this tradition began in Classical Antiquity.
As an indicative example of the doctrine that the King is a copy of God is the “Letter
of Aristeas,” which is written during the reign of Ptolemy II Philadelphos of Egypt
(285/3-246).
234
Synesius (ca. 373–414) adopts in his treatise “On Kingship” ( PG , vol. 66,
cols 1053–1108), addressed to Emperor Arcadius ( ad 399), the ideals and the doctrines
of the Hellenistic Tradition and invests them with the virtues of a christian ruler: “use
in this way the goods which lie ready to your hand, I beg you,” said Synesius; “it is only
in this way that you can use them well. Let families, cities, peoples, nations, and conti-
nents enjoy the blessings of the wise care and royal providence which God, who has set
Himself as the pattern to be followed by the realm of intelligible things, has given to
you as an image of His providence, wishing things here below to be ordered in imita-
tion of the world above” (PG vol. 66, col. 1054D-1055A).
Sometimes an emperor himself would write a manual of advice to his son:
Basilius I is said to have addressed two such manuals to his son Leo the Wise
( PG vol. 107, cols XXI-LVI)
235
; and Manuel II (r. 1391–1425), in the last days of
the Empire, similarly bequeathed to his son John VIII (r. 1425–1448) a manual or
227
Isocrates, or. 2 ad Nicoclem; or. 9 Euagoras . There belong also Xenophon’s works Cyropaedia ,
Agesilao s, Hieron to this tradition.
228
This ideal of the “Nomos empsychos” has been adopted by the Neopythagoreans Sthenidas,
Diotogenes and Ekphantos. Cf. Steinwerter (
1946 , pp. 250–268) and Aalders ( 1968 , pp. 315–329).
229
Jones ( 1997 , pp. 149–152) and Engels ( 1999 , p. 138).
230
Skinner ( 1988 , pp. 423–424).
231
Essid ( 1987 , pp. 77–102).
232
Cf. Moss ( 1996 , p. 540) who adopted Essid’s view.
233
Hadot ( 1972 , cols. 555–632).
234
Bickermann ( 1976 , pp. 109–136), Hadot ( 1972 , cols. 587–588), and Tcherikover ( 1958 ,
pp. 59–85). For a summary of Tcherikover’s analysis, see Fouyas (
1995 , pp. 167–183).
235
Blum ( 1981 , pp. 39–41).
63
2 The Tradition of Economic Thought in the Mediterranean World…
236
Blum ( 1981 , pp. 54–55).
237
Blum ( 1981 , pp. 81–98).
238
Barker ( 1957 , pp. 151–198).
239
Blum ( 1981 , pp. 99–193). For an evaluation of the two treatises, which have also an ethico-
economic character, see Baloglou (
1999c , pp. 61–68).
testament under the style of Councels on the Education of a Prince (PG vol. 156,
cols 320–384).
236
More often a scholar – a monk or a bishop –wrote a treatise “on
Kingship” or some form of eulogy of an emperor mixed with ethico-political advice,
and works of this order became increasingly frequent as the Empire became pro-
gressively weaker. The interesting element of these treatises or manuals is that their
authors wanted to draw the attention of the Emperor to the fi nancial diffi culties of
the State as well. On the other hand, they would try to encourage him to protect the
poorer citizens. They proposed that he should take measures for a better redistribu-
tion of the income, the fi nal target being the happiness of the State. The archbishop
Theophylact of Boulgaria (+1107/8) wrote an Institutio Regia (PG vol. 126, cols
253–285), in 1088, for Constantine, the son of Michael VII
237
; the monk and scholar
Nicephorus Blemmydes (1197–1272) wrote a work entitled Andrias Basilikos (= the
Statue of a King) ( PG vol. 142, cols 657–674) for his pupil Theodore Lascaris II,
and emperor who ruled in Nicaea during the Latin occupation of Constantinople.
238
Thomas Magister (? 1275-1350/51), a monk who lived for some time in Thessalonica,
followed the example of Isocrates and wrote two parallel addresses or orations, the
fi rst entitled peri basileias ( De Regis Offi ciis ) ( PG vol. 145, cols 448–496), addressed
to the Emperor Andronicus II (r. 1282–1328), and the second peri politeias
( De Subditorum Offi ciis ) ( PG . Vol. 145, cols. 496–548), where he describes the
duties of the citizens of Empire.
239
Magister recognizes the value of arts and crafts,
and the obligation incumbent upon all ordinary citizens to follow an occupation and
employ their faculties in production (Th. Magister, Peri politeias , PG 145, col. 500).
He also recognizes the duty of the citizen to practice the arts of war, as well as the
arts of peace, and to qualify himself by training and some form of military service
to play his part in the militia which the State needs for its defense. (Th. Magister,
Peri politeias , PG 145, col. 505).
The Occupation of the Intellectuals and Scholars of the Post-
Byzantine Period with Economic Matters and Their Financial
Proposals
The period of the two or three last centuries of the Byzantine Empire, which is
directly connected with the name of Palaiologoi, is justifi ed by the fact of the
simultaneous appearance of a politically, economically, and socially shrunk and
weakened state on the one hand and of a signifi cant cultural production which had
its infl uence on and left indelibly its spiritual presence in the Western Renaissance
64 C.P. Baloglou
240
Runciman ( 1970 ) .
241
Baloglou ( 1998b , pp. 406–413) and the mentioned literature.
242
Runciman ( 1970 , pp. 1–2).
243
Barker ( 1957 , p. 49).
244
Gill ( 1964 ) , Kristeller ( 1974 , vol. I, pp. 50–68, 225–226, 252–257, 1976 , vol. II, pp. 101–114,
270) (on the Platonic Academy). Fouyas (
1994 , pp. 315–372).
245
Pantazopoulos ( 1979 , pp. 130–138).
246
Runciman ( 1952 , pp. 27–31) and van Dieten ( 1964 , pp. 273–299).
247
It is evident by Cabasilas’ and Magister’s proposals who do refer to Plato, Solon, and the
Cappadoceans. See Baloglou (
1996, 1999c , pp. 61–68).
on the other hand. This period, known as Post-Byzantine Period or the “Last
Byzantine Renaissance,” as Sir Steven Runciman (1903–2000) called it,
240
begins
from the capture of Constantinople by the Greeks (15.VIII. 1261) and ends to the
capture of the “Vassileusa” – as it is called – by the Ottomans (29. V. 1453) and is
characterized by several economic and political events.
241
In strange contrast with the political and economic decline, the intellectual life of
Byzantium never shone so brilliantly as in those two sad centuries. It was an age of
eager and erudite philosophers, culminating in its later years in the most original of
all Byzantine thinkers, George Gemistos-Plethon. At no other epoch was Byzantine
society so highly educated and so deeply interested in things of the intellect and
the spirit.
242
Another phenomenon of this period, which we have to mention, is the infl uence
on the West. In both centuries, the connection with the Latin West grew closer: not
only did Byzantine art infl uence the early painters of Italy, but Byzantine scholar-
ship also began to move to the West and kindle the fi re of the Italian Renaissance.
243
From the fourteenth century onwards, the Byzantine scholars were carrying their
books and their scholarship to Italy. An example of this infl uence was the estab-
lishment of the Platonic Academy of Florence by Cosino de Medici who was
inspired by Plethon, who visited Italy and was honored there.
244
An additional ele-
ment that characterized the scholars of the period under discussion was the return
to the classical patterns, especially to Ancient Sparta and Athens; they derived
their arguments from Classical Greece for a provision of their ideas.
245
They often
used the word “Hellene” to describe themselves. The use of this word was not an
originality of this period, but from the fourteenth century onward, a general use of
the term
246
was observed.
The intellectuals and scholars of these two centuries did know the problems of the
State and tried to provide consistent and systematic solutions. They were infl uenced
by the Classical Patterns, but also by the texts of the Early Christian Fathers.
247
Thomas Magister (?1275-1350/51), Georgios Gemistos-Plethon (?1355-26.
VI.1453), and Bessarion (1403–1472) did occupy with the fi nancial problems and
recognized the heavy taxes as the evil of all problems. Magister suggested that extra
taxation without a specifi c reason should not be imposed because it revolted citizens
and perpetuated social injustice (Thomas Magister, Peri basileias , PG 165 (1865),
65
2 The Tradition of Economic Thought in the Mediterranean World…
248
Cf. Baloglou ( 1999c , p. 67).
249
Masai ( 1956 , p. 87).
250
Bargeliotes ( 1989 , pp. 30–31).
251
Bargeliotes ( 1993 , p. 104).
252
Lampros ( 1930 , vol. IV, pp. 113–135). For an English translation of this memorandum see Baloglou
(
2003b , pp. 26–35). For a German translation with commentary see Blum ( 1988 , pp. 151–172).
253
Lampros ( 1926 , vol. III, pp. 246–265). For an English translation of this memorandum see Baloglou
(
2003b , pp. 36–42). For a German translation with commentary see Blum ( 1988 , pp. 151–172).
254
Blum ( 1981 , pp. 30–59), Baloglou ( 2002c , pp. 110–114), and Triantare-Mara ( 2002 ) .
col. 480A). For this reason, he pleaded to the Emperor to rearrange the system of tax
collection and not sell them (Magister, Peri basileias PG 165 (1865), col. 480 C).
As a consequence of a good and right tax policy, there came the correct handling of
public money. The Emperor himself should show interest and improve the situation.
Under these circumstances, the State will be able to get armed regularly and be
ready in case of war. “These who practice arts and crafts,” wrote Magister, “should
be of good repute on other grounds also [as well as on the ground of their skill]. They
should not be half-servants of the State: their citizenship should not be limited to the
works of peace; they should also have in their minds a spirit of gallantry and readi-
ness for war” (Th. Magister, Peri politeias , PG 165 (1865) col. 545D; engl. transl. by
Barker (
1957 ) p. 171–173). Magister’s main concern was that all alike –the working
class of artisans as well as the rich and leisured– should have access to a liberal edu-
cation which would be a training of character as well as of intelligence and would
enable all to fulfi ll “the whole duty of a Christian man” [Thomas Magister, Peri
politeias , PG 165 (1865) col. 548B; engl. transl. by Barker
1957 , p. 171–173].
248
Georgios Gemistos-Plethon, as a “theoretical philosopher of Neoplatonism,”
249
as a hellenocentric and progressive philosopher,
250
and as the main factor of the
Neoplatonism in West,
251
analyzed in two treatises entitled Advice to the Despot
Theodore Concerning the Affairs of Peloponnese ( PG vol. 160, cols. 841–866)
252
,
presented in 1416, and Georgios Gemistos to Manuel Palaeologus Concerned the
Affairs of the Peloponnese ( PG vol. 160, cols 821–840),
253
presented in 1418 –
which belong to a long tradition of the “mirror for princes”
254
, a specifi c program
which would reform the socioeconomic and military structure of the Peloponnese
aiming at the best confronting of the Turkish threat, which ultimately was to sweep
away the Byzantine Empire in the decade after Plethon’s death. The central theme
of these reforms is the mobilization of all socioeconomic and political factors in
order to create a centralized, self-suffi cient, and defensible territory.
Plethon considered monarchy to be the best-suited system of government. He
claimed that monarchy is “the safest and most benefi cial” (Lampros
1930 , p. 199).
For Plethon, the monarch would be surrounded by a council: the number of advisors
must certainly be restricted, yet it must be suffi cient, the members being of moder-
ate fi nancial status and having an excellent education (Lampros
1930 , pp. 188–119).
However, he was well aware of the various human weakness of the statesman and of
his civil advisors. Thus, he stressed that the selection of civil servants and advisors
must be based mainly upon their special knowledge and their nonself-interested
66 C.P. Baloglou
behavior. Also, he suggested (Lampros 1930 , p. 119) that all civil servants should
be chosen by using objective criteria, namely that of meritocracy, and claimed that
their corruption should be severely punished.
The successful application of the division of labor, which will contribute both to
the improvement of the politeia and the achievement of happiness (Lampros
1930 ,
vol. IV, p. 132, 7–12), the tripartite division of the population (Lampros
1930 ,
vol. IV, p. 119, 23–120, 5), the abolishment of the many taxes and the establishment
of an unique tax (Lampros
1930 , vol. IV, p. 122, 18) – his reformed taxation system
based upon four principles of taxation, so he became an ideological predecessor of
the main principles of taxation developed later in eighteenth century literature, pri-
marily by Adam Smith
255
and by considering agricultural income as the basis of
taxation, he thus became a forerunner of the relevant Physiocratic theory
256
– the
property reform (Lampros
1926 , vol. III, p. 260, 1–18), and the control of imports
and exports (Lampros
1926 , vol. III, p. 263, 3–264, 12. Lampros 1930 , vol. IV,
p. 264, 11–16) constitute the main content of Gemistos’s proposals.
257
Plethon’s
economic recommendations were based on the presupposition that the Peloponnese,
a rich producer of raw materials, could be rendered economically self-suffi cient.
Plethon argued that the main function of government is the protection of individuals’
property rights and peoples’ freedom. Thus, it seems that he regarded sovereignty
as a kind of “social contract” – a theory more fully explicated during the seventeenth
century by Thomas Hobbes and John Locke.
258
Cardinal Bessarion, Gemistos’ disciple, proposed in his letter to Despot
Constantine – the last emperor of Byzantium (r. 6.I. 1449–29. V. 1453) – written in
April 1444,
259
a specifi c reform program: The discretion of the population of the
Despotate of Mistra in tax-payers and not soldiers, and in non-tax-payers and sol-
diers (Lampros
1930 , vol. IV, p. 35, 9–12), the reorganization of army (Lampros
1930 , vol. IV, p. 36, 10–12), the control of imports and exports through selective
duties (Lampros
1930 , vol. IV, p. 41, 22–29), the connection of production and
techno-logical education, and the recognition of the economic signifi cance of educa-
tion (Lampros
1930 , vol. IV, p. 44, 1–14) are inclusive of Bessarion’s main ideas.
260
As we can conclude from this brief reference to the contribution of the Byzantine
scholars, the intellectuals of the Late Byzantine Times were indeed occupied with
applied economic facts; they did not seem to have any theoretical approximation in
issues, like value, price, wage; we have, however, to include their contribution in the
evolution of the Medieval Economic Thought.
255
Spentzas ( 1964 , pp. 122–123) and Baloglou ( 2001b , ch. 3).
256
Spentzas ( 1964 , pp. 114–115, 135, 139) and Baloglou ( 2001b , ch. 2).
257
For an evaluation of Gemistos’ economic ideas and their evolution in the History of Economic
Thought, see Spentzas (
1996 ) , Baloglou ( 1998e, 2002b , pp. 12–19), and Karayiannis ( 2003 ) .
258
Spiegel ( 1991 , p. 691).
259
Lampros ( 1906 , pp. 12–50, 1930 , vol. IV, pp. 32–45) and Mohler ( 1942 , pp. 439–449).
260
For an evaluation of Bessarion’s economic ideas see Baloglou ( 1991 /92) and Mavromatis ( 1994 ,
pp. 41–50).
67
2 The Tradition of Economic Thought in the Mediterranean World…
261
Hosseini ( 1998 , p. 655, n. 3).
262
Essid ( 1987 , pp. 83–84).
Arab-Islamic Economic Thought
The fi rst of the three major categories of medieval Muslim economic literature is the
formal letter of advice for ruling an empire known as the “mirror for princes” litera-
ture. This literary tradition is usually framed as advice by a father of a savant to a
young prince or heir-apparent and dates back to ancient Egyptian times and to
Isocrates’ Speeches. One of its famous modern expressions is Erasmus’ advice to
the expected heir to the throne, Charles V of Spain. This literature covers tax policy
and personnel management for the absolute ruler, whose power is measured by the
wealth and prosperity of his empire and the support and dependability of his mili-
tary and commercial population. The Arabs assimilated much of this literature from
the Iranian culture.
261
These treatises emphasized the importance of never taxing the
peasantry or merchants so heavily as to discourage or adversely affect commerce or
production. They refl ected a sophisticated administrative tradition concerned with
delegation and separation of power, the appropriate role of the wazir or prime min-
ister, and the effective judging of personality and assignment of duties. Some of
these tracts reported formally commissioned studies of the causes of price fl uctua-
tions.
262
As the best example is Abou Youssef Yakoub’s (731–798) work entitled
Kitab al Kharaj ( Manual on Land-Tax ), which was composed to answer questions
put to him by the caliph Harum Al-Rashid. Yakoub analyzes there the following
topics: (a) Type of taxation-fi xed amount vs. proportional rate; (b) tax collection and
administration; and (c) public fi nancing of rural development projects.
The second genre of economically relevant literature encompassed the hisba
manuals which provide a detailed description of the functions of the muhtasib , the
municipal market manager. Such extensive treatments of supervisory duties are
reminiscent of the functions of the Roman sensors and aediles and the Greek market
regulators ( agoranomoi and metronomoi ). The principles and practices in these
manuals revealed in the context of the economic and cultural traditions of medieval
Muslim society. We cannot ignore, however, the fact that the concern over talaqqi –
the practice of merchants meeting incoming caravans and telling them that the mar-
ket is down, so as to buy up their merchandise cheaply – is nothing more or less than
forestalling, which was made illegal in medieval English markets along with corner-
ing and regrating. A clear elaboration of the relation of price to supply and demand
is presented in the literature as a basis for identifying the conditions under which the
market requires intervention and when it is self-regulating. The best representative
of this category is Taqi al-Din Ahmad bin Abd al-Halim, known as Ibn Taimiyah
(1263–1328). In his work entitled The Hisba in Islam, he discusses the economic
role and functions of the state quite thoroughly. Promotion of socioeconomic justice
being the supreme goal, the state must secure a balance between private interests
and public pursuits. He argues the state must work toward such goals as the eradica-
tion of poverty, amelioration of gross income and wealth inequalities, regulation of
68 C.P. Baloglou
markets to minimize the adverse effects of market failures, and planning to provide
the necessary socioeconomic infrastructure, just and enforcement of the laws. He
discussed certain circumstances which might of the laws. He discussed certain
circumstances which might warrant price regulation and controls – specifi cally
when there are national emergencies.
263
According to him, prices refl ect market
conditions and price increases which result from a scarcity of goods or an excess in
demand that are caused by God. Since scarcity, which is the reason for rising prices,
is within the domain of God, he argued it would be unfair to penalize the merchant
by setting arbitrary prices. On the other hand, monopolization, the action of creating
an artifi cial scarcity in order to sell at a higher price, is by its nature an authoritarian
fi xing of price and against the welfare of the community.
264
The third category of Muslim economic literature deals with the economics of the
household, the Greek Oikos . The Muslim writers depended heavily upon the
Neopythagorean Bryson for guidance in this fi eld.
265
Bryson’s work
266
is extensively
quoted and commented upon in Arabic, but has been generally ignored by classicists.
In Mediterranean societies, the extended family in agriculture or in stock-raising was
the backbone of the economy. This functioning unit of production and consumption
took care of the primary needs of its members and provided surpluses that fed the
10–20% of the population in the military, political, and economic superstructure. In
a sense, this literature provides a microadministrative parallel to the “mirror of
princes” material. This phase of Arabic thought refl ects the direct Greek infl uence
most strongly and focuses on the fundamental agricultural and familiar aspects of
Mediterranean and Near Eastern society. The Muslim philosophers introduced as the
Greek concept of oikonomia the term falasifa , and oikonomia ( tadbir ) would be used
to designate management of the household (tadbir al-manzil), administration of gov-
ernment (tadbir al-mudum), and government of God on earth (tadbir al-alam).
267
A line of Muslim authors, such as Farabi (873–950) with his work Aphorisms of
the Statesman , Ibn Sina (Avicenna, 980–1037) with his Tadbir Manzel ( Household
Management ), Abu Hamid Al-Ghazali (Algazel, 1058–1111) with his Ihya Ulum
al- Deen,
268
Nasir Tusi (1201–1274), and Asaad Dawwani (1427–1501), copied
and elaborated in more or less detail the lost text of the Neopythagorean Bryson.
Some of them used nearly the whole text, while others copied long passages,
sometimes modifying them to bring the text into line with Arabic social reality or
with its ideological principles. The vicissitudes of Bryson’s treatise demonstrate, in
the realm of economic ideas, the inhospitable climate in Islam for the Greek heri-
tage. In the fi rst place, Bryson’s work did not give rise to new or original analysis.
263
Essid ( 1995 , pp. 155–157), Ghazanfar ( 2000 , pp. 16–17), and Ghazanfar (ed.) ( 2003 , pp. 53–71).
264
Essid ( 1987 , p. 82). See Kuran ( 1987 , pp. 103–114).
265
Essid ( 1992 , pp. 40–41) and Baloglou and Constantinidis ( 1996 , pp. 46–55).
266
See Plessner ( 1928 ) . Cf. Bouyges ( 1931 , pp. 259–260).
267
Essid ( 1995 ) .
268
He identifi es as part of one’s calling three reasons why one must pursue economic activities:
(a) self-suffi ciency, (b) the well-being of one’s family and (c) assisting others in need. Anything less
would be religiously “blameworthy.” Cf. Ghanzafar and Islahi (
1990 , p. 384) and Ghazanfar (ed.)
(
2003 , pp. 381–403).
69
2 The Tradition of Economic Thought in the Mediterranean World…
Second, his work was intended to explain the science of administration and
production within an economic unit, the Oikos, but his ideas were redirected by the
falasifa to support their own political theories. Beginning as a treatise on household
management, it was used as a reference for political economy. The Muslim authors,
by stressing the authoritarian structure of the household unit to reinforce their politi-
cal ideas, missed the opportunity to use Bryson’s work to enlarge their analytical
perspective on the economy. The reason for this is to be found in the fact that, up to
that time, political, ethical, and theological ideas in Islam had centered upon the
community of believers and not on the Oikos. In the non-Arabic Muslim world of
Persia, however, Bryson’s work fi tted into a long tradition of wisdom literature deal-
ing with practical daily life which was free of the authority of Arabic jurisprudence
(fi qh) and receptive to anything of Greek origin.
269
One characteristic example of an infl uence of the Greek thought on the Arabic
Muslim world is Farabi’s work. Drawing in the principles of the administration and
governance of the family household (tadbir) to develop a theory of the state, he
emphasized the similarities between personal rule in the household and that of the
ruler of the state. In this context, he followed Plato’s analysis in Politicus (Statesman).
Following Aristotle ( Politics , Book I), he analyzes in his Aphorisms of the Statesman
the four relations in the family household: husband and wife, master and slave, par-
ents and children, and owner and property. He who is asked to rule, arrange, and
manage all of the parts is the master of the household. He is called ruler and his
duties are like those of the ruler of the city. After Farabi, the Arab-Islamic authors
continued to follow the tradition of Plato’s and Aristotle’s works. This is evident in
Ibn Sina’s and Miskawayh’s work.
270
This tradition of the Arab-Islamic economic thought found its peak in Ibn
Khaldun’s work. He was both a distinguished jurist trained in traditional Islamic
beliefs and a man of action closely involved with the powerful men of that time.
Ibn Khaldun’s Economic Thought
Ibn Khaldun’s (1132–1406) Muqaddimah (3 vols., transl. from Arabic by Franz
Rosenthal, 1958)
271
is mainly a book of history. However, he elaborates a theory of
production, a theory of value, a theory of distribution, and a theory of cycles, which
constitutes the framework for his history.
272
269
Essid ( 1987 , pp. 84–86).
270
Cf. Baloglou ( 2004b ) .
271
I also used the Greek translation of Issawi’s work entitled An Arab Philosophy of History.
Selections from the Prolegomena of Ibn Khaldun of Tunis ( 1332–1406 ) (London 1955), Athens:
Kalvos, 1980 and the German translation in Schefold (
2000b , pp. 103–164).
272
For an evaluation and presentation of Ibn Khaldun’s economic thought see Bousquet ( 1955 )
quoted in Houmanidis (
1980 , p. 443, not. 6), Bousquet ( 1957 , pp. 6–23), Spengler ( 1964 ) , Andic
(
1965 ) , Boulakia ( 1971 ) , Haddad ( 1977 ) , Essid ( 1987 , pp. 89–92), Baeck ( 1990 , 1994 , 1996 , 1997 ,
pp. 3–19) , Schefold (
2000 b , pp. 5–20), and Essid ( 2000 , pp. 55–88).
70 C.P. Baloglou
The whole presentation of the Muslim economic thought satisfi es Spengler’s
statement –and he was one of the fi rst economist, who did analyze Khaldun’s thought
that “the knowledge of economic behavior in some Islamic circles was very great
indeed, and one must turn to the writings of those with access to this knowledge and
experience if one would know the actual state of Muslim economic knowledge . ”
273
According to Ibn Khaldun, two different kinds of social milieu have character-
ized human development, the “umran al-badouri (nomad civilization)” and the
“umran al-hadhari (urban civilization).” The difference between the two is based
upon their ma’ah, a synthesizing concept into which is woven both the means of
subsistence and the relationships between man and man, and man and nature. The
social group is made possible by the productive activities which provide man’s sub-
sistence: farming, animal breeding, hunting and fi shing, fabricating goods, and
exchanging products, all of which are encompassed by ma’achu . This conception of
ma’ach is central to Ibn Khaldun’s philosophy and comprehends the qualitative and
quantitative differences between a natural economy oriented toward the accumula-
tion of unnecessary goods, the eager pursuit of profi t, and a propensity for luxury.
This dichotomy is reminiscent of Aristotle’s distinction between oikonomia , the sci-
ence of the acquisition of wealth oriented toward the good of the community, and
chrematistics , the science of the unlimited accumulation of profi t. But whereas
Aristotle’s conception is static, Ibn Khaldun’s is a dynamic one. Aristotle pictured a
family unit in an ideal agrarian society, whereas Ibn Khaldun’s view encompassed
the totality of human society in its historical development. On the one hand, Ibn
Khaldun dealt with the art of managing the production and distribution of wealth,
while, on the other, he developed a realistic analysis of the successive phases in the
growth of human society. One can therefore understand why he had little regard for
the science of tadbir or oikonomia as a branch of practical philosophy, preferring
instead his science of society which had a historical dimension. When he drew on
juridical science or treatises on social relations, it was solely for the purpose of vali-
dating historical data or investigating the nature of society.
274
Ibn Khaldun has been called a pioneer economist and a pioneer social scien-
tist
275
; for in his economics we fi nd, among others, the emphasis upon production as
the source of wealth (Ibn Khaldun, The Muqaddimah , transl. by Franz Rosenthal,
vol. 2, pp. 272–274); an extensive analysis and description of the division of labor
(I. Khaldun, The Muqaddimah , vol. 2, p. 250); the beginnings of the labor theory of
value (I. Khaldun, The Muqaddimah , vol. 2, p. 289: “The profi t human beings make
is the value realized from their labour”); an analysis of supply and demand in deter-
mining prices (I. Khaldun, The Muqaddimah , vol. 2, p. 240); the view that precious
metals, like gold and silver, are mere metals – but not a source of wealth – which are
to be valued because of the relative stability in their prices and because of their
273
Spengler ( 1964 , p. 269).
274
Essid ( 1987 , pp. 90–93).
275
To give a few examples, see Andic ( 1965 , pp. 23–24), Boulakia ( 1971 , pp. 117–118), and
Haddad (
1977 , pp. 195–196).
71
2 The Tradition of Economic Thought in the Mediterranean World…
appropriateness as a medium of exchange and as storage of value (I. Khaldun, The
Muqaddimah , vol. 2, p. 274)
276
; and the argument that the more civilized the society,
the greater the importance of services (I. Khaldun, The Muqaddimah , vol. 2,
pp. 125–126). He is a pioneer in the sense that he found a new path, and far surpassed
his contemporaries, but he is not a pioneer in the western sense of the term, for he
had no followers, formed no school, and exercised no strong infl uence in his own
time or in the generation immediately succeeding him.
277
The state for Ibn Khaldun is an institution required by the nature of civilization
and human existence. It is also an important factor of production. By its spending,
it promotes production, and by its taxation, it discourages production. For Ibn
Khaldun, the spending side of public fi nance is extremely important. On the one
hand, some of the expenditures are necessary to economic activity. Without an
infrastructure set by the state, it is impossible to have a large population. Without
political stability and order, the producers have no incentive to produce. They
are afraid of losing their savings and their profi ts because of disorders and wars
(I. Khaldun, The Muqaddimah , vol. 2, p. 201).
On the other hand, the government performs a function on the demand side of the
market. By its demand, it promotes production: “The only reason for the wealth of the
cities is that the government is near them and pours its money into them, like the water
of a river that makes green everything around it, and fertilizes the soil adjacent to it,
while in the distance everything remains dry” (I. Khaldun, The Muqaddimah , vol. 2,
p. 251). If the government stops spending, a crisis must occur: “Thus, when the ruler
and his entourage stop spending, business slumps and commercial profi ts decline
because of the shortage of capital” (I. Khaldun, The Muqadimmah , vol. 2, p. 92).
The money spent by the government comes from the subjects through taxation.
The government can increase its expenditures only if it increases its taxes, but too
high a fi scal pressure discourages people from working. Consequently, there is a
fi scal cycle. The government levies small taxes and the subjects have high profi ts.
They are encouraged to work. But the needs of the government as well as the fi scal
pressure increase. The profi t of the producers and the merchants decreases, and they
lose their will to produce. Production decreases. But the government cannot reduce
its spending and its taxes. Consequently, the fi scal pressure increases. Finally, the
government is obliged to nationalize enterprises, because producers have no profi t
incentives to run them. Then, because of its fi nancial resources, the government
exercises an effect of domination on the market and eliminates the other producers,
who cannot compete with it. Profi t decreases, fi scal revenue decreases, and the gov-
ernment becomes poorer and is obliged to nationalize more enterprises. The produc-
tive people leave the country, and the civilization collapses (I. Khaldun, The
Muqaddimah , vol. 2, p. 80, 81, 83–85). Consequently, for Ibn Khaldun, there is a
276
I. Khaldun, The Muquaddimah , vol. 2, p. 274: “God created the two mineral ‘stones’, gold and
silver, as the measure of value for all capital accumulations. Gold and silver are what the inhabit-
ants of the world, by preference, consider treasure and property to consist of.”
277
Andic ( 1965 , p. 24).
72 C.P. Baloglou
fi scal optimum but also an irreversible mechanism which forces the government to
spend more and to levy more taxes, bringing about production cycles.
278
His approach to the taxation problem will be similar to the corresponding of
Georgios Gemistos-Plethon, who also recognized that heavy taxes discourage
people from working.
279
Ibn Khaldun discovered a great number of fundamental economic notions a few
centuries before their offi cial births. However, there is a tendency in the West not to
take into account the share of oriental thought in the history of modern social, political,
and economic thought, because of the enthusiasm to emphasize its European origins.
This gives rise to underestimation of some of the real founders of the subject.
Conclusions
The Mediterranean area is self-suffi cient even as regard the economic thought of the
people who live in the area. The ancient Greeks, who fi rst introduced the term
“oikonomia” and determined its content, brought forward critical economic matters,
such as value, the labor distribution, the internal division of labor, the just distribu-
tion of wealth, the private property, the money and its functions, and proposed
detailed studies. The Greeks did not create an autonomous Economic Science, nor
did they aim at doing so.
The expansion of the Hellenes to the East, as Alexander did, and the cosmopoli-
tan character of that expansion created new manners and customs in the eastern part
of the Mediterranean Sea, which as a consequence infl uenced extensively the eco-
nomic thought as well. Works of specifi c economic content and problematic will be
published. It is indicative that the representative work of this Age, the “Oeconomica,”
will become famous and will exercise a signifi cant infl uence on the Scholars of the
Renaissance and to the Cameralists.
The patristic thought of the Eastern Fathers focused on the problem of the right
distribution of wealth. For that reason, their thought was not in favor of interest
profi ts, in pursuance of the Greek view on the matter. Byzantium, which created political
theology rather than political philosophy, does not seem to have created such pre-
requisities that would favor the development of an independent economic science.
On the other hand, Byzance did not aim to do so, and such economic problems that
appeared during the Middle Ages in the West did not appear.
In respect to the Arab world, the ancient Greek Philosophy did help in that it
contributed to the elaboration of their doctrines when comparing their religious
beliefs to those of the Christian World. The internal relevance of the Islamic World
to the Ancient Greek Philosophy can be further proved when one notices that,
through studying the Greek philosophy, the Arabs were led to such mysticism as
278
Boulakia ( 1971 , p. 1117).
279
For a comparison between the economic thought of these scholars see Baloglou ( 2002b ) .
73
2 The Tradition of Economic Thought in the Mediterranean World…
prevailed in the Byzantine World. The Islamic way of thinking as regard the
problematic of “Oikos” and its relevance to the “Politeia” is quite evident.
The Mediterranean Sea, where most of the civilizations were born, was the basis
of development of such conditions that permitted people to deal with the economic
phenomena, which the modern economic thought deals with even in our time .
Appendix
This table shows the relation of the authors who lived in the Mediterranean and the
evolution of their works.
Year Name Works
ca. 700 bc Hesiod Works and days (Hesiod)
638 bc *Solon
ca. 600 bc *Semonides of Keos
594/3 bc Seisachtheia (Solon)
559 bc Solon+
470/460 bc *Democritus
469 bc *Socrates
450 bc *Antisthenes
436 bc *Isocrates
430 bc *Xenophon
428/7 bc *Plato
415 bc *Diogenes the Cynic
399 bc Socrates+
393–91 bc Trapezitikos (Isocrates)
390 bc Democritus+
384 bc *Aristotle
*Xenocrates
380 bc *Theopomp Politeia (Plato)
Oikonomikos (Xenophon)
Panegyricus (Isocrates)
372 bc *Theophrastus
370 bc Antisthenes+
355 bc Xenophon+ Poroi (Xenophon)
On Peace (Isocrates)
354 bc Areopagiticus (Isocrates)
348 bc Plato+ Nomoi (Plato)
341 *Epicurus
338 bc Isocrates+
335/323 bc Politics; Nicomachean
Ethics (Aristotle)
334 *Zeno of Citium
323 bc Aristotle+
(continued)
74 C.P. Baloglou
Year Name Works
Diogenes the Cynic+
314 bc Xenocrates+
314/01 bc Politeia (Zeno)
300 bc Theopomp+
290/80 bc Hiera Anagraphe (Euhemerus)
287 bc Theophrastus+
281 bc *Chryssipus Kyriai Doxai (Epicurus)
270/69 bc Epicurus+
264 bc Zeno of Citium+
250 bc Cercidas of Megalopolis; his plea for social
justice
234 bc *Cato
233 bc Cleanthes+
208 bc Chryssipus+
Third century bc Sun State (Iambulus)
154 bc De agricultura (Cato)
149 bc Cato+
116 bc *Varro
110 bc *Philodemus
106 bc *Cicero
94 bc *Lucretius
60–55 bc Peri oikonomias (Philodemus)
56 bc De Rerum Natura (Lucretius)
55 bc Lucretius+
ca. 54–51 bc De re publica (Cicero)
44 bc De offi ciis (Cicero)
43 bc Cicero+
40 bc Philodemus+
37 bc Rerum rusticarum libri III (Varro)
30 bc *Philo Iudaeus
27 bc Varro+
ca. 5 bc *Seneca
23–24 ad *Gaius Plinius the Older
ca. 35 ad Beginning of the missionary work of St. Paul,
which lasted for the 30 years down to his
death about 64 ad ; composition of his
Epistles during these years
40 ad *Dio of Chrysostom
45 ad Philo Iudaeus+
50 ad *Plutarch
58/59 ad De vita beata (Seneca)
65 ad Seneca+
77 Historia naturalis (Gaius Plinius the Older)
79 Gaius Plinius the Older+
98–104 Four discourses
On Kingship (Dio of Chrysostom)
(continued)
(continued)
75
2 The Tradition of Economic Thought in the Mediterranean World…
Year Name Works
100 Euboean oration (Dio of Chrysostom)
End of the fi rst
beginning of
the second
century ad
Epictetus
112 Dio of Chrysostom+
120 Plutarch+
121 *Marcus Aurelius
ca. 125 *Maximus of Tyros
150 *Clement of Alexandreia
ca. 150–185 Dialexeis (Maximus of Tyros)
ca. 172–180 Ta eis heauton (Marcus Aurelius)
180 Marcus Aurelius+
185 *Origenes
195 Maximus of Tyros+
ca. 190–200 On the Salvation of the Rich Man (Clement of
Alexandreia)
217 Clement of Alexandreia+
ca. 220–230 Peri Archon (On the Principles) (Origenes)
ca. 246–248 Kata Kelsu (Against Celsus) (Origenes)
253/4 Origenes+
317 *Themistius
330 *Basileios
ca. 335 *Gregorius of Nyssa
354 *Augustinus
364 Speech on Kingship (Themistius)
373 *Synesius of Cyrene
Before 379 Ascetica; Hexaemeron (Basileios)
379 *Basileios+
ca. 380–383 Kata Eunomiu (Gregorius of Nyssa)
385 Logos katechetikos ho megas (Gregorius of
Nyssa)
385/90 Themistius+
394 Gregorius of Nyssa+ On Kingship (Synesius of Cyrene)
ca. 400 Confessiones (Augustinus)
ca. 413–426 De civitate Dei (Augustinus)
414 Synesius of Cyrene+
430 Augustinus+
ca. 530 Ekthesis Kephalaion parainetikon…pros
basilea (Agapetus Diakonus)
570 *Isidor of Sevilla
ca. 625–636 Etymologiarum sive originum libri XX (Isidor
of Sevilla)
636 Isidor of Sevilla+
675 *Johannes of Damascus
731 *Abu Youssef Ya’coub
ca. 742–749 Pege gnoseos (Joh. of Damaskus)
(continued)
(
continued
)
76 C.P. Baloglou
Year Name Works
749 Johannes of Damaskus+
780 Kitab-al-Kharaj (Book of Taxation) (Ya’coub)
798 Ya’coub+
800 Al-Kindi
ca. 845/850 *Isaac ben Salomon Israeli
873 *Al-Farabi (Alfarabius)
Before 873 Fi’l-’aql (Al-Kindi)
873 Al-Kindi+
940/950 Kitabal-Hudud war-rusum (Israeli)
940–950 Isaac ben Salomon Israeli+
ca. 941–950 Mabadi’ ara’ahl ad-madina al fadila
(Al-Farabi)
950 Al-Farabi+
980 *Ibn Sina (Avicenna)
1018 *Michael Psellus
Before 1037 Tabbir Manzel (Household Management)
(Avicenna)
1037 Avicenna+
1058 *Abu Hamid Al-Ghazali
(Algazel)
1078 Michael Psellus+
1079 *Abaelardus
1070–1081 Strategicon (Kekaumenos)
1080–1090 Ihya Ulum al-Deen (Algazel)
1095 *Petrus Lombardus
1100 Instituto Regia (Theophylact archbishop of
Bulgaria)
1111 Al-Ghazali+
1118–1140 Dialectica; Ethica seu liber dictus scito te
ipsum, Sic et non (Abaelardus)
1126 *Ibn Rushd (Averroes)
1142 Abaelardus+
ca. 1150/52 Libri quattuor sententiarum (Petrus
Lombardus)
1160 Petrus Lombardus+
1180 Tahafut-at-tahafut (Averroes)
1197 *N. Blemmydes
1198 Averroes+
1201 *Nasir Tusi
1206/07 *Albertus Magnus
1221 *Bonaventura
1225 *Thomas Aquinas
1254 Adrias Basilikos (N. Blemmydes)
1263 *Ibn Taymiyya
1266 *Duns Scotus
1267–1273 Summa Theologiae (Thomas Aquinas)
1270–1280 Summa Theologiae (Albertus Magnus)
(continued)
(co
n
t
in
ued)
77
2 The Tradition of Economic Thought in the Mediterranean World…
Year Name Works
1272 Nikephorus Blemmydes+
1273 Collationes in hexaemeron (Bonaventura)
1274 Nasir Tusi+
Thomas Aquinas+
Bonaventura+
1275 *Thomas Magister
1280 Albertus Magnus+
1285 *Wilhelm von Occam
ca. 1300 Quastiones subtilissimae super libros
Metaphysicorum Aristotelis (Duns Scotus)
ca. 1300–1308 Ordinatio (Duns Scotus)
The Hisba in Islam (Ibn Taymiyya)
1308 Duns Scotus+
ca. 1317–1324 Scriptum in librum primum sententiarum,
Summa totius logicae (Wilhelm von Occam)
1320 *Wyclif
ca. 1320–1325 *Nicolaus Oresmius
1324–1328 Peri basileias (De Regis Offi ciis) (Th. Magister)
Peri politeias (Th. Magister)
(De Subditorum Offi ciis)
1328 Ibn Taymiyya+
1332 *Ibn Khaldun
1349 Wilhelm von Occam+
1350 Thomas Magister+
1355? *Georgios Gemistos-
Plethon
1370 *Leonardo Bruni Tactatus de origine, natura, jure et mutationi-
bus monetarum; Aristotelis Politica et
Oeconomica; Decem libri ethicorum
Aristotelis (Oresmius)
1376/77 De civili dominio (Wyclif)
1377 Muqaddimah (I. Khaldun)
1377–1382 Kitab al-‘Ibar (I. Khaldun)
1382 N. Oresmius+
1384 Wyclif+
1396 *Georgius of Trapezus
1401 *Nicolaus of Kues
1403 *Bessarion
1404 *Leon Battista Alberti
1406 Ibn Khaldun+
1416 Advice to despot of the Peloponnese Theodor
II (Gemistos)
1418 To Manuel Palaeologus, on affairs in the
Peloponnese (Gemistos)
1420/21 Commentaries on “Oeconomica” (L. Bruni)
1438/39 On the Laws (Gemistos)
(continued)
(continued)
78 C.P. Baloglou
Year Name Works
1440 De docta ignorantia (N. of Kues)
1440–1444 De coniecturis (N. of Kues)
1442–1444 Trattato del governo della famiglia (Alberti)
1444 Leonardo Bruni+ Letter to Constantine, Despot of Peloponnese
(Bessarion)
1452 Georgios Gemistos-
Plethon+
1455 Comparationes philosophorum Aristotelis et
Platonis (Georgius of Trapezus)
1464 Nicolaus of Kues+
1466/69 *Erasmus of Rotterdam
1460 *Machiavelli
1472 Leon Battista Alberti+
Bessarion+
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93JG B kh ( d) HdbkfhHi fE iTh h
Introduction
In a narrow sense mercantilism describes the pattern of economic policy of the
European states in the times of absolutism.
1
In a broader sense it means (a) an epoch
of economic history, (b) an economic doctrine, and (c) a general pattern of eco-
nomic policy (Schefold
1997 , p. 163). It stretches over the seventeenth and eigh-
teenth century, especially in England, but also in France (Colbert [1661–1683])
where it was defi nitely superseded by the physiocratic movement in the middle of
the eighteenth century and declined already after the death of Louis XIV in 1715.
To describe the epoch of mercantilism as stretching from the late Middle Ages in the
fourteenth to the rise of liberalism in the eighteenth century (Heckscher
1932 ) seems
too broad. In Germany, mercantilism began in 1668 with J.J. Bechers’ Politischen
Discurs . In England, mercantilism fi rst appeared in Misselden’s critique of the bul-
lionist Malynes (1586–1641) after 1623 (see also Mun’s long critique in 1911,
Chap. 14 ). A. Smith’s Wealth of Nations , fi rst published in 1776, included an ardent
critique of mercantilism and announced the ascendance of the capitalist entrepre-
neur and the supremacy of production over trade and the suspicion against the pater-
nalistic state in liberalism. J. Steuart’s An inquiry into the principles of political
economy , fi rst published in 1767, is the most remarkable and consistent but also the
last major theoretical contribution of mercantilist thought.
Mercantilism refl ects the problems of the seventeenth and eighteenth centuries:
the strong gold imports to Europe, the quantitative increase and geographical
enlargement of trade with the colonies, the war of 30 years and the ensuing contractive
H. Peukert (*)
Faculty of the Sciences of the State/Economics, Law and Social Science ,
Nordhäuser Str. 63 , 99089 Erfurt , Germany
e-mail: [email protected]
Chapter 3
Mercantilism
Helge Peukert
1
Blaich ( 1988 , p. 35); see the earlier contributions by Cannan ( 1929 ) , Johnson ( 1937 ) , Eckert
(
1949 ) , Minchinton ( 1969 ) , and the more recent collection of articles in Blaug ( 1991a, b ) .
94 H. Peukert
consequences on population and production, the demands by merchants and traders
for more support and/or liberty by the sovereign, the scientifi c revolution, the birth
of a national economy, and the ascendancy of individual self-interest and an autono-
mous goal-oriented means-ends-rationality as an impact of the Renaissance and the
Reformation (Schmidt
1994 , pp. 38–39). Society at large was seen more and more
as a common commercial company.
“One of the main factors in this transformation process was the fl ow of gold from
the Americas. The prices in Europe tripled from 1500 to 1650. The social conse-
quences were enormous. On the one hand, there was a gradual impoverishment of
those classes, aristocrats and clerical, who lived on incomes which, being fi xed by
custom, adjusted extremely slowly to the fall in the value of money. On the other
hand, there was an unprecedented enrichment of the mercantile class, who lived on
‘profi ts upon alienation’ … the identifi cation of the interests of one particular social
class, the merchant class, with those of the collectivity, was extremely important”
(Screpanti and Zamagni
1995 , pp. 19 and 26). The expansion of trade promoted the
fi gure of the merchant-manufacturer. “Already by the end of the sixteenth century
the craft model of production, where the craftsman was the owner of his tools and
workshop and worked as a small independent businessman, had begun to be
replaced, in the export sector, by a system of working at home, the ‘putting-out’
system” (Screpanti and Zamagni
1995 , p. 19).
The aforementioned materialistic basic attitude which also characterizes mercan-
tilism was very modern. In the endeavour to promote growth in non-industrialized
countries, it was less modern and may serve as a positive prescription for develop-
mental strategies of the NICs or as a horrible example of the so-called neo-mercantilism
(protectionism and intensive state interventions especially what foreign trade is
concerned).
From a free-market background neo-mercantilism must be rejected, but espe-
cially before the Asian crisis the dynamic and active intervening state in some Asian
countries like South Korea has been seen by many as an alternative model of suc-
cessful development in recent times. Another view of neo-mercantilism (Niehans
1945 ) stresses the raison d ’ état as the main element which leads to the principle of
the increase of power, étatisme , a hostile trade policy and fi nally the willingness to
start a war; mercantilism is then an essential driving force for the breakdown of the
interwar economies and societies and a constitutive element of the Italian and
German totalitarian systems after 1933 (see Raab
1932 as an example). J. Robinson
(
1966 ) argued that neo-mercantilism began after 1914 but that mercantilist thought
can also be identifi ed in the economic policies after 1945.
2
In fact, the theoretical contributions of original early mercantilism never reached
the unity of later economic theories like for example the classics or physiocracy.
2
See the interpretation of the American Export Enhancement Program as a mercantilist approach
to the US farm trade policy in Libby (
1992 ) , and for the mercantilist character of EU industrial
policy Feldmann (
1994 ) ; for the international context Pfaller ( 1986 ) and Strange ( 1985 ) , for the
developmental debate Lange (
1995 ) , on early mercantilist policy Schaefer ( 1993 ) ; see also Phillips
(
1992 ) , Schweizer ( 1996 ) , and Wolf ( 1995 ) .
95
3 Mercantilism
Mercantilism neither comprised an elaborate and unifi ed theory nor was an easily
identifi able movement of economic policy. Therefore, some scholars have con-
cluded that “mercantilism was not a logical system. It may even plausibly be argued
that, unlike scholasticism, the much vaunted mercantile system was not a system at
all” (DeRoover
1955 , p. 185). Blaug states “(t)hey had neither agreed principles nor
common analytical tools” (
1997 , p. 10). In our view
3
it is nevertheless justifi ed to
speak of mercantilism as a separate and identifi able paradigm which is evidently
visible in debates and dialogues with common assumptions and questions because
at least some of their authors formulated insights and hypotheses on economic inter-
dependencies and gave characteristic prescriptions for practical policy from a
staatswissenschaftlichen background. The long-run aim was to increase the produc-
tive potential of countries so that it is correct to identify mercantilism as a doctrine
of economic thought which is not only a doctrine of the past but also an interpreta-
ble pattern for recent practical economic policies.
4
Main Economic Assumptions, Ideas, and Economic Policy
Proposals of Mercantilism
In the following we will give an overview on mercantilism which is broadly in
accordance with the basic assertions in the textbooks on economic history and on
the history of economic thought (see, e.g. Bürgin
1961 and Saitzew 1941 ) . Later we
will see in how far this general picture of mercantilism is justifi ed, or not.
Mercantilism views the economy from the perspective of an active state and its
sovereign and forms the viewpoint of merchant capitalists. The essential assump-
tion of mercantilism is an economy with unemployed resources. An increase of
demand leads to the use of idle productive capital, land, or workers and increases
GDP with no necessary effect on the price level. An increase of the money supply
or its velocity – at that time in the form of precious metals – can induce growth with
no infl ationary side effects. Often, growth was not seen as conducive for higher
consumption levels and general welfare per head (A. Smith’s argument), but higher
levels of employment and output were often seen as functional to make the country
independent of the import of manufactured goods and strengthen the (military)
power of the sovereign. But power and plenty were usually regarded as distinct
aims, each valuable for its own sake ( Viner
1996 ) .
5
The opposite, a decrease in the
velocity of money and the piling up of metals as a treasure (hoarding, which was a
3
For the early debate see Coleman ( 1969 ) , and the overview in Blaich ( 1973 , pp. 1–10, and the
literature on pp. 30–31).
4
See also Salin ( 1944 , pp. 55–74); on functional fi nance ideas in mercantilism see Schulz ( 1987 ,
Chap. 5).
5
For us, it is an open question in how far the link between a growth perspective and the indepen-
dence view is typical for most mercantilists.
96 H. Peukert
real and important phenomenon at the time) and the contractive consequences were
also taken into consideration.
6
Money should therefore always be in circulation even
if it is spent for luxury goods by the rich. But these goods should consequently not
be imported.
7
Besides money and employment, some mercantilists put great emphasis on the
theorem of an active balance of trade (see the sympathetic reconstruction in Chipman
1993 ) . In the literature (even by A. Smith, as we will see) the view of the mercantilists
is sometimes confused with the approach of the bullionists or monetarists, a group
of economists in the fi fteenth and sixteenth century who held the view that the sum
of precious metals (coins and bullion) in the country is the indicator of economic
well-being and wealth. Every economic transaction which was accompanied by an
outfl ow of money was thus considered detrimental. (Consequently applied by all
nations, this necessarily leads to autarky.) The ideal is a passively held large hoarded
treasure.
The fi rst important debate where mercantilist ideas had been developed was
Misselden’s critique
8
of Malynes’ view that the main causes of a disequilibrium in
the balance of trade are due to changes in the exchange rate. If the exchange rate is
higher than the metal parity, an outfl ow of precious metals takes place which will
diminish the amount of money in circulation in the home country. The reduced
prices worsen the terms of trade, the trade defi cit increases. All this only happened
as a consequence of more or less illegal monetary manipulations according to
Malynes’ A treatise of the canker of England ’ s Commonwealth (London, 1603). By
contrast, Misselden developed the idea that the defi cit or surplus of the balance of
trade lets the rate of exchange vary, so that the state should not be concerned with
the exchange rate but fi ght the defi cit by encouraging exports (see his The circle of
commerce , London, 1623).
Like his precursor Misselden, the English mercantilist T. Mun (1571–1641, see
below) also had a slightly different starting point in this respect (for the economic
background of his time see Hinton
1991 ) . In his view the overall result of the trans-
actions of foreign trade should be taken into consideration. Wealth is measured as
the amount of profi ts which can be gained by the active investment of money capital.
A passive balance of trade with one country (e.g. India) may be due to the import of
raw materials. This makes possible the production of manufactured goods. They
may be sold with high profi t and value-added to other countries (e.g. products of the
textile industry can be sold to the Dutch). The overall result is a higher active balance
of trade compared with the situation without the import of the raw materials from
India (we will leave out here his inclusion of the capital balance). The practical
economic policy conclusions are to prevent the import of fi nished goods. The import
6
For example by the most important German mercantilists J.J. Becher [1635–1682] and J.H.G.
Justi [1717–1771].
7
A summary of the practical realization of these and the following principles in different European
countries is given in Blaich (
1973 , pp. 112–199).
8
[1608–1654]. He was a deputy-governor of the Merchant Adventurers’ Company.
97
3 Mercantilism
of raw materials and the export of fi nished goods should be encouraged. The raw
materials of the country itself should not at all be exported. The instruments to
enforce these prescriptions were manifold: the fi xing of import quotas, simple pro-
hibition and high tariffs (as we saw, the reasons were not primarily optimal tariff or
infant industry arguments); further the granting of production and trading monopo-
lies, the payment of subsidies, tax privileges, etc. (see for the interpretation of their
view of international trade Rima
1993 ) .
Also more specifi c political means and even a trade war have not been out of the
spectrum of conceivable measures. This has to do with a (often more implicit) zero-
sum assumption: a gain of one country is necessarily the loss of another country.
Mercantilists were nationalists, their concern was not the wealth of nations (but
remember also A. Smith’s positive attitude vis-à-vis the navigation act) but only the
wealth of their nation. The riches of the earth (raw materials and precious metals)
are constant so that the wealth of nations depends on the distribution of the riches
which are defi nitely limited in quantity. It has often been pointed out that this view-
point – which is in exact opposition to the classical view of the positive-sum game
of international trade – was not the expression of unreasonable pessimism but due
to the facts of the competitive nation-building process and the background of a more
static and pre-industrial economic structure without major technical progress, so
that the limited natural endowments played a major role.
Besides foreign trade, the mercantilists also analysed the intranational economic
situation and they formulated proposals to enhance economic performance. One
aspect was their opting for a low wage level. If a positive balance of trade, that is,
the role of exports of fi nished goods, is a key issue and the importance of productive
capital is low (as it was, e.g. in the textile industry), low wages are important for the
international competitiveness of the products of a nation’s industry. The most natu-
ral way to hold wages down and increase production is to actively support the
growth of the population by making emigration diffi cult and supporting immigra-
tion, early marriage, etc. (for the drastic measures see Nussbaumer
1991 , pp. 31–33).
Another target was the fi ght against a non-commercial mentality of the labour
classes (leisure attitude and a back bending supply curve for labour). Therefore, the
state fought against the blue Mondays, the many religious and other holidays, but
also against the poor laws and charitable institutions to force people to work. They
established compulsory work institutions like workhouses against the work dodgers.
Another component was to improve human capital by the establishing of a rudimen-
tary educational system with a practical orientation and efforts to improve the infra-
structure (roads, canals, etc.).
A lot of other subjects have been treated by the mercantilists. An important ques-
tion was how to increase the wealth of the sovereign without impeding the growth
of the economy. This led to fi rst refl ections on the principles of taxation in the eigh-
teenth century (this was also a topic for the German cameralists like J. Sonnenfels
[1733–1817], see the reprint
1994 ) . Justi formulated some principles of the limits of
taxation, for example the principle that the substance of property and wealth should
not be taxed away, the principle of equality (the taxes should be in proportion to the
property of the taxpayer), and non-movable goods and property should be taxed
98 H. Peukert
(capital fl ight of the movable capital), accompanied by a personal tax for those who
do not own movable capital (according to the principle of the ability to afford).
First Example: T. Mun’s England’s Treasure
by Forraign Trade (
1664 )
The tract, which was probably written in 1630, is dedicated by Mun’s son – who
published the pamphlet – to the duke of Southampton (see the introduction by
R. Biach in Mun
1911 , pp. 7–98). The aim of the book is to take care of the treasure
and income of the duke, as the title and the subtitle “The Ballance of our forraign
trade is the rule of our treasure” indicate (for the economic situation of England in
Mun’s time see Conquest
1996 , and Blitz 1991 ) . The text is 100 pages long and has
21 chapters. In the preface to his son, the aim of the tract is defi ned to show the tasks
and obligations for a good citizen who should love his country. The protection and
enlargement of the state depends on the provisioning of the sovereign with gold.
The provisioning of the country with gold is the duty of the merchants (1911, p. 105).
The fi rst chapter enumerates the qualities of an able merchant: he must have knowl-
edge of the quality of products, of weights, calculation, writing, foreign languages,
etc. He is the custodian of the (money) capital of the entire kingdom and the benefi t
of the merchant should be in accordance with the common good. The ideal mer-
chant accumulates capital and pursues a decent style of living. We see that Mun
already held the ideal of the thrifty, rich, and diligent bourgeois. A good merchant
always tries to increase property and wealth and never engages in conspicuous con-
sumption (1911, p. 110). The chapter shows the bias in favour of the merchants, the
pretended fact of the usual interlocking of private and public interests. The book
also contains practical policy for the merchant class: everything good is brought
about by the “enigma of trade” (1911, p. 109), the infl uence and opinions of the
merchants should not be neglected.
In the following, the book has a rather unsystematic starting point in Chap 2 . He
states right at the beginning that foreign trade is the only way to increase the posses-
sion of precious metals. The principle should be that in every year the exports exceed
the imports (1911, p. 110). Mun only states this equation, he does not argue why the
infl ow of metals should be the major concern of economic policy. The wealth of
England depends on the precious metals and they depend on an active trade balance.
Consequently, Chap. 3 discusses the means and ways to increase the exports and
how to reduce the consumption of imports. The cultivation of fallow land could
reduce the import of raw materials. It could also be forbidden to import luxury
goods. Luxury goods produced in the country may also employ the poor and encour-
age production (1911, p. 176). The export should be concentrated on goods with an
inelastic foreign demand (1911, pp. 112–113).
We can already fi nd a rudimentary theory of value in Mun. Value depends on
rarity and utility, profi t originates from trade as the difference between the selling
and the buying price. Referring to Barbon who more explicitly theorized on value,
99
3 Mercantilism
Screpanti and Zamagni summarize: “First, the natural value of goods is simply
represented by their market price. Second, the forces of supply and demand deter-
mine the market price. Finally, the use value is the main factor on which the market
price depends. The conditions of supply play a role only in the sense that, given the
demand, the price tends to rise when the supply is insuffi cient and vice versa” (1995,
p. 34). The goods should be shipped by the nation’s own ships, so that freight and
insurance costs would accrue to the nation itself. The consumption of foreign goods
should be highly taxed. The exports of manufactured goods should be exported
without any tariffs, so that many unemployed could fi nd work.
Mun asserts that where the population is plenty and the crafts are excellent, trade
develops and the country will become rich (1911, p. 120). We see here a combina-
tion of two separate aspects which are brought together in Mun’s thought: the idea
of the richness in precious metals as an indicator of wealth (exchange-surplus con-
cept) and the idea of an increase of output and production by the enlargement of the
labour force and productive investments (productivity concept). More important for
Mun is the exchange-surplus aspect because in Chap. 4 he reiterates that an export
of money to buy raw materials which are then manufactured and exported is the best
way to increase the net infl ow of gold (1911, pp. 121ff.).
But Mun also transcends the active balance of trade idea. He gives two further
reasons for the export of gold (1911, pp. 125–126). One reason is that increased
goods exports and gold imports would necessarily and constantly increase the price
level. This is the basic implication of the quantity theory of money, foreshadowed
by Bodin (1530–1596). Later mercantilists also accepted the quantity theory. But as
a reaction to the long period of depression in and after the second half of the seven-
teenth century – which depended in their (correct) view on the reduced infl ow of
gold and silver from the Americas – defl ation and not infl ation was their concern.
Consequently, they held the view that money stimulates trade in an economy with
idle resources. This infl uences the level of transactions and not (primarily) the price
level.
But he also holds that the constant increase of money is detrimental for society
at large because it ultimately increases the price of the export goods so that the
exports must diminish. Therefore, the gold surplus must always be reinvested
abroad. We see that Hume’s criticism of mercantilism in his Political Discourses in
1752 (existence of the price-specie-fl ow mechanism) had already been known more
than 100 years earlier by the fi rst notable mercantilist. Compare this fact with
Blaug’s statement that “(t)he mercantilists did not take account of Hume’s self-
regulating specie-fl ow mechanism” (1997, p. 19, compare p. 13 on Mun; see also
Blaug’s naive introduction in Blaug
1991b ) .
Mun combines this insight with the idea that a progressive movement of produc-
tion/wealth/exchange/imports and exports does only work if there exists a certain
mutual balance also between countries. The export of (indispensable) goods and the
demand of the foreign country for the imported goods must balance. Buying and
selling must take place in both countries. Rhetorically, he asks if we keep the gold
in the confi nes of the home country, will the foreign countries be motivated and
able to increase their demand of our fi nished goods? His answer is a defi nitive no
100 H. Peukert
(1911, p. 125); he later also mentions the problem of retaliation (1911, p. 176). In
these passages, Mun evidently foreshadows Smith’s view of the benefi cial mutual
benefi ts of (increasing) international trade and the division of labour.
9
“Since hence
here trade does not thrive by itself and certainly not if you hold back bullion right
back into the empire, here as you see as our ware has been continually well priced,
and hence supply and demand fi nd its wonderful equilibrium” (1911, p. 125; J.
Backhaus’ translation). Mun even debunks the view that only gold is real wealth.
Instead, he states that a person who owns a stock of goods can change it into gold if
it pleases him. People who own goods need no gold. For Mun it is not an evident
fact that gold is the vital power of trade because trade can also exist without gold.
He gives the example of Italy where exchange of merchants is mediated by credit,
bills of exchange, and promissory notes. In an earlier tract he stated already that
“industry to increase, and frugality to maintain, are the true watchmen of a king-
dom’s treasury” (
1968 , p. 2).
10
In Mun, four different ideas intermingle, the idea of a dynamic productive
enhancement, the merchant idea of profi t upon (foreign) alienation, the idea of an
active trade balance, and the idea of mutually benefi cial international trade (and
division of labour). These ideas are not all compatible with each other, especially
the active trade balance and the mutual international trade idea. This can be under-
stood as the intermingling of more modern trade conditions with the resound of
bullionism, combined with the search for a class compromise between the absolutist
sovereign and the ascending merchant class. Mun’s own self- or class interest as a
member of the board of directors of the East-Indian Company since 1615 is espe-
cially evident in his defence of the company’s activities (see Mun
1968 , fi rst pub-
lished 1621). The British company was founded in 1600, the Dutch as the major
rival in 1602.
11
The strategic aspect is also obvious in Chap. 5 where he argues that
the land owners should have an interest in intensive foreign trade because an infl ow
of gold and greater demand for land by the merchants guarantees higher prices for
their land (1911, pp. 129–131).
Chapter 6 of Mun’s book discusses the special situation of Spain (1911, pp.
131–135). It came as a great surprise to the contemporaries that in the seventeenth
century Spain with its massive metal imports impoverished and even had to use copper
as money, whereas the Dutch as a small country with no important natural endow-
ments and gold and silver production prospered, they had no gold and silver short-
age, but a low interest rate and a strong fl eet and military position. This paradox
caused many writers of the time to think about the more or less hidden causes for
power and prosperity. Chapter 6 highlights the historical background which explains
9
It is not surprising that Heckscher saw a certain contradiction in the mercantilist’s writings in this
respect (
1932 , II, p. 291).
1 0
Compare this with Blaug’s statement that “(m)oney was falsely equated with capital … almost all
mercantilist writers entertained the illusion that money is somehow nervus rerum ” (
1997 , p. 11).
11
For the broad historical background see Koehn ( 1994 ) , a theoretical model is offered by Irwin
(
1991 ) .
101
3 Mercantilism
the time-bound combination of the different mercantilist basic ideas mentioned
above. As mentioned, Spain had a shortage of gold in the country which depressed
commerce in Spain, which was also often engaged in wars (a fact which Mun
strongly criticizes, wars are detrimental to everybody in his view). Foreign countries
like England only got metals and money by means of an export surplus (for the
economic logic of this constellation see Dales 1991 ) . In Chap. 8 Mun explains that
gold is the general international measure of value and that manipulations of the gold
content have only negative side effects. In Chap. 15 he defends interest for loans as
benefi cial for an exchange economy (1911, p. 174).
Chapter 16 deals with the delicate question of the sovereign’s share of the eco-
nomic product which should not oppress or discriminate against the subjects (1911,
p. 177). Mun tries to harmonize, and he states that high taxes are no great burden for
the citizens because the price for labour will rise accordingly. The income of the
sovereign is usually also spent in favour of the community. But a wise prince will
let the citizens become rich and satisfi ed so that they will love the prince, and sup-
port the kingdom in times of danger. Therefore, he should only impose moderate
taxes (1911, p. 181) which are enough to build up a reserve for emergencies. The
prince should also not be too wealthy because this makes him imprudent (1911,
p. 183). The best form of government is elucidated absolutism with a parliament
where the nobles and the people can utter their opinions but where the prince can
take the fi nal decisions in the interest of all (1911, p. 184). At the end he warns that
wealth and power make a people lazy and depraved, poverty and modest living
conditions keep them energetic (1911, p. 193). Finally, he restates that an active
balance of trade is an honourable trade which assures a high income for the king,
elegant activities for the merchant, an education for the crafts, a satisfaction of all
needs, a progress for the land owners, a protective belt for the empire, a source for
material wealth, and a great help in times of war (1911, p. 210).
The Theoretical Deep Structure of the Mercantile Approach
To understand the theoretical deep structure of the mercantile literature, we have to
make an abstraction from the special topics under discussion and move to the basics
of how the economy can be analysed. Following Rutherford (
1996 ) , economic anal-
ysis and theorizing faces “some general problems inherent in any attempt to deal
with institutions” (1996, p. IX). The problems can be formulated as trade-offs
between fi ve complementary but dichotomous research strategies and perspectives:
formalism vs. anti-formalism, individualism vs. holism, rationality vs. rule follow-
ing, evolution vs. design, and effi ciency vs. reform. A more formal-mathematical
proceeding for example has analytical rigor, but there is a trade-off between rigor
and relevance (see the discussion in Wehner
1995 ) . The dichotomies mean in detail:
“i. The role of formal theoretical modelling as opposed to less formal methods, includ-
ing historical and ‘literary’ approaches. ii. The emphasis to be placed on individual
behaviour leading to social institutions as opposed to the effect of social institutions
102 H. Peukert
in moulding individual behaviour. iii. The validity of rationalist explanations as
opposed to those that place limits on the applicability of rationalist conceptions.
iv. The extent to which institutions are the result of spontaneous or invisible-hand
processes as opposed to deliberate design. v. The basis on which normative judge-
ments can be made, and the appropriate role of government intervention in the econ-
omy” (Rutherford 1996 , p. 174).
We can ask now in how far the mercantilist literature deviates from the present
mainstream of (neoclassical) economics. (Let us note that the decision to argue or
analyse from the left or right side of the fi ve dichotomous horns is not equivalent to
the theoretical/non-theoretical distinction.) On the one hand, neoclassical econom-
ics and for example new institutionalism emphasize more formalist techniques, that
individuals create institutions, rational action, spontaneous processes, individualis-
tic normative criteria, and a limited role for the government. By contrast and as a
fi rst approximation, mercantilists and for example old institutionalists on the other
hand stress non-formal techniques, institutions which mould individuals, habits and
social norms, collective choice, and social normative criteria and a larger role for the
government. But this distinction is in a certain sense not really a correct approxima-
tion. A closer analysis shows a more complex picture. This has to do with the fact
that in real economic life phenomena which are typical for one or the other dichoto-
mous horn are apparent; their relative importance may also change in history (com-
pare, e.g. the spontaneous introduction of the German cigarette currency after World
War II and the following establishment of the D-Mark by deliberate design as two
examples for one of the aforementioned dichotomies). There can also be no doubt
that individual behaviour shapes social institutions – and the other way round.
A complex and suffi cient analysis of “reality” needs both perspectives as comple-
mentary. Both research programs have implicit reversed shortcomings, for example
the right-side strategy has to assume some supra-individual actors (“the nation”,
“the state”), while the left-side-strategy stresses a more or less “reductionist version
of individualism” (Rutherford
1996 , p. 178).
To these dichotomies we could also add the distinctions of general and historical
approaches, purely economic or more political economics, a more static or dynamic
analysis, more or less classical theories of value or theories of the productive forces
(List), and the view of the economy as a mechanic exchange machinery or as an
organic unity (see, e.g. the methodological remarks in Salin
1944 ) .
If we have a look at the mercantile literature in total we can observe a leaning to
the right side of the dichotomies as already mentioned. But the more interesting fact
is that many contributions are in a certain middle position, taking up one horn and
the other in the same pamphlet or book. For example, the mercantile literature does
not only use historical and empirical material. As we also saw, Mun did not develop
formal formulae but (implicitly) he used the quantity theory of money (with a
dynamic twist, see Dreissig
1939 , and Tautscher 1942 ) and Hume’s specie-fl ow
mechanism. Social institutions mould individual behaviour and the rules of the state
are not disputable but on the other hand Mun’s ideal and starting point is the autono-
mous, self-conscious and self-interested individual. Citizens should orient their
behaviour in accordance with the rules of the country and they should be committed
103
3 Mercantilism
to them, on the other hand goal-oriented behaviour and rational maximization are
the major rules for the merchant. On the one hand, the economy should work in the
interest of society and especially the prince. He has also to set the value premises
and intervene into the economy. On the other hand the mercantilists saw in the
economy a relatively independent force which evolves naturally (this is particularly
evident in Steuart, see below). Often, the only values seem to be a crude power
Darwinism and economic materialism, and Mun reminds the prince not to interfere
too strongly into the economic sphere with regulations and taxation. The human
being rarely has any other value commitments except his self-interest. But the mer-
cantilists also thought that profi t upon alienation would only accrue if some regula-
tory restriction of free competition occurs (see below).
We can explain this intermediate position in two ways. First, mercantilism can be
interpreted as the expression of an intermediate historical phenomenon, that is, soci-
eties in which the policy still has supremacy and an emergent capitalism with a
differentiated autonomous economy or market sphere. Second, mercantilism can be
interpreted as an impressive methodological example which more or less success-
fully integrates research programs or orientation which are usually only applied in
separate approaches which are therefore necessarily one-sided. The importance of
the mercantilist literature today lies naturally on this second aspect.
The Debate on Mercantilism
The term mercantilism was made popular by A. Smith who devoted more than one
fourth of his Wealth of Nations (
1976 , fi rst published in 1776) to the history of eco-
nomic thought in book four on the systems of political economy. There, he shortly
describes physiocracy and concentrates on a fundamental critique of mercantilism.
For Smith, political economy has two objects: “fi rst, to provide a plentiful revenue
or subsistence for the people … and secondly, to supply the state … with a revenue
suffi cient for the public purposes” (1976, book 4, Chap. 1, p. 449). He underlines
that “(c)onsumption is the sole end and purpose of all production; and the interest
of the producer ought to be attended to, only so far as it may be necessary for pro-
moting that of the consumer” (1976, 4, 8, p. 179). For Smith, the pretended harmony
of interests of all social strata in mercantile policy is mere ideology. One of the most
interesting aspects in Smith’s discussion is the interlocking of ideas, policies, and
special interests. He leaves no doubt that “(i)t cannot be very diffi cult to determine
who have been the contrivers of this whole mercantile system; not the consumers,
we may believe … but the producers, whose interest has been so carefully attended
to; and among this latter class our merchants and manufacturers have been by far the
principal architects” (1976, 4, 8, p. 180). In our short analysis of Mun, we came to
a conclusion which was close to Smith’s.
After the defi nition of political economy and the fi nal function of the economy,
Smith starts with his refl ections on mercantile principles. First was the idea that
wealth consists in money (1976, 4, 1, p. 450). We saw that this was in fact always
104 H. Peukert
one of Mun’s main presumptions. Smith fi rst explains it with the layman’s view that
what holds for a person (a man is rich who has a lot of money) also holds for
nations. In his view it is more correct to say that the accumulation of consumption
goods defi nes wealth. He cites Mun’s book as the example which became funda-
mental to the practical policy of all commercial countries, including England (1976,
4, 1, p. 456). Smith sees Mun’s main message in the thesis that home trade “was
considered as subsidiary only to foreign trade”, but that in fact it is “the most impor-
tant of all, the trade in which an equal capital affords the greatest revenue, and cre-
ates the greatest employment to the people of the country” (1976, 4, 1, p. 456).
He does not doubt that a country that has no mines must import gold and silver
by foreign trade, but the problem will be solved as easily as the problem of the
import of wine because “no commodities regulate themselves more easily or more
exactly according to this effectual demand than gold and silver…. When the quan-
tity of gold and silver imported into any country exceeds the effectual demand, no
vigilance of government can prevent their exportation…. If, on the contrary, in any
particular country their quantity fell short of the effectual demand, so as to raise
their price above that of the neighbouring countries, the government would have no
occasion to take any pains to import them” (1976, 4, 1, p. 457). If an import would
not be possible, barter exchange, credit and a pure paper standard are conceivable.
Precious metals are not important as a store of wealth, they primarily have to func-
tion as a medium to facilitate exchange. They do not indicate wealth. “Money, no
doubt, makes always a part of the national capital; but it has already been shown
that it generally makes but a small part” (1976, 4, 1, p. 459) besides real capital in
the form of machines, (durable) consumption goods, etc. For a successful war it is
not important to have gold reserves but a high annual produce of the domestic
industry to purchase consumable goods and war material from foreign countries
(1976, 4, 1, p. 462). An increase in foreign precious metals did not make Europe
richer because it decreased the money value of gold and silver (1976, 4, 1, p. 469).
For all these reasons, “(b)y advantage or gain, I understand, not the increase of the
quantity of gold and silver, but that of the exchangeable value of the annual produce
of the land and labour of the country, or the increase of the annual revenue of its
inhabitants” (1976, 4, 3, p. 515). Smith’s statements are mostly convincing. They
show real weaknesses of the mercantile doctrine as far as we know it yet. His
critique is sometimes polemical like the whole Wealth , but it is never really unfair
or unreasonable.
In the next chapter he deals with restraints upon the importation from foreign
countries of goods which can also be produced at home. Without doubt the monop-
oly for the home-market often gives great encouragement to that particular species
of industry. “But whether it tends either to increase the general industry of the soci-
ety, or to give it the most advantageous direction, is not, perhaps, altogether so evi-
dent”, because “(t)he general industry of the society never can exceed what the
capital of the society can employ” (1976, 4, 2, p. 475). The decision what to produce
“every individual, it is evident, can, in his local situation, judge much better than
any statesman or lawgiver can do for him”, and if a “foreign country can supply us
with a commodity cheaper than we ourselves can make it, better buy it of them with
105
3 Mercantilism
some part of the produce of our own industry” (1976, 4, 2, pp. 478–479; in this
context the metaphor of the invisible hand is mentioned). Why are these measures
nevertheless supported? “Merchants and manufacturers are the people who derive
the greatest advantage from this monopoly of the home-market” (1976, 4, 2, p. 480).
But Smith is not dogmatic, he argues that the navigation act is necessary for politi-
cal reasons, retaliation may be necessary, a humane transition from former monopo-
lized industries to free trade seems warranted, etc.
In Chap. 3 he discusses the restraints of the importation of goods from those
countries with which the balance is supposed to be disadvantageous. Smith gives
numerous examples of these restraints in the practical economic policy of his time.
In his view their application only leads to hate among nations and a generalized
beggar-my-neighbour attitude. Instead, the best customers of the nation’s products
are the rich countries (1976, 4, 3, p. 518). As we saw this was already an argument
which was raised – not without contradiction – in Mun. The “spirit of monopoly” is
supposed to be only in the natural interest of some merchants and traders. In the
following chapters, he shows that drawbacks and bounties make no sense economi-
cally. It follows a long chapter on colonies
12
in which he castigates the mercantilist
exploitation of the colonies by England, for example “she imposes an absolute pro-
hibition upon the erection of steel furnaces and slit-mills in any of her American
plantations” (1976, 4, 7, p. 95). For Smith, to “prohibit a great people, however,
from making all that they can of every part of their own produce … is a manifest
violation of the most sacred rights of mankind” (1976, 4, 7, p. 95). The colonies
should be autonomous.
In the Marxist tradition, Smith’s class analysis – that the merchants and manu-
facturers in general are the profi teers – has been refi ned. In a chapter on capital
accumulation and mercantilism, Dobb
13
interprets the mercantile system as state-
regulated exploitation by trade in the age of primitive accumulation. He states
“while it is doubtless true that bodies like the Merchant Adventurers and the
Elizabethan trading companies in their pioneering days brought an expanding mar-
ket for English manufactures, it was their restrictive aspect – the stress on privilege
and the exclusion of interlopers – that came into prominence towards the end of the
sixteenth … century. Their limitation on the number of those engaging in the trade
and their emphasis on favourable terms of trade at the expense of its volume increas-
ingly acted as fetters on the further progress on industrial investment and brought
them into opposition with those whose fortunes were linked with the expansion of
industry…. For example, as cloth manufacture developed, the clothiers, while advo-
cating a prohibition on wool export, had an interest in the development of cloth
export” (Dobb
1947 , pp. 193 and 211). We saw this confl ict already existing in
Mun. It can be argued that Smith did not mention this confl ict because he was on the
side of the middle bourgeoisie against the upper bourgeoisie which was concerned
with the export market. But there were also common interests of the entire capitalist
12
See the balanced view by Harper ( 1942 ) .
13
(1947, pp. 177–220), see also Fusfeld ( 1975 , pp. 24–31).
106 H. Peukert
stratum like low wages, an expanding supply of raw materials, differential protection
for the (nascent) home industries (import tariffs), low import tariffs for foreign raw
materials, etc.
The stronger the home country’s own industry became the more liberal were the
mercantilists. This started with Mun who substituted the particular-balance view by
the general-balance view of the bullion-export, and continued with the strong free
trade tendencies of late seventeenth century mercantile writers like North, Davenant,
and Child. They refl ected the critique that the regime of monopolies not only shifted
profi ts to a privileged circle but that it profoundly limited expansion and growth in
general. They clearly demonstrate paradox of the process of mercantile rationaliza-
tion: that the support of merchants and entrepreneurs and the changes in the eco-
nomic, social and cultural sphere to stabilize the absolutist system by increased
taxes fi nally undermined the existing absolutist order
14
and lead logically to liberal-
ism (see the interesting analysis of Helmer
1986 ) . Some authors strongly underline
that liberalism is more an extension of the former and that mercantilists had rather
profound theoretical insights. “The idea of demand and supply as schedules is in
Berkeley’s Queries ; cross-elasticity is in Child; utility in Barbon; the usefulness of
capital markets in Malynes and Misselden; the idea that consumption is or should
be the object of all effort is in Defoe, Tucker, and Postlethwayt…” (Grampp
1995 ,
p. 6; see also Grampp
1991 ) .
Dobb sees in the contradiction between the surplus idea of the trade balance and
the idea of a mutual growth perspective a more general antagonism which was
already obvious in Mun. “In order to expand, in order to fi nd room for ever new
accumulations of capital, industry requires a continuous expansion of the market
(and in the last analysis of consumption). Yet in order to preserve or to enhance the
profi tability of capital that is already invested, resort is has from time to time to
measures of monopolistic restriction, the effect of which is to put the market in fet-
ters and to cramp the possibilities of fresh expansion” (Dobb
1947 , p. 219).
Dobb also highlights a special feature of mercantilism and an implicit assumption
of neoclassical economics. In times of mercantilism, the productivity of labour was
low, the number of labourers employed by a single capitalist not very numerous, so
that a profi t could hardly emerge from production. For the mercantilists and in dis-
tinction to present day supply- and demand-schedules, surplus was conceived as
depending on conscious regulation to produce it, that is, “their belief in economic
regulation as the essential condition for the emergence of any profi t from trade – for
the maintenance of a profi t-margin between the price in the market of purchase and
the price in the market of sale…. Without regulation to limit numbers and protect the
price-margin between what the merchant bought and what he sold, merchant capital
might enjoy spasmodic windfalls but could have no enduring source of income”
(Dobb
1947 , pp. 199–200). Supply and demand conditions are institutional products,
profi t is the result of political pressure to infl uence them (Dobb
1947 , p. 210).
14
Regimentation of economic activities, elements of planning in economic policy, superiority of
the political sphere, etc.
107
3 Mercantilism
Dobb points out that a large part of the confusion in mercantilism, for example
between the terms of trade and the balance of trade, is due to the ideological char-
acter of the literature to cloud reality and suppose an identity between special and
general interests (of the state). In later writings, “(t)o the bullion-fetish they contin-
ued to pay at least lip service” (Dobb
1947 , p. 214).
A completely different and defi nitely positive view of mercantilism has been
given by the members of the historical school, notably Schmoller and Sombart. In
contrast to Smith who deals with mercantilism as an economic doctrine they see it
as a general pattern of economic policy so that they arrive at completely opposite
results. Schmoller concentrates on the “connection between economic life and the
essential, controlling organs of social and political life, – the dependence of the
main economic institutions of any period upon the nature of the political body”
(
1967 , p. 2, fi rst published in German in 1884). Phases of economic development
should be distinguished according to their controlling organs: the tribe, the village
or mark, the district, the state, or even a federation of states. Schmoller had an ever
enlarging political units or organs in mind.
For Schmoller the essence of the mercantile system does not lie in some doctrine
on money, or on the balance of trade, but consists in the fi ght against the nobility,
the towns, the corporations and provinces, and the struggle for uniform measures
and coinage, a system of uniform credit laws and administration. All these were
preconditions for the new division of labour and prosperity. “Questions of political
power were at issue…. What was at stake was the creation of real political econo-
mies as unifi ed organisms, the centre of which should be, not merely a state policy
reaching out in all directions, but rather the living heartbeat of a united sentiment.
Only he who thus conceives of mercantilism will understand it; in its innermost
kernel it is nothing but state making … state making and national-economy making
at the same time” (1967, p. 50). Gömmel (
1998 ) has shown that in former Germany
(and not only in Prussia which was Schmoller’s main example) the economic policy
in the seventeenth century was obviously transformed into an integrated mercantile
strategy, including for example an active population, trade and tariff policies.
15
M. Weber had shown that already in the larger early modern merchant and craft
towns we can observe a mercantile town policy (Weber
1976 , pp. 792ff.).
In his monumental book on modern capitalism, Sombart (
1987 , pp. 924–942)
deals with the rationale of a mercantile national economic system in Chap. 56 of
the second volume. Sombart remarks that his own theory of early capitalism was
written in a mercantile spirit, so that his account of mercantilism has a very posi-
tive orientation. All thought in this tradition starts with the concentration on the
common interest, especially the interest of the state and his power and indepen-
dence (1987, pp. 924–925). Power means the living energy and number of its
inhabitants and not some external characteristics like the extension of territory. The
economy is not understood as the free play of anonymous forces but as a functional
1 5
See also the studies by Skopp ( 1990 ) , Rothermund ( 1978 ) , Hosfeld-Guber ( 1985 ) , and Henning
(
1991 , pp. 758–783).
108 H. Peukert
interplay of an economic organ to which regulation of the state is as important as
individual self-determination (1987, p. 928).
In the centre of the mercantile economic doctrine, to which Sombart Mun,
Davenant, List, Child, Petty, Locke, Becker, Justi, Forbonnais and others belong,
stands the notion of productivity, that is, the total capabilities of the economy are
seen as a living organism (1987, p. 930). The origins of the riches are fi rst the pro-
duction of goods in the country itself, depending on the increase of the population,
the work of lazy people, children and women, the increase of the work day, etc. For
Sombart, the practical relevance and structure of capitalism have been better under-
stood by the mercantilists then by the physiocrats or the Smithians (1987, p. 937).
They understood the promotion of a capitalist spirit and the increase of the entrepre-
neurs, the necessary amount of economic objects like the increase of the working
class, the need of a suffi cient and increasing capital reserve in the form of money as
necessary conditions of capitalism. They always took into consideration the distri-
bution of the goods produced, and they had an understanding of the legal and admin-
istrative preconditions of the capitalist development (1987, pp. 938–939). They
never confounded money with wealth but they purported a dynamic theory of cau-
sality: the increase of money increases demand, production, and consumption and
for most countries the only means to increase the amount of precious metals was to
have a positive balance of payments (1987, p. 941). Like Schmoller he draws a very
positive picture of mercantilism which neglects the self-contradictory and weak
points we discovered for example in Mun’s work.
In exact opposition to Schmoller and Sombart, Ekelund and Tollison (
1981 and
their marginal revisions in
1997 ) give an alternative interpretation of the special
interest hypothesis. They ask why France and Spain did not experience an industrial
revolution comparable to that in England. In a neoinstitutional vein, they interpret
mercantilism as a rent-seeking phenomenon in the property rights and Buchanan’s
and Tullock’s public choice tradition.
16
After the rise of centralized monarchies, the
opportunity arose for the monarchs to raise revenue by selling monopoly rights. The
difference between the economic potentials of the three countries compared results
from the fall of power of the monarchy in England, and the move to a representative
government. For the authors mercantilism was not a macro instrument for nation
building as it was for Schmoller. These objectives were only rationalizations of rent-
seekers. It “is a process through which rent seeking alters property rights systems in
socially ineffi cient manners reducing exchange, effi ciency and economic welfare”
(1997, p. 385, in italics). In their model a supply side (the state) and a demand side
(merchants, etc.) lead to an equilibrium for monopoly rights with detrimental results
for society at large. “To the extent that resources are spent to capture monopoly
rents in such ways as lobbying, bribery, and related activities, these resources are
basically wasted (create no value) from a social point of view” (1981, p. 19).
The difference to Smith is fi rst that their analysis is based on individual-choice
behaviour and not on classes. In their model – which shares the normative bias for
16
See also the respective but not at all convincing interpretation of communism by Anderson and
Boettke (
1997 ) .
109
3 Mercantilism
the consumer with Smith – the state is not the victim of the rent-seekers (as in
Smith), but “the state may be pictured as a unifi ed, revenue-seeking leviathan, where
fi scal needs (defence, court expenses, and so forth) prompted the sale of protective
legislation” (1981, p. 24). The authors present an interesting application of the rent-
seeking approach to the phenomenon of mercantilism. They surely grasp an aspect
of real historical development. That the state gave monopoly rights and received a
rent is obvious, also that merchants tried to get the monopoly rights for extra profi t
and that resources were wasted for lobbying.
On the other hand their empirical-historical basis is very weak. The interesting
aspects of the mercantilist literature is not that they were also motivated by interests
and ideology but that they contained an analytical surplus which is of real interest for
scientifi c discourse. Further, the authors do not say that “the state” (a collectivist
term?) uses the revenue for luxury or consumption but that it uses the revenue for its
fi scal needs, for example for the law system, defence, etc. If we understand rent-
seeking this way, it is hard to see a difference to the mercantilist literature which states
that the state needs revenue for exactly these tasks. If the authors reject or neglect the
state-building motives and expenditure exigencies mentioned by Schmoller, they are
one-sided because all major European states undertook developmental strategies to
produce a market economy and tried to establish an adequate legal and institutional
environment. But if they accept this as a major motive to fi nance state activities, then
the distinctiveness of their hypothesis evaporates. They also do not deal with the dif-
ferent logic of a short- or long-run perspective, that is, Mun’s Laffer curve type of
argument that moderate taxes in the present (and we may add: limited allocation of
monopoly rights) support growth and consequently higher tax revenues in the future.
They only conceive non-elucidated short-run rent-seeking politicians.
Still the most extensive study of mercantilism is E. Heckscher’s book on mercan-
tilism.
17
Not convinced of the secondary literature (see his discussion in II, pp. 239–242),
he defi nes mercantilism as a phase in the history of economic policy between the
Middle Ages and modern liberalism which has the state as subject and object in the
centre of concern, especially the external power of the state and its conditions
(I, pp. 1–6). For Heckscher, himself a convinced liberal, the active balance of trade
and the concern for money are secondary aspects of mercantilist thought. Mercantilism
also comprises theoretical elements and is akin to popular economic thinking. For
Heckscher (like Schmoller) the most important element is the unifying aspiration of
the strong state which in fact only became an established fact much later in the nine-
teenth century. With this emphasis he fundamentally deviates from Smith who saw
the interests of the merchant class as the driving force behind mercantilist policies.
On 450 pages he describes the historical background, in particular the overcoming of
the particularism of the Middle Ages what tariffs, the regulation of industry and the
crafts, and foreign exchange in England and France are concerned.
The second element of mercantilism is of Heckscher’s the concept of a system of
power (Cunningham). On only 40 pages he describes two ways to pursue the interests
17
(1932), fi rst published in Sweden in 1931, see also Heckscher’s reply to his critiques in Heckscher
(
1991 ) .
110 H. Peukert
of the state in an international competitive environment: special measures like the
English navigation act or the concern for the general fl owering of the economy. In the
latter case, the state profi ts by higher taxes. The third constitutive element which is
explained on 100 pages is mercantilism as a system of protection (e.g. export subsi-
dies). Fourth comes the specifi c mercantile view of money which is analysed on fur-
ther 80 pages. In the third and fourth building block of mercantilism, Heckscher
identifi es many theoretical mistakes. We may ask if he does not go too far in his con-
clusions, for example when he states that the fi xation on power relations leads to a
total neglect of the absolute amount of traded goods and the utility for the citizens
but that they were only concerned with the relative superiority over foreign countries
(II, p. 291). As we saw in Mun, this interpretation is at least exaggerated.
From today’s perspective, the most interesting and lasting part of Heckscher’s
book may be the 50 pages of part five on mercantilism as a view of society
(II, pp. 245ff.). Heckscher convincingly argues that – compared with the worldview
of the Middle Ages and nineteenth century’s conservative-romantic orientations –
liberalism and mercantilism are very close as a general social doctrine. The eco-
nomic doctrine of mercantilism was old-fashioned, but both thought in terms of
natural rights and both supported the freedom in the confi nes of the national border.
They rejected enterprises run by the state. They had an economic-materialist moral
minimum view, interest for loans was not seen as problematic, and luxury consump-
tion is evaluated from a purely economic functional and not ethical standpoint.
Humans are weak, self-interested and more or less greedy, production is an end in
itself, society is seen in a rationalist way and both share the opinion of social causal-
ity, that is, that the natural drift of economic development cannot be changed drasti-
cally by law and political design.
In Heckscher’s view liberalism had a more humane orientation and anthropology
of man
18
and rejected enforced labour; Smith thought that humans fi nd fulfi lment in
work, etc. A second difference is the liberalist conviction that the free play of mar-
ket forces has an innate rationality, the mercantilist does not believe so and opts for
regulation and intervention (II, p. 295). But we saw that even Mun opted for moder-
ate taxes and limited interventions of the prince into the economy even in times of
absolutism. Heckscher points out that mercantilism had two sides, a liberal one and
the more stronger interventionist opposite; both were in constant confl ict with each
other and he views liberalism as the executor of mercantilism in the social realm
which overcame the mercantilist antiquated view of the economy.
In his ambiguous description of mercantilism Schumpeter (
1965 , pp. 423–472)
comes to the opposite conclusion. If Smith and his disciples had improved the mer-
cantile doctrine instead of rejecting it, we would have had a more rich and realistic
theory of international economic relations today (1965, p. 472).
In his General Theory , Keynes devoted a part of Chap. 23 to positive notes on
mercantilism (
1976 , pp. 333–353, see also Steele 1998 , and Hahn 1957 ) . For him,
mercantilism was a precursor of his theory to some degree. He criticizes the negative
18
For example regarding greediness, see Moss ( 1987 ) on the mercantilist Mandeville.
111
3 Mercantilism
opinion of the classical free trade school, also obvious in Smith’s Wealth of Nations ,
which saw in mercantilism little more than nonsense. He wants to show that there is
an element of scientifi c truth in it. He asks in how far it is advantageous from a
national perspective to be preoccupied with the domestic rate of interest and the bal-
ance of foreign trade (1976, p. 335). He shares with Smith the interpretive focus of
the main elements of mercantilism. “At a time when the authorities had no direct
control over the domestic rate of interest or the other inducements to home invest-
ment, measures to increase the favourable balance of trade were the only direct
means at their disposal for increasing foreign investment; and at the same time, the
effect of a favourable balance of trade on the infl ux of the precious metals was their
only indirect means of reducing the domestic rate of interest and so increasing the
inducement to home investment” (1976, p. 336).
Keynes is aware of the fact that an immoderate practical policy can lead to a
senseless international competition for a favourable balance of trade and that the
advantages of the international division of labour should not be forgotten. His claim
is to show that the theoretical foundations of the laissez-faire doctrine, that a domes-
tic interest rate consistent with full employment is unproblematic, are wrong and
have been questioned by the mercantilists who “never supposed that there was a
self-adjusting tendency by which the rate of interest would be established at the
appropriate level” (1976, p. 341; we will leave out his remarks on the terms of trade
and the fear for goods). Without solving the problems they raised theoretically, they
testifi ed intellectual realism and grasped the fact that the propensity to save is usu-
ally stronger than the inducement to invest (1976, pp. 347–348). Keynes positive
view is a possible interpretation of some mercantilist remarks, for example on inter-
est rates. But it may be doubted that for example Mun’s main concern was structural
under-investment in the Keynesian sense.
19
In a recent work, Magnusson (
1994 ) argues like Grampp that “Smith’s greatest
achievement was to melt all this together … it is ironic that he to such a great extent
relied upon the previous work of seventeenth-century thinkers which we commonly
recognize as ‘mercantilists’” (1994, p. 2). He also shares a modernist interpretation
and speaks of a real mercantilist revolution. It was characterized by an explicit dis-
cussion of how wealth was created and distributed; a Baconian scientifi c program
with an empirical basis and logical argumentation (see, e.g. Petty
1992 , and Wallace
1992 ) , a materialist interpretation of man and society, and the view that “the econ-
omy must be perceived as a system” (1994, p. 11).
At least for Mun we saw that this fourfold classifi cation is a little bit over-
drawn. But if we take G. Berkeley’s The Querist (
1992 , fi rst published in 1735)
we see the essential development of mercantilist thought and we may ask if Smith
was fair to choose Mun as the main representative. The importance of Berkeley
lies in the sphere of an economic and social vision, less in the delineation of some
specifi c economic theorem(s). His main supposition is that labour is the true
19
On the further development of the discussion on mercantilism as a doctrine in the history of
economic thought see Coats (
1996 ) , Rashid ( 1991 ) , and Magnusson ( 1994 , Chap. 2).
112 H. Peukert
source of wealth (Query 4). The aim of all states should be to encourage industry
in its members (Qu. 3). The active balance of trade and the accumulation of specie
are no subject for him. Money is only useful in so far as it “stirreth up Industry,
enabling Men mutually to participate the Fruits of each others Labour” (Qu. 5).
The division of labour with mutual benefi ts, the growth of industry is the problem
he raises. He holds Marshall’s later theory of the dialectics between wants and
activities (Qu. 20), and the determination of price according to supply and demand
(Qu. 24). He does not hold a subsistence (wage) approach of the working people.
A people who had provided themselves with the necessaries of life would “soon
extend their Industry to new Arts and new Branches of Commerce” (Qu. 68). A fi rst
objective should be the abolition of the dirt, famine, and nakedness of the bulk of
the people (Qu. 23).
He never argues for special interests or the granting of monopolies, and states
that the aim should be the well-being of the whole (Qu. 137). He absolutely rejects
the bullion-fetishism in asking “whether the true Idea of Money, as such, be not
altogether that of a Ticket or Counter” (Qu. 23, see also Qu.s 34, 35, 37 and 49). The
only virtue of gold and silver is to set people at work (Qu. 32). If money is needed
for transactions, money substitutes (like bills of exchange) will easily be found and
used (Qu. 34). A massive infl ow of gold and silver may even be detrimental to
industrial development, for example for psychological reasons (Qu. 45). Trade, for-
eign or domestic, is in truth only the expression of the home commerce and industry
(Qu. 38).
The policies of the state – for which he gives many examples (public work for
criminals, bettering houses for young gentlemen, see Qu.s 57–59) – are summarized
in the following question: “Whether if human Labour be the true source of Wealth,
it doth not follow that Idleness should of all things be discourag’d in a wise State”?
(Qu. 44). The state has an active role to play. Like a man who builds a house in the
fi rst place provides a plan, the public should not act without an end, a view, a plan
(Qu. 53). Berkeley is in the materialist tradition of human anthropology: man is
driven by interest, imitation, and passions. But he asks, if this insight “would be a
good Argument against the use of Reason in public Affairs”? (Qu. 312). In princi-
ple, Smith and Berkeley raise the same critical arguments against Mun as the sup-
posed typical representative of mercantilism. But Berkeley’s tract was published
some 30 years before the Wealth of Nations . His contribution shows that mercantil-
ist thought liberated itself from the special interest perspective (no monopolies for
the merchants and manufacturers, or high taxes for the sovereign are claimed), the
prejudices of bullionism, and some self-contradictions which were partially evident
in Mun (compare this with Blaug’s negative statement on Berkeley in 1997, p. 22).
On the other hand the change in thinking in the economic fi eld should also not be
exaggerated. If we take J. Cary’s A discourse on trade (
1992 , a reprint of the 1745
edition), the pamphlet of a Bristol merchant, as an example we see that he also pro-
poses work houses for the poor and beggars. Further, he proposes a national soundly
organized public credit system to reduce risk (he uses transaction cost arguments)
which in turn would lower interest rates. But we also fi nd the old bullionist and active
balance of trade scheme in his thought. He meticulously describes international trade
113
3 Mercantilism
empirically and we also fi nd free trade arguments (1992, p. 3). But he nevertheless
proposes to establish a committee of trade to control and actively change by decree
the fl ow of precious metals and goods, because mainly the East-Indian trade “exports
our Bullion, spends little of our Product or Manufactures, and brings in Commodities
perfectly manufactured, which hinder the Consumption of our own” (1992, p. 43).
Second Example: J. Steuart’s An Inquiry into the Principles
of Political Economy (
1767 )
To fully grasp the mercantilist revolution just mentioned with the Magnusson char-
acteristics of an explicit discussion of how wealth was created and distributed, a
Baconian scientifi c program, a materialist general interpretation, and the economy
as a system view, let us analyse briefl y the main aspects of Steuart’s (
1992 ) work. It
is one of the last and the most systematic accounts of mercantilist thinking, written
130 years after Mun’s treatise, developed on more than 1,500 pages. The book is the
last defence of mercantilism, the foundations of English free-trade economics had
already been laid for example by Hume in his Political discourses in 1752. Steuart
(1712–1780) belonged to an infl uential Scottish noble family; he was trained as a
lawyer and lived between 1745 and 1763 in exile because he supported the Stuarts.
His work never received great recognition and Smith almost completely dismissed
him. But Schumpeter holds him in high esteem (see 1965, p. 235).
The book has the subtitle “an essay on the science of domestic policy in free
nations”; it underlines Steuart’s pragmatic self-understanding. In the preface he
states that the basis of his deliberations is not a logical system. “I was engaged to
compile the observations I had carefully made, in the course of my travels, reading
and experience” (I, pp. IV–V). Steuart follows an inductive comparative system’s
approach, and he strongly criticizes armchair theorizing. “The wit I here mention, is
not that acquired in the closet” (I, p. 159). Citing Bacon (I, p. IV), he favours a sys-
tematized inductive method which rejects in principle generalizations in theory and
practical policy and not only as a transitory phase (compare Schmoller). It is an
interesting question to ask if and in how far his methodology depends on his mer-
cantilist vision. Repeatedly, he thinks about “the habit of running into what the
French call Systemes . These are no more than a chain of contingent consequence,
drawn from a few fundamental maxims, adopted, perhaps, rashly. Such systems are
mere conceits; they mislead the understanding, and efface the path of truth. An
induction is formed, from whence a conclusion, called a principle, is drawn; but this
is no sooner done, than the author extends its infl uence far beyond the limits of the
ideas present to his understanding, when he made his deduction” (I, p. VII). Not
surprisingly, empirical and historical facts and developments are broadly presented.
“I pretend to form no system” (I, p. 5).
The fi rst of the three books deals with population and agriculture and contains
his elementary mercantilist vision. Economy is the art of providing for all the wants
with prudence and frugality. He fi rst describes the division of labour between the
114 H. Peukert
sovereign and the economic agents and their motives. He recapitulates “the governor
must restrain, but the steward must lead, and, by direct motives of self-interest,
gently conduct free and independent men to concur in certain schemes ultimately
calculated for their own proper benefi t. The object is, to provide food, other neces-
saries and employment, not only for those who actually exist, but also for those who
are to be brought into existence. This is accomplished, by engaging every one of the
society to contribute to the services of others, in proportion only as he is to reap a
benefi t from reciprocal services” (I, p. 149). Steuart – like Smith whose Wealth
was published 9 years later – has a dynamic perspective, the increase of production
and population is his concern. The market is a differentiated sphere in which self-
interested individuals act (his anthropology also includes expediency, duty, and pas-
sion, see I, p. 6). He assumes that they conform to the laws and are not opportunists
seeking with Williamson’s guile (I, p. 165).
Unlike Smith, Steuart strongly stresses that the statesman has to establish a legal,
motivational, and institutional framework so that the interplay of the economic
agents works “as if” an invisible hand were in operation. His leading decisions are
not restrictions of free enterprise, but a continuous precondition. In the fi rst book we
hardly fi nd a word in Steuart about an active balance of trade, bullion-fetishism,
profi ts by monopoly guarantees, etc.
Instead, he consequently follows a labour theory of value and societal develop-
ment. “The earth’s spontaneous fruits being of a determined quantity, never can feed
above a determined number. Labour is a method of augmenting the productions of
nature, and in proportion to the augmentation, numbers may increase” (I, p. 150). In
book one, he clearly distinguishes the hunter and gatherer mode of subsistence and
the system of agriculture and puts them in an evolutionary perspective.
No general blueprint can be formulated for the wise statesman (the sole indi-
vidual who is not motivated by personal self-interest, see I, p. 162f.?). In the long
Chap. 2 , he explains that different people and nations have different spirits, i.e. “a
set of received opinions relative to three objectives: morals, government, and man-
ners” (I, p. 8). Because people do not only vary with regard to their mentalities, the
consequence is clear. “If one considers the variety in the distribution of property,
subordination of classes, genius of people, proceeding from the variety of forms of
government, laws and manners, one may conclude that the political oeconomy in
each must necessarily be different, and that principles, however universally true,
may become quite ineffectual in practice” (I, p. 3). The statesman who is the impar-
tial representative of the common interest above the classes should not support the
specifi c spirit of a nation or culture, but has to “model the minds of his subjects so
as to induce them, from the allurement of private interest, to concur in the execu-
tion of his plan” (I, p. 3). The plan may be hidden to the citizens if they are not
advanced enough to understand it. He also considers the active planning of the
birth rate in different social strata (I, Chap. 12). Slavery is justifi ed as an early
inducement to bring people to work (I, Chap. 7). But the patriarchal sovereign is
not independent, because in a natural contract perspective he states that “a general
tacit contract, from which reciprocal and proportional services result universally,”
exists (I, Chap. 83).
115
3 Mercantilism
An elucidated statesman cannot act against the natural drift towards freedom and
progress, but he can encourage and socially cushion and balance the consequences
of change, for example when a rapid introduction of new machinery takes place.
Steuart takes the Pareto principle as a concern for practical policy very serious,
especially what unemployment is concerned. “The introduction of machines can,
I think, in no other way prove hurtful by making people idle, than by the suddenness
of it … I constantly suppose a statesman at the head of government, systematically
conducting every part of it, so as to prevent the vicissitudes of … innovations from
hurting any interest within the commonwealth” (I, p. 120; he also considers an ideal
situation of economic reproduction and want satisfaction where no new machines
are needed any more).
Steuart sees a close but not necessary connection between the increase of the
population, economic prosperity, the orientations to work hard and innovate, and the
need for sophisticated consumption. “We have supposed a country capable of
improvement, a laborious people, a taste of refi nement and luxury in the rich, an
ambition to become so, and an application to labour and ingenuity in the lower
classes” (I, p. 34).
These are the main ideas and concepts of book one. We have omitted all empiri-
cal and practical considerations which make up half of the text. The subjects of
book two are trade and industry, the latter defi ned in a dynamic-innovative way as
“the application to ingenious labour” (I, p. 166, in italics). A major stress is put on
the demand side. The need to pay for goods is one thing and the ability to pay
another thing so that a suffi cient level and equilibrium between supply and demand
may not but the possibility of unemployment may exist. Steuart develops an inter-
esting three-stage growth approach which starts with the expenditure of the wealthy
as the origin of demand in the fi rst phase. “The increase in production stimulates the
introduction of machinery in industry and productive improvements in agriculture,
thus prompting an increase in labour productivity…. The second growth stage is
reached when the country is able to produce a surplus for export. At this point lux-
ury should give way to thrift. Growth would be sustained by the trade surplus. The
third phase occurs when the country is no longer able to maintain a permanent sur-
plus of its balance of trade. At this point, growth should return to being sustained by
internal demand, and luxury could again play its role as a stimulus” (Screpanti and
Zamagni
1995 , p. 54). The short summary shows that Steuart is far away from the
simplistic active balance of trade doctrine.
One of the most interesting and ignored parts in the secondary literature is his
“value theory” or his theory of supply and demand. Human needs lead to demand
and have short- or long-run effects, “the nature of a gradual increase of demand, is
to encourage industry, by augmenting the supply; that of a sudden increase, is to
make prices rise” (II, p. 59). Demand may be simple or compound (the latter means
that competition exists between demanders), it may be great or small (depending on
the quantity demanded), and it may be high or low (“high when the competition
among the buyers is great; low, when the competition among the sellers is great”, I,
p. 174). He also discusses elastic (luxury goods) and inelastic demand (necessaries).
In Chap. 3 he explains exchange in the traditional neoclassical way. “When wants
116 H. Peukert
are multiplied, bartering becomes (for obvious reasons) more diffi cult; upon this
money is introduced” (I, p. 177).
In Chap. 4 we fi nd his value theory. The price of goods is composed of the “real
value of the commodity, and the profi t upon alienation” (I, p. 181). The real value is
the adding-up of fi rst the average working hours to produce a good, second the
workman’s subsistence and necessary expenses, and third the value of the input
materials. The price can never be lower as the real value, but thanks to profi t it may
be higher. “This will ever be in proportion to demand, and therefore will fl uctuate
according to circumstances” (I, p. 183). Despite a lack of fi nal rigor, we do not see
an essential difference to Smith’s adding-up approach or even to Marshall’s scis-
sors. He describes the price setting with the following auction metaphor: “(T)o
make a kind of auction, by fi rst bringing down the prices to the level of the highest
bidders, and so to descend by degrees, in proportion as demand sinks” (I, p. 195).
Industry and trade fl ower if the balance is perfect (translated in the German edi-
tion as equilibrium, see Steuart
1913 , p. 271), i.e. the real value plus a normal profi t
(“a positive moderate profi t”, I, p. 220, in italics) determine prices. This is the case
in “double competition”, which prevents the excessive rise of prices and prevents
their excessive fall. It means that competition “takes place on both sides of the
contract” (I, p. 196). This form of competition takes place in most operations of
trade. But, Steuart adds, we can also imagine the realistic case that no competition
takes place on the demand or the supply side but collusive behaviour prevails (this
is also possible in the formal market structure of full competition understood as
many sellers and buyers). Profi t depends on the relative degree of competition on
both sides.
To assure the (perfect) balance of double competition is the great task of the
statesman. The balance can be overturned in four ways, supply (Steuart’s “work”)
increases or diminishes and demand remains constant, or demand in/decreases and
supply remains constant. “If demand diminishes, and work remains the same …
either those who furnish the work will enter into competition, in which case they
will hurt each other, and prices will fall below the reasonable standard of the even
balance; or they will not enter into competition, and then, prices continuing as for-
merly, the whole demand will be supplied, and the remainder of the work will lie
upon hand” (I, p. 218). But does not the market mechanism work and restore equi-
librium? “Whether, by this fall of prices, demand will not be increased? That is to
say, Will not the whole of the goods be sold off? I answer That this may, or may not,
be the effect of the fall, according to circumstances: it is a contingent consequence
of the simple, but not the effect of the double competition: the distress of the work-
men is a certain and unavoidable consequence of the fi rst” (I, p. 220).
The necessity for intervention results if the imbalance continues and as a result,
“by such profi ts subsisting for a long time, they insensibly become consolidated , or,
as it were, transformed into the intrinsic value of the goods” (I, p. 221) because the
average living conditions of the classes were a constituent part of the real value. In
normal circumstances, profi t fl uctuates according to the demand conditions and
cannot become a real value element, but this “happy state cannot be supported but
by the care of the statesman” (I, p. 223).
117
3 Mercantilism
In the following he discusses the economic competition of national economies in
trade. He is moderately mercantilist when he sees it as a symptom of decline when
a country is furnished from abroad with manufactures which were formerly made at
home (I, p. 279). In Chap. 16 he gives as the natural reason for trade the Heckscher–
Ohlin theorem and adds that all natural resources should be manufactured in the
country. In Chap. 18 he discusses means to support export. But he concentrates on
thriftiness, the reduction of luxury consumption, the introduction of more produc-
tive machinery, etc. and much less on price manipulations like subsidies which are
often misused (I, p. 391).
We have to stop here (see the summary of book two in II, pp. 57–95). Book fi ve
deals with taxes in a profound and politically neutral way (III, 266ff., see the sum-
mary on pp. 421ff.). Book three and four, almost half of the total book, deal with
money and credit. Here Steuart rejects the quantity theory of money and states that
the central variable is the velocity of circulation (hoarding). Changes in relation to
the needs of trade and the money supply are always adequate and can be controlled
by economic agents through the velocity of money. Prices depend on real factors
(level of output, costs, and competition). Compared with Mun, Steuart’s consider-
ations are a path-breaking progress. He is the only one in his century who tried to
develop a monetary theory on an antimetallistic basis which sees money as a prag-
matic symbol by decree, absolutely independent of gold or silver. In Schumpeter’s
view he is one of the most interesting monetary theorists
20
of his time but he made
so many mistakes that his work did not become infl uential (1963, p. 376).
Conclusion
In our overview we understood mercantilism as an epoch of economic history, as an
economic doctrine, and as a general pattern of economic policy. We described the
historical circumstances and problems which led to a mercantilist thought in
Germany, France, and England. We mentioned the most important representatives
and the intellectual followers (physiocracy and liberalism). Mercantilism is under-
stood as an autonomous paradigm in the history of economic thought and we
rejected the sometimes unjust criticisms of mercantilism in the (recent) secondary
literature.
We dealt with the main economic assumptions, ideas, and economic policy pro-
posals as they are delineated in the more sophisticated textbook descriptions in part
two and took also into consideration the ideological and interest bias of some mer-
cantilist writers. Referring to the fi ve Rutherford distinctions, we saw the interesting
deep structure of mercantilism which is located between the horns of his
dichotomies.
20
See also his Principles of money applied to the present state of the coin of Bengal (1772).
118 H. Peukert
We saw that a considerable progress in thinking about the economy was achieved
from the early debate between Misselden and Malynes, the following contradictions
in Mun, the productivist queries of Berkeley, and fi nally the most advanced in ver-
sion of Steuart. He developed at least a rudimentary theory of value, time, and space
depending on political policy proposals, a supply and demand scheme, and empiri-
cal research strategy (which resembles the inductivist inclinations of some repre-
sentatives of the later German historical school), and an active interventionist role
of the wise statesman (the enforcement of double competition).
In part fi ve we saw the surprising variety of possible interpretations of mercantilism.
A. Smith’s ardent criticism grasps some weak points of early mercantilism but he
did not attack the strongest version, Steuart’s Inquiry . The Marxist analysis of Dobb
refi nes the class and interest-based approach of Smith which is also not incompatible
with Ekelund’s and Tollison’s rent-seeking interpretation which was deciphered as
a little bit too one-sided.
The more positive accounts were evident in Schmoller, Sombart, to a certain
degree Heckscher, and Keynes. They state the nation-building function of mercan-
tilism or identify (Keynes) some good reasons to pursue an elucidated version of an
active balance of trade (e.g. a money infl ow and as a consequence a lower interest
rate). We agreed with Magnusson that in its strongest version the mercantilist revo-
lution consisted in the explicit discussion of how wealth was created and distrib-
uted, a Baconian scientifi c research program, a materialist interpretation of man and
society, and the view of the economy as a system. Seen in this light the transition
from mercantilism to liberalism (from Steuart to Smith) is perceived as more grad-
ual and less fundamental or qualitative.
If we include in our strong basic defi nition of mercantilism a forward-looking
interventionism of the (wise?) state(sman), mercantilist thought may serve as a
counterweight against the present denigration of the infl uence of the state and the
view that the more the markets are deregulated and the state disappears the better
society fares in total. The neo-mercantilist message (see the comparison by Feldmann
1995 ) could be that for example the provisioning of public goods (especially educa-
tion and infrastructure) is of overall importance for the citizens of developed coun-
tries to secure a high income level and an adequate lifestyle in times of global
competition.
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Tautscher A (1942) Die dynamische Kredittheorie der deutschen Merkantilisten, Weltwirtschaftliches
Archiv, 56/II, 143–167
Viner J (1948, 1996) Power versus plenty as objectives of foreign policy in the seventeenth and
eighteenth centuries. In: Irwin DA (ed) Trade in the pre-modern era, 1400–1700. Edward Elgar,
Cheltenham, pp 303–331
Wallace R (1992) A dissertation on the number of mankind. Routledge, London
Weber M (1976) Wirtschaft und Gesellschaft, 5th ed. Tübingen
Wehner B (1995) Die Logik der Politik und das Elend der Ökonomie. Darmstadt
Wolf M (1995) Cooperation or confl ict? The European Union in a liberal global economy. Int Aff
71:325–337
123JG B kh ( d) HdbkfhHi fE iTh h
Introduction
The cameralist writers emerged after 1500, primarily in the German-speaking lands,
and stayed on the scene until the middle of the nineteenth century. While I devote
some effort to characterizing some of the works and themes of the cameralists, I
devote most of this chapter to an examination of the contemporary relevance of a
cameralist orientation for scholarship in public fi nance. To place such stress upon
contemporary relevance is not to ignore the vast differences between their times and
ours, but is only to affi rm that there are some enduring themes within the cameralist
orientation that could prove interesting and fruitful for contemporary scholarship in
public fi nance.
The cameralists emerged around 1500, and were mostly located in the German-
speaking lands. By the time they had disappeared in the middle of the nineteenth
century, they had amassed a collective bibliography of more than 14,000 items,
according to Magdalene Humpert (
1937 ) . To someone raised on contemporary eco-
nomic theory, the cameralists would surely seem highly irrelevant. Among other
things, they were oriented toward practice and not toward the refi nement of theoreti-
cal schemata. Principles were present, to be sure, and these were brought to bear on
various matters of substantive practice. The driving interest of the cameralists, how-
ever, lay in their ability to operate more effectively in a substantive manner, and not
on the development of theoretical argument.
Schumpeter (
1954 , pp. 143–208) described the cameralists well when he referred
to them as “Consultant Administrators.” They were both consultants and adminis-
trators. They were consultants to the various kings, princes, and other royal person-
ages who ruled throughout those lands. Indeed, the term cameralist derives from
R. E. Wagner (*)
Department of Economics , George Mason University , Fairfax , VA 22030 , USA
e-mail: [email protected]
Chapter 4
The Cameralists: Fertile Sources for a New
Science of Public Finance
Richard E. Wagner
124 R.E. Wagner
camera or kammer, and refers to the room or chamber where the councellors to the
king or prince gathered to do their work. The cameralists were not, however, any-
thing like contemporary academic consultants. They were real-world administrators
as well. They were engaged in such activities as managing mines or glass works.
Many of the cameralists also held academic posts. The fi rst chairs of cameral sci-
ence were established in 1727, in Halle and Frankfurt on the Oder, and by the end
of the eighteenth century 23 such chairs had been established (Backhaus
1993 ) .
The cameralists were partly economists, partly political scientists, partly public
administrators, and partly lawyers. They approached their subject matter in a man-
ner that used all of these talents and capacities. My fi rst recollection of cameralism
dates to the spring of 1970. The occasion was the arrival of the March 1970 issue of
the Journal of Economic Literature . There, Richard Goode had an article where he
compared the treatment of public fi nance in two different social science encyclope-
dias, written a generation apart. One of these was the International Encyclopedia of
the Social Sciences , which was published in 1968. The other was the Encyclopedia
of the Social Sciences , which was published in 1930. While Goode duly noted the
theoretical advances that had occurred in economics between 1930 and 1968, he
also lamented the narrowing of the subject matter of public fi nance.
1
Goode con-
cluded his lamentation on the state of public fi nance by asserting that “a sophisti-
cated and unifi ed treatment of the economic, political, legal, and administrative
elements of public fi nance is needed. Unifi cation would represent a return to a tradi-
tion as old as that of the cameralists, but for modern readers sophistication can be
attained only by rethinking old problems and using new techniques. There is much
to be done and work for a variety of talents” (p. 34).
My subsequent reading convinced me that Goode was correct, and that a post-
cameralist orientation offers an expanded and more interesting agenda for public
fi nance.
2
In claiming that a return to the cameralist tradition would offer much of
value to contemporary public fi nance, a distinction should perhaps be made between
direct and indirect sources of value. By a direct source, I mean instances where
cameralist formulations can be brought directly to bear on contemporary issues in
public fi nance. I think there is very little of this in the cameralist formulations. By
an indirect source, I mean the orientation, attitude, or point of view toward the sub-
ject matter of public fi nance that the cameralists held. The cameralist orientation
can, I think, be very fruitfully carried forward into contemporary public fi nance, and
is capable of generating what could very well be called a postcameralist public
fi nance. I think the cameralist orientation has much to contribute to contemporary
public fi nance, particularly in its ability to point the way toward a more integrated
treatment of fi scal phenomena that are now often accorded separate treatment within
1
Goode’s lament was voiced brilliantly some years later in a different context by Leijonhufvud
(
1996 ) , who said that “recent developments in macroeconomics remind him of the movies coming
out of Hollywood: there isn’t much to the plots anymore, but the special effects are spectacular.”
2
A valuable textbook by Blankart ( 1991 , Ch. 2) presents cameralism as the source for the approach
to public fi nance associated with such authors as Sax, Wicksell, Lindahl, and various turn-of-the-
century Italian scholars.
125
4 The Cameralists: Fertile Sources for a New Science of Public Finance
faculties of economics, politics, administration, and law.
3
Before I examine some
elements of a postcameralist public fi nance, I shall provide a short description of
some of the cameralist writings and teachings.
The Setting for Cameralism
Cameralism has often been described as a Germanic version of mercantalism,
though I have also seen it described as a Germanic version of physiocracy. These
descriptions perhaps illustrate a form of heuristic for guessing, through assimilating
something unfamiliar to something familiar. Mercantilism and physiocracy are
clearly discussed much more fully in histories of economics than is cameralism. It
is perhaps understandable that someone unfamiliar with cameralism who came
across cameralistic observations about the importance of agriculture would treat
cameralism as a form of physiocracy. It is similarly understandable that a similar
person coming across a cameralistic discourse on the importance of stimulating
internal manufacturing, so as to reduce the import of fi nished goods, would treat
cameralism as a form of mercantalism.
It is, of course, common and often reasonable to classify something new with
reference to what is already familiar. This leads to cameralism often being treated as
a form of mercantilism and sometimes as a form of physiocracy. While cameralism
does have points of contract with physiocracy and mercantilism, some of which have
just been noted, it is nonetheless neither of these, but rather is something else entirely.
4
To be sure, cameralism and mercantilism both originated within authoritarian politi-
cal regimes, and they represented efforts to give good counsel to the heads of those
regimes, in light of an unchallenged presumption that those regimes are to continue
indefi nitely. From here, however, the differences dominate the similarities.
Most importantly, the cameralists and mercantilists differed in the international
setting within which their regimes were located. Mercantilism arose among big
players on the international stage. The English, the French, the Spanish, and the
Dutch, the primary nations with which mercantilism is associated, were not price
takers on the international scene. The ability of these powers to reach throughout the
world to infl uence events and terms of trade provided the background for mercantil-
ist thought and practice. The stress upon taxation and the prevalence of rent-seeking
and other forms of venality were products of the big-player standing of the mercan-
tile empires.
There were no such powers within the cameralist lands. Austria, probably the
premier power early in the cameralist period, could not play with the mercantile
powers. The Peace of Westphalia in 1648 recognized more than 300 independent units
of governance within the cameralist lands, and there were even more before then.
3
Related territory is addressed in Backhaus and Wagner ( 1987 ) .
4
For valuable, general surveys of cameralism, see Dittrich ( 1974 ) and Small ( 1909 ) . Shorter and
more focused, but also highly valuable is Tribe (
1984, 1995 , Ch. 2).
126 R.E. Wagner
Cameralism arose under conditions of high political fragmentation. The cameralist
lands were necessarily insignifi cant price takers on the international scene. A cam-
eralist land faced a totally different setting than the mercantile regimes faced. There
was no concern within the cameralist lands about infl uencing terms of trade, about
the use of colonies as instruments of policy, and about one’s relative standing among
the preponderant powers. All of these concerns were foreclosed by circumstance to
those who ruled within the cameralist lands. The focal point of cameralist concern
was on survival of the regime. Survival, in turn, required a military capacity. It also
required economic development, which in turn required the acquisition of improved
technologies, the improvement of human capital within the population, the creation
of new enterprises, and the growth of population.
This concern about development took place within regimes that were both abso-
lutist and severely constrained. The prince was the ruler of his lands. He did not
have to worry about surviving periodic elections, and he could hope to pass his
principality along to his eldest son. His ability to do this, however, varied directly
with the extent of economic progress within his land. A prince whose land was sup-
porting a growing population of energetic and enterprising subjects would both be
wealthier and face better survival prospects than a prince of a land where the popu-
lation was stagnant or declining, and whose subjects were dull and lethargic.
Furthermore, population was mobile in fact, even if it was mostly tied to the land
at law through feudal restrictions. Distances between lands were typically short.
A peasant who traveled to a new land was not likely to be returned. The rulers of the
cameralist lands faced a competitive labor market. Indeed, the cameralist lands rep-
resented a kind of competitive industry among localized governments, much as
Tiebout (
1956 ) tried to characterize some 300 years later.
The Cameralist Analytical Framework
It may be stretching matters a bit to refer to a cameralist “analytical framework.”
A reference to “orientation” or “perspective” might be more circumspect. The cam-
eralists proceeded much more by the statement and elaboration of practical maxims
than through the construction and logical manipulation of analytical models. For
instance, the cameralists generally favored growing populations, but did not articu-
late any model that characterized the impact of population growth upon cameralist
objectives. It is most likely that the cameralist writers simply embraced an empirical
belief that a growing population would be benefi cial in their states, particularly in
terms of the conditions that obtained at that time throughout the cameralist lands.
The devastation wrought by plague and war would have provided the cameralists
with a strong orientation or predisposition toward population growth, even in the
absence of any systematic framework that linked population to some cameralist
objective. It is also possible, however, to read some inchoate notion of increasing
returns into the cameralist support for growing population. There are numerous
claims that a growing population provides a particular stimulus to production that
otherwise would be lacking. It would be easy enough to read such references as
127
4 The Cameralists: Fertile Sources for a New Science of Public Finance
precursory versions of increasing returns that result from the increasingly fi ne
division of labor that population growth makes possible.
The absence of a highly systematic approach makes it diffi cult sometimes to
determine whether differences among particular cameralists are truly substantive or
rather represent simply different ways of asserting the same thing. Take, for instance,
the goals of cameralist policy. Population growth is supported as a means for advanc-
ing a desired end. But what is the end that cameralist policy seeks to promote?
Compare, in this respect, two of the premier late cameralists, Johan Heinrich Gottlob
von Justi and Joseph Sonnenfels. Justi (1782) asserted that the primary goal of cam-
eral policy should be the happiness of the state and its subjects. In this, one could
well imagine applause coming from Jeremy Bentham. Justi did not, however, engage
in any effort at weighting utilities across rulers and subjects. Rather, he asserted that
in a well-conducted state, one governed by cameralist principles, the happiness of
all would rise and fall together.
Sonnenfels (
1787 ) argued that it was not happiness that was the proper objective
of cameralist policy, but an expanding population. A happy population would be an
incidental and automatic by-product of a growing population. As a matter of empiri-
cal conduct at the time, the programs of Justi and Sonnenfels were indistinguish-
able. In this case, the distinction that Sonnenfels drew with respect to Justi may have
represented an effort at product differentiation. Despite a possible empirical-historical
congruence, the two programs might diverge in general. Neither author, however,
provided a systematic framework of hypothesized relationships that would make
possible any defi nitive statement.
To be sure, I think that simple regime-perpetuation, and not some notion of hap-
piness for state and subject, is the best way of characterizing the prime objective of
cameralist policy. The cameralists went through a lot of mental gymnastics to
explain that all such pleasant-sounding platitudes as the promotion of happiness for
state and subjects were invariably being promoted by the existing regime. The cam-
eralists were not a highly critical bunch, and in this attitude they probably displayed
a good deal of practical realism. They accepted the legitimacy of their regimes, and
pursued their professional work within a means-end framework. The end to be
attained, or sought after, by the state was the ruler’s business. The cameralists were
there to offer expert advice on the acquisition of revenues and their subsequent
expenditure. In the next section I shall focus on the revenue side of the cameralist
analytical framework. I shall give only cursory attention to the expenditure side, for
otherwise I would not have enough space left to address some of the possible ele-
ments of a postcameralist public fi nance.
Cameralist Revenues
When one regime gives way to another, residues from the previous regime typically
remain in place. By the 1880s, the cameralist period was but a historical memory,
and it is probably reasonable to date its end with the Napoleonic wars. Yet one of
the notable features of the cameralist regimes could still be detected in the fi scal
128 R.E. Wagner
data. This is the particularly heavy use made of revenues from state lands and enter-
prises as a means of fi nancing state activities. Table
4.1 summarizes data presented
at various places in Backhaus and Wagner (
1987 ) . This Table pertains to various
dates in the late nineteenth century, and shows state income from agricultural enter-
prises as a percentage of total state income. Revenues from agricultural enterprises
comprised generally between 2 and 4% of total state revenues in the noncameralist
lands. By contrast, net revenues from farm enterprises were some 5–10 times more
signifi cant in the former cameralist states.
The cameralist emphasis on enterprise revenues did not stop with agriculture.
Enterprise revenues of all forms played a substantial role in state fi nance in the for-
mer cameralist lands. Table
4.2 , also from Backhaus and Wagner ( 1987 ) , shows the
importance of all state enterprises as a source of state revenue for 1896–1898, two
generations or so after the end of the cameralist period. In the four large states
shown there, enterprise revenues ranged between 30 and 60% of total state
revenues.
Table 4.1 Income from state farms as percentage of total state income
State State farm income/total state income (%)
Noncameralist states
France 1.5
Netherlands 1.9
Denmark 2.9
England 3.0
Italy 3.0
Russia 3.6
Greece 3.6
Austria-Hungary 3.9
Switzerland 4.1
Cameralist states
Baden 7.1
Saxony 9.7
Württemberg 13.2
Prussia 16.4
Bavaria 17.3
Source: Backhaus and Wagner (
1987 )
Table 4.2 State enterprise revenue as percentage of total state revenue
State Enterprise revenue/total state revenue (%)
Saxony 59.5
Prussia 56.8
Württemberg 47.7
Bavaria 30.7
Source: Backhaus and Wagner (
1987 )
129
4 The Cameralists: Fertile Sources for a New Science of Public Finance
This heavy use of net revenues from state enterprises to fi nance state activities
was the central feature of the revenue side of cameralist public fi nance. By con-
trast, enterprise revenues occupied a minor position in state fi nance in the non-
cameralist lands. To be sure, even this minor position was strikingly at variance
with the position as objects of subsidy that state enterprises came to occupy in the
twentieth century. I recall my astonishment as a graduate student when I came
across Adam Smith’s statement in the Wealth of Nations that “the post offi ce …
affords in almost all countries a very considerable revenue to the sovereign” (p. 682).
The American post offi ce at the time was doing no such thing, but was receiving
large subsidies from the treasury, as were most state enterprises. In earlier times,
though, state enterprises often served as modest sources of revenue, when I was a
student save in the former cameralist lands where state enterprises were signifi -
cant sources of revenue.
Cameralist public fi nance treated state lands and enterprises as principal sources
of revenue, and most certainly not as objects of subsidy. If one were to construct a
model of the cameralist vision of the state, it would look like a model of a business
fi rm. The state’s lands were potential sources of revenue. Forests could be harvested,
game could be caught, and mines could be built and worked. The ruler would also
sponsor an assortment of commercial enterprises, including such things as the oper-
ation of a glassworks or a brewery. Taxes occupied a secondary position as a source
of revenue. Taxes were a last resort option for public fi nance, and not the fi rst
source of revenue.
The cameralists’ general predisposition against taxation as an instrument of pub-
lic fi nance refl ects the orientation that the state acts as a participant within the eco-
nomic order. Individuals had their property and the state had its property. The state
should be able to use its property to generate the revenues required to fi nance its
activities. Or at least those enterprise revenues should support the major portion of
state activity. Some of the cameralists argued that taxes should be earmarked for the
support of the military, while all activities concerned with internal development
should be fi nanced from the prince’s net commercial revenues. In any case, the state
contains many business enterprises within its boundaries, and with the state itself
being one of those enterprises. The state’s enterprises are to be the primary source
of revenue for the state. It was understood that the state would have signifi cant
expenses associated with its activities. These expenses, however, were not to become
drains upon the private means of subjects. They were to be met from the lands and
enterprises that constituted the state’s property.
It was perhaps out of a recognition of the realities of power that there was no
absolute prohibition on taxation. Rather there were various statements that taxes
should be limited and low, for otherwise they would bring harm to the state and its
subjects. It is instructive to compare the approach to taxation taken by Johann
Heinrich Gottlob von Justi and Adam Smith, particularly with respect to the limits
placed on the use of the power to tax. Smith, of course, is one of the premier fi gures
of classical liberalism, and it is hardly surprising that his maxims of taxation are
widely thought to serve as strong limits on the power to tax. Smith’s four maxims of
130 R.E. Wagner
taxation have been stated repeatedly in public fi nance texts since he fi rst articulated
them in 1776. These are as follows:
1. Taxes should be levied in proportion to property.
2. Taxes should be certain and not arbitrary.
3. A tax should be convenient to pay.
4. A tax should be economical to administer, for both the taxpayer and the state.
Justi (1771, pp. 549–565) similarly articulates maxims for taxation, though these
maxims, unlike Smith’s, have not been carried forward in the public fi nance literature.
What is surely most notable about Justi’s maxims is that they go well beyond Smith
in limiting the power to tax. While the precise arrangement of Justi’s maxims differs
from Smith’s, Justi’s maxims cover all of the territory covered by Smith’s maxims,
and then goes well beyond Smith in limiting the power to tax. Like Smith, Justi
holds that a tax should be levied in proportion to property, that it should be certain
and not arbitrary, that it should be convenient to pay, and that it should be economical
to administer.
Justi, however, does not stop there. He offers two maxims that have no counter-
part in Smith. One of these is that a tax should never deprive a taxpayer of necessar-
ies or cause him to reduce his capital to pay the tax. A second maxim of Justi’s that
is not found in Smith is a requirement that a tax should neither harm the welfare of
taxpayers nor violate their civil liberties.
To the extent the principles articulated by Justi and Smith were put into substan-
tive practice, Justi would place far stronger limits on the use of taxation than would
Smith. The comparison of Justi and Smith, however, does not stop here. Smith
regarded taxation as the primary source of public fi nancing, and thought ideally that
it should be the sole source of public fi nance. For instance, Smith preceded his pre-
sentation of tax maxims with an argument that the state should eliminate its prop-
erty and the revenues derived there from. In sharp contrast, Justi preceded his
discussion of tax maxims with a discussion of why taxation should be a last resort
or secondary means of public fi nance. Indeed, Justi argued that ideally the state
would not tax at all.
This difference between Justi and Smith refl ects one of the important orienting
principles of the cameralists, namely, that the state acts as a participant within the
society and its economic order. The cameralist advice on the use of state budgets
and other policy instruments to promote the happiness of the state and its subjects
took place within a presumption that the state itself was located inside the economic
order and not outside it. The state is but another participant within the economic order
of a society. Civil society and the state are nonseparable and co-emergent. This
treatment of the state in relation to civil society contrasts sharply with various
contemporary constructions where state and society are treated as autonomous and
independent from each other. In this alternative construction, the state intervenes
into civil society and its processes. This distinction between the state as participating
within the economic order and the state as intervening into the economic order has
numerous implications and ramifi cations, one of which concerns the generation of
state revenues. The cameralist ideal, recognizing that practice rarely if ever conforms
131
4 The Cameralists: Fertile Sources for a New Science of Public Finance
to ideals, was the state as a peaceful and productive participant within the economic
order. The Smithian ideal was the state as a violent force for intervention into the
economic order. It is perhaps no wonder that Schumpeter (
1954 , p. 172) described
Justi as “A. Smith … with the nonsense left out.”
In their 1980 book on the Power to Tax , Geoffrey Brennan and James Buchanan
construed the state as a revenue-maximizing beast, a leviathan (Brennan and
Buchanan
1980 ) . While the leviathan of the Bible lived in the sea, it is easy enough
to imagine it as living on the land. Smith’s maxims for taxation are a recipe for liv-
ing with the leviathan by doing such things as clipping the beast’s nails and fi ling its
teeth. A beast it will always be, and the objective of tax maxims should be to limit
the damage caused by the beast. Justi’s maxims for taxation, in conjunction with his
preference for enterprise revenues over taxation, represent a contrary intellectual
orientation that would seek to domesticate the beast.
Revenues, of course, are only one side of the fi scal account. The cameralists also
devoted much effort to the expenditure side. Much of that discussion had a kind of
capital-theoretic quality to it, where programs of expenditure today would generate
increased revenues tomorrow. A great deal of the cameralist emphasis was placed
on what is now called human capital, though it would not be appropriate to import
too much of a conceptual framework into the cameralist works. A good deal of this
emphasis stemmed from the concern with population. A growing population was
desirable, to be sure, but that population in turn had to possess useful skills and
talents, to be healthy, and to possess an industrious attitude. While the cameralists
devoted a good deal of attention to such kinds of topics, they did not employ any-
thing remotely resembling contemporary models or techniques. Still, a great deal of
the cameralist discussion concerned the contribution of various expenditure pro-
grams to the well-being of the state and its subjects.
A Cameralist Orientation Toward Contemporary Public Finance
My primary thesis is that cameralism contains an orientation toward public fi nance
as a fi eld of academic scholarship that offers a wider and more varied analytical
agenda than can be found within the bulk of public fi nance today, just as Richard
Goode asserted in 1970. I should like to complete my remarks on the cameralists by
exploring some aspects of what could be called a postcameralist public fi nance.
Cameralistic public fi nance is a choice-theoretic approach to public fi nance.
The phenomena of public fi nance, state revenues and expenditures, arise out of a
ruler’s optimizing choices. It is quite different in modern democratic regimes. The
phenomena of public fi nance do not arise from someone’s optimizing choice, but
rather arise through interaction among the many participants within the fi scal process.
This interactive or catallactic approach to public fi nance leads often to quite different
implications for public fi nance than the choice-theoretic approach (Wagner
1997 ) .
The dominant portion of contemporary public fi nance has maintained the choice-
theoretic orientation toward public fi nance, as if fi scal phenomena are still generated
132 R.E. Wagner
through the same processes that were in place in mercantalistic and cameralistic
times. This astonishing situation was noted in 1896 by Wicksell (
1958 , p. 82),
when he complained that the theory of public fi nance “seems to have retained the
assumptions of its infancy, in the seventeenth and eighteenth centuries, when absolute
power ruled almost all Europe.”
A choice-theoretic approach to public fi nance was suitable in cameralist and
mercantilist times. A cameralist ruler could reasonably be described as seeking to
use his fi scal means to promote his dynastic ends. For the cameralists it was histori-
cally accurate to ascribe the phenomena of public fi nance to the choices of the rulers.
The state’s revenues depended on the ruler’s choices about how to operate his mines
and how to farm his lands. The extent to which state expenditures were directed to
projects that might increase future productivity was likewise objects of choice for
the ruler. Suppose two kingdoms were observed to undertake different expenditure
programs. In the fi rst kingdom expenditures were heavily oriented toward such
investments as draining swamps and building roads that would be likely to increase
future production. The budget in the second kingdom, however, did little about
swamps and roads, and instead spent lavishly on amusements for the king and his
court. It would be reasonable in this case to compare the budgetary choice of the two
kingdoms, and to say that the fi rst king had a lower time preference, or was otherwise
more far-sighted than the second king. To the extent it is possible to make inferences
about preferences from the observation of choices with respect to private choices, it
would be possible to do the same thing with respect to state choices within the
cameralist setting. To be sure, the conduct of cameralist rulers was relatively civilized,
and nothing like the experience with dictators in the twentieth century. The conceptual
construction of a benevolent despot perhaps fi nds historical validation in the cameralist
period. That does not, however, render empirically valid the use of constructions
based on benevolent despots in public fi nance today.
Whether budgets in a democratic regime were tilted toward amusements or capital
projects would not be a source of information about some person’s preferences.
Budgets emerge out of interactions among participants, and those interactions are
governed and shaped by a variety of procedural rules.
5
The people who participate in
a market make various choices, but it makes no sense to speak of the market itself as
making choices. The market simply registers and refl ects the choices and interactions
among the participants. It is the same with budgetary outcomes within a democracy.
Furthermore, the same set of people can generate quite different budgetary outcomes,
depending on the institutional framework within which the budgetary process pro-
ceeds. In this respect, there is an indefi nite number of particular budgetary processes
that can be imagined, and it is conceivable that a wide variety of budgetary outcomes
could be generated, if the experiment were performed of having the same people
engage in successive interactions across differing institutional frameworks.
This consideration suggests immediately that a postcameralist public fi nance
would place particular importance and signifi cance on the institutional framework
5
For a nice effort to pursue such an approach, see Kraan ( 1996 ) .
133
4 The Cameralists: Fertile Sources for a New Science of Public Finance
within which budgets emerge. This institutional focus, moreover, would exist on
two distinct conceptual levels. One level takes as given some particular institutional
framework, or compares different institutional frameworks. In any case, the analysis
at this level would take institutional frameworks as given data, and rest content with
exploring how those frameworks guide and govern the interaction among partici-
pants into the generation of budgetary outcomes. The other level would recognize
that people also generate and modify institutional frameworks as they go along, and
would seek to give an account of the generation and dissipation of institutional
frameworks.
The cameralists were clearly agents for their royal principals. Principals who
were unhappy with their cameralist agents would dismiss them, and could well
imprison them for malfeasance. Justi, for instance, died while imprisoned for
alleged fi nancial mismanagement. While modern democracies are quite different
from the cameralist absolutisms, such categories as principal, agent, and prop-
erty are present now just as they were then. The cameralists spoke of subjects.
We now speak of citizens. It is the citizens who are the principals in a democracy.
The head of state was the principal in cameralist times, but is now the agent. The
same relationship of agency exists in modern democracies as existed in cameral-
ist times, only the substantive character of that relationship is different in many
respects.
All agency relationships raise questions of how strongly the agent will promote
the desires of the principals.
6
This question has been examined in quite good mea-
sure in respect to business corporations. The basic thrust of that literature is that the
existence of a market for ownership shares is the pivotal institutional feature in both
(1) homogenizing the interests of shareholders (principals) and (2) inducing prin-
ciples to promote the interests of principals. Governments face the same formal
problems of agency that business corporations face. Indeed, there are many modern
examples of business corporations that provide government-like services, and in a
way that resemble the cameralist states.
Shopping centers, apartment complexes, and hotels all provide state-like services
in a cameralist-like setting.
7
What these organizations do is offer forms of tie-in
sales, where private and public services are offered as a package. Apartments and
hotels offer rooms to residents. The rental price, however, also fi nances the provi-
sion of an array of public services. Hotels will have subways that run vertically.
Hotels usually sweep their streets daily. Hotels and apartment complexes typically
provide a variety of parks and playgrounds. Walt Disney World in Florida offers the
6
They also raise questions of whether principals share some common standard for appraising agent
performance. Without agreement among principles, it is dubious to speak of agency costs and
related notions. It must suffi ce to say here that the degree of agreement among principles can be
infl uenced by institutional arrangements. Market arrangements based on private property generally
facilitate agreement among principals. Some democratic arrangements may operate in a similar
manner, where others appear not to do so.
7
This point is made in striking fashion by MacCallum ( 1970 ) . For an extension of this outlook to
cities, see Foldvary (
1994 ) .
134 R.E. Wagner
same kind of arrangement, only it covers 45 square miles of territory. All topics
relating to property and agency within the conduct of government would fi t natu-
rally within a postcameralist orientation toward public fi nance.
A great deal of contemporary public fi nance operates with a form of illusory
concreteness. An effort is made to treat a theoretical construction as if it were some-
thing that can be observed in reality. For instance, the condition that price equals
marginal cost is a theoretical construction. The treatment of this construction or
condition as a pricing rule for state enterprises to follow is an example of illusory
concreteness.
8
It treats this condition as something that is directly observable inde-
pendently of who is doing the observing. The so-called Ramsey tax rule is another
illustration of illusory concreteness. There, tax rates are supposed to vary inversely
with demand elasticity. It would be diffi cult enough to try actually to tax people
according to their weight or height, but at least these magnitudes that are directly
accessible. Taxing people according to their demand elasticities is a nice theoretical
exercise that does not even remotely fi t the most elementary requirement of trans-
parency that any genuine rule must surely possess.
The cameralists did not succumb to illusory concreteness. They were too fi rmly
grounded in reality for that. Any theoretical construction obviously must involve
abstraction, and the abstraction must in turn be servicable for the task at hand.
Statements about marginal cost pricing and Ramsay taxes have their places in gen-
eral equilibirum theorizing, but they are not constructions that resolve or facilitate
the issues of state administration at which they appear to be directed. Their con-
creteness is illusory. From the perspective of today, we would call the cameralists
multidisciplinary, with the primary disciplines being economics, politics, law, and
public administration.
What is the relationship between public fi nance and these four disciplines? In
the choice-theoretic approach to public fi nance, whose chief turn-of-the-century
inspiration would be Edgeworth, public fi nance would be a proper subset of eco-
nomics.
9
Just as there is a Journal of Economic Theory , so there would be a
Journal of Public Economic Theory to cover that subset of economic theory that
dealt with the state. Public fi nance would look like economic theory, only it would
have a specialized subset of subject matter. In this respect, it would be no different
from, say, agricultural economics or housing economics. These are also special-
ized subsets of economics that are, nonetheless, not anything other than econom-
ics. In sharp contrast, a postcameralist public fi nance would most surely not be a
proper subset of economic theory. Suppose you were to draw a Venn diagram with
intersecting circles denoting such fi elds of study as economics, politics, sociol-
ogy, public administration, and law. Postcameralist public fi nance would cut
through all of those fi elds, and in its own right would be a genuinely multidisci-
plinary fi eld of study.
8
See, for instance, the essays collected in Buchanan and Thirlby ( 1973 ) .
9
The chief turn-of-the-century inspiration for postcameralist public fi nance would be Wicksell.
135
4 The Cameralists: Fertile Sources for a New Science of Public Finance
References
Backhaus JG (1993) The German economic tradition: from cameralism to the Verein für
Socialpolitik, Manuscript. University of Maastricht, Maastricht
Backhaus JG, Wagner RE (1987) The cameralists: a public choice perspective. Public Choice
53(1):3–20
Blankart CB (1991) Öffentlichen Finanzen in der Demokratie. Franz Vahlen, München
Brennan G, Buchanan JM (1980) The power to tax: analytical foundations of a fi scal constitution.
Cambridge University Press, Cambridge
Buchanan JM, Thirlby GF (eds) (1973) LSE essays on cost. Weidenfeld and Nicolson, London
Dittrich E (1974) Die deutschen und österreichischen Kameralisten. Wissenschaftliche
Buchgessellschaft, Darmstadt
Foldvary F (1994) Public goods and private communities. Edward Elgar, Hants
Goode R (1970) Public fi nance in the international encyclopedia of the social sciences: a review
article. J Econ Lit 8(1):27–34
Humpert M (1937) Bibliographie der Kameralwissenschaften. Karl Schroeder Verlag, Köln
Justi, Johann Heinrich Gottlob von (1969a), Grundsätze der Policeywissenschaft, Frankfurt a. M.:
Sauer & Auvermannn KG. [Reprint from the third edition of 1782.]
Justi, Johann Heinrich Gottlob von (1969b), Natur und Wesen der Staaten, Darmstadt: Scientia
Verlag Aalen. [Reprint from 1771 edition.]
Kraan D-J (1996) Budgetary decisions: a public choice approach. Cambridge University Press,
Cambridge
Leijonhufvud A (1996) Three items for the macroeconomic agenda, manuscript. University of
Trento, Trento
MacCallum SH (1970) The art of community. Institute for Humane Studies, Menlo Park
Schumpeter JA (1954) History of economic analysis. Oxford University Press, New York
Seckendorff, Veit Ludwig von (1976), Der Teutscher Fürsten Staat, Glashütten im Taunus: Detlev
Auvermann KG, with a Forward by Ludwig Fertig. [Reprint from the 1665 edition.]
Small A (1909) The cameralists: the pioneers of German social polity. Burt Franklin, New York
Sonnenfels JV (1787) Grundsätze der Policey, Handlung und Finanzwissenschaft. Strobel,
München
Tiebout CM (1956) A pure theory of local expenditures. J Polit Econ 64(5):416–424
Tribe K (1984) Cameralism and the science of government. J Mod Hist 56(2):263–284
Tribe K (1995) Strategies of economic order: German Economic Discourse: 1750–1950. Cambridge
University Press, Cambridge
Wagner RE (1997) Choice, exchange, and public fi nance. Am Econ Rev Proc 87:160–163
Wicksell K (1958) A new principle of just taxation. In: Musgrave RA, Peacock AT (eds) Classics
in the theory of public fi nance. Macmillan, London, pp 72–118
137JG B kh ( d) HdbkfhHi fE iTh h
Introduction
The physiocrats, a group of economists whose period of greatest activity was
between 1756 and 1774, the year of the death of François Quesnay, master of the
group, had a short life as a school. The birth of the school can be traced to the meet-
ing of the two founders, François Quesnay and the Marquis de Mirabeau, in July
1757. But 2 years before, in 1755, an event of the greatest importance had taken
place: the publishing, some 25 years after its writing, of the masterwork of Richard
Cantillon Essai sur la nature du commerce en général . Cantillon’s work has been
defi ned as the fi rst complete treatise on political economy, but it also contributed to
the birth of physiocracy, the fi rst school. So our history must begin with this
contribution.
The Founders and the Disciples
Cantillon had numerous followers, not only because his work was well written,
concise and convincing, but also because it had circulated informally for several
years after its author’s death. Others were thus able to plagiarize, adapt or translate
it.
1
Versions of works originally written in other languages were regularly published
L. A. d’Abadal (*)
University of Barcelona , Diagonal, 690 , 08034 Barcelona , Spain
e-mail: [email protected].es
Chapter 5
The Physiocrats
Lluis Argemí d’Abadal
1
In the eighteenth century plagiarism was not condemned as it is today. It was possible to quote
other authors at length, without mentioning the source, and without a sense of transgressing the
norms. Like Pierre Menard, Borges’ “author” of the Quijote, they wanted to say the same thing, so
they used the same words.
138 L.A. d’Abadal
throughout Europe, and particularly in France. It was a way of introducing foreign
innovations. In the case of Cantillon, however, the fact that the work had not been
published meant that its translators/adaptors could plagiarize it blatantly; perhaps
the best known of these plagiarists/adaptors and the most honest, since he acknowl-
edged the fact in his introduction to his work, was Victor Riquetti, Marquis de
Mirabeau (1715–1789), a great aristocrat from Provence, and father of the famous
orator of the fi rst phase of the French Revolution. In 1756 the elder Mirabeau wrote
a work that would make him famous, L’ami des hommes ou Traité sur la population ,
in which he examined an old mercantilist theme, the relation between population
and wealth, using new instruments, some of which he had borrowed from Cantillon.
For “L’Ami des Hommes” – as Mirabeau became known after the success of the
work – the wealth of a kingdom depended on the numbers of its inhabitants, a popu-
lationist idea which preserved the mercantilist tradition. The success of this work
sparked a new fashion; after Mirabeau, “amis” of the country, of children, of women,
of workers, of farmers, and a host of others were all published. Mirabeau was now
famous. People fl ocked to see him, from the most humble who came out into the
street as he passed by, to the very richest who invited him to their elegant salons.
Mirabeau’s reputation came to the notice of François Quesnay (1694–1774),
court physician (though not to the King) and protégé of Madame de Pompadour, the
King’s lover. Quesnay was keen to make Mirabeau’s acquaintance. At their meeting
in July 1757 the physiocratic school was born, after a long discussion that allowed
Quesnay to convince Mirabeau.
François Quesnay was born into a family of small landowners from Meré, near
Versailles.
2
He had received little formal education since he had many brothers and
sisters, and he learnt to read late, by reading Agriculture et maison rustique (1506),
a Renaissance classic on agriculture by Charles Estienne and Charles Liebault. The
authors were both Parisian doctors, and the main objective of their work was to
encourage self-suffi ciency among peasant families, and to describe the medical
properties of certain plants. This combination of agriculture and medicine was to
mark Quesnay’s future; he studied to become a surgeon, and studied agriculture as
an amateur. He became a surgeon of repute and participated in the debates that
would lead to the unifi cation of the two professions, medicine and surgery. His spe-
ciality was the circulation of blood, and he wrote treatises on bleeding and gan-
grene, but more than his contributions to medical theory it was his discretion that
won him many admirers.
The reputation he acquired in his profession won him valuable protectors, and
fi nally took him to Versailles as physician to Madame de Pompadour, who was keen
to shield him from the machinations of the court. It was there that Quesnay’s career
as an agriculturalist and economist began. His fi rst friends were responsible for the
country’s agriculture, but his position of infl uence meant that many people sought
2
A biography of Quesnay can be found in François Quesnay ( 1958 ) , by Jacqueline Hecht. Hecht’s
book contains all Quesnay’s known works at that time, and my references to the originals are taken
from it.
139
5 The Physiocrats
his favour in their relations with the King. Voltaire asked him to intervene in the
Calas affair; Diderot, d’Alembert and many other Enlightenment fi gures also
enlisted his support. Soon a weekly gathering was organized in his rooms at the
palace, and was attended regularly by Buffon, Helvétius, Condillac and the other
philosophers. It was at one of these gatherings that he met Mirabeau. Mirabeau had
published L’ami des hommes , but Quesnay by then had published two articles on
themes of agricultural economy in the Encyclopédie, “Fermiers” and “Grains”
(
1756 ) , having ousted Forbonnais, one of the last mercantilists, as main contributor
to the work on economic matters. Although this was the extent of his involvement
in the Encyclopédie, Quesnay wrote two more articles, “Hommes” and “Impôts”
(1756), which were not published but were both referred to in other publications.
In their discussion, Quesnay and Mirabeau defended different positions. For
Quesnay, population was not the cause of wealth but a dependent variable which
reacted to other stimuli. Though he believed some of Mirabeau’s arguments were
correct, Quesnay thought that the aristocrat put the cart before the horse. At their
famous meeting in July 1757, Mirabeau saw the light: the school was born, with a
master and a doctrine, though in this case the disciple was also a key member of the
institution.
Quesnay and Mirabeau formed a distinctive combination. They represent the two
prototypes of the Enlightenment: Quesnay, the bourgeois, moderate rather than
radical, who advocates change but is suspicious of social movements and trusts
more in the King or despot to implement it; Mirabeau, the nobleman, keen to restore
the prominence of the aristocracy – a position it has lost as a result of its own irre-
sponsibility – a patrician who believes that to regain its infl uence the aristocracy
must as a class be prepared to support the State, even economically, and to carry out
the necessary reforms: change of a kind, but only to preserve the status quo.
Symbolically, perhaps, Mirabeau died on July 13th, 1789, the day before the storm-
ing of the Bastille and the start of the French Revolution. This combination was the
cause of the ambiguity of the physiocrats political position (and, in part, of the
Enlightenment as a whole).
Once the nucleus of the school-sect was created, the real work began. It took
three forms: the recruitment of followers, the establishment of alliances with other
groups and the spreading of the doctrine. The physiocrats were highly successful in
all three areas, because they realized that their objectives should be practical above
all: their theories had not only to win over new supporters, but had to be applicable in
practice. Therefore, they sought alliances with infl uential functionaries whose ideas
coincided with theirs. Among their new disciples were fi gures such as Dupont de
Nemours (the founder of the great chemical company in the United States), who ran
the journals that published the schools articles; Mercier de la Rivière, the former
governor of Martinique; and Patullo, an Irish agricultural expert and author of trea-
tises on the new agriculture, all three well known in their respective fi elds. Other
authors such as Abeille, Le Trosne and Baudeau also joined the school.
Quesnay and Mirabeau established contacts with the functionaries who served
under Bertin, in charge of agricultural policy, and Gournay, the great defender of
liberalism and author of the maxim “laissez faire, laissez passer”. Among Bertin’s
140 L.A. d’Abadal
disciples were the great agronomists, and among Gournay’s was a fi gure as important
as Turgot, later to be comptroller general (a post similar to minister of fi nance, and,
in certain cases depending on the personality, similar to prime minister).
The creation of a group of this kind, which owed the name physiocrat to Dupont,
was not a new phenomenon. A number of functionaries such as Bertin and Gournay
had created groups of collaborators, and were competing for posts of responsibility.
In addition, intellectuals had begun to organize themselves in specifi c disciplines in
order to enlighten the country. Among these were the philosophers of the
Encyclopédie, the group of Diderot and d’Alembert. Dupont was keen to maintain
a certain distance from the philosophers, and saw the physiocrats knowledge as
distinct: all embracing, but referring in particular to the social sciences. Nonetheless,
the members of the school called themselves “economistes”, and were sometimes
known as philosopher-economists. So they were a school, but they were something
more besides: they were the proponents of what they saw as a new science. And this
fact attracted hatred and opposition. But, to a large extent, the origin of this oppro-
brium lay elsewhere. The physiocrats internal organization was more akin to that of
a sect or a pressure group than to a scientifi c school
3
; indeed, they were a school not
because they had a common vision inside an established discipline, but because they
believed that they had invented a new science, which they termed economic philoso-
phy or physiocracy, a science with a language that they alone understood and
accepted, and with its own methods. The physiocrats opponents had to fi ght with
physiocratic arms to argue with them, and even almost in the physiocrats own pub-
lications. In short the physiocrats behaviour was sectarian, and they were attacked
on this account. And their advocacy was a sectarian one: whenever one of them was
criticized, the others rallied to his defence.
4
Dupont, particularly, was capable of
censoring the critical articles that appeared in the journals he controlled, especially
the Ephémérides du citoyen . For these reasons the physiocrats were branded as
sectarian, the possessors of knowledge of an outlandish science, with a cryptic lan-
guage and incomprehensible methods.
They also acted to an extent as a lobby, party or pressure group. Their aim was to
infl uence economic policy, and to this end they placed particular emphasis on
obtaining posts of responsibility. They sought infl uence at court, where Quesnay’s
position was invaluable; indeed, even the creators of the Encyclopédie turned to
them for help to maintain their publication. In this third function of political lobby
the physiocrats most notable success was the appointment of Turgot as comptroller
general, though it cannot be ascribed directly to their infl uence. But before this, they
had to contend with a number of specifi c problems and an intellectual atmosphere
that left its mark on them.
3
The use of the term sect is standard. Weulersse ( 1968 ) uses the term party, and others, as
Schumpeter (
1954 ) , prefer school.
4
This statement by Le Trosne will serve as an example: “Sans se concerter, sans se connaître, ils se
sont trouvés parfaitement d’accord dans leur principes et leur logique, aucun d’eux n’a desavoué ses
compagnons d’armes, et n’a rien avancé qui ne soit avoué de tous”: a perfect defi nition of a sect.
141
5 The Physiocrats
France in the Eighteenth Century
During the eighteenth century, the social and economic situation of France had
deteriorated with respect to Britain. After the Edict of Nantes, which brought to an
end the wars of religion of the previous century, and the adoption of an agrarian
policy by the ministers of the fi rst Bourbon, Henri IV, especially Sully, the country
had enjoyed a certain prosperity. But the repeal of the Edict of Nantes, the exodus
of many Calvinists and the loss of human capital that this entailed, and the adoption
of an industrialist policy by Louis XIV’s minister Colbert eventually created a sensa-
tion of crisis. On the death of Louis XIV, the country was exhausted. The enemies
within were the splendours of the court, the advent of industrialism and intolerance,
and the new vogue was the Rousseauesque return to nature. Voltaire celebrated the
fact that at last the French were tired of the theatre and were now interested in
wheat. Henri IV and his minister Sully, the agrarian, were venerated, and Colbert,
the industrialist, and indirectly Louis XIV, were rebuked.
To this state of latent crisis, the 6 years war added new problems as France and
Britain fought for hegemony in the New Continent. This war aggravated the prob-
lems of the French treasury, already under great pressure, as was commonly the case
under the Ancien Régime . The treasury’s problems were among the fi rst that engaged
the physiocrats and merely bore out the desperate situation of the French economy.
It was against this background that the physiocrats developed their theories. In the
fi nal analysis, their objective was reformist, and their starting point the description
of the problems affl icting the French monarchy.
The absolutist state was at its height. Its functioning depended on government
offi cials, but of course, also on a good king. If Henri IV was remembered as a wise
ruler, Louis XIV now receives posthumous criticism. His son, Louis XV, was less
successful than his predecessors, according to the physiocrats unwritten opinions.
But the main problem was the lack of confi dence of intellectuals and government
offi cials in the future king, Louis XVI. Though he was to show some astuteness in
nominating Turgot as comptroller general, the events were soon to justify the func-
tionaries concern.
At the cultural level, the most important fact was that the cultural renaissance of
the previous century had not had an empirical component, as it had in Britain. It was
based on rationalism, and this dependence conditioned the methodology available
to the French scholars. In Locke’s empiricism, nature was like pencil writing on the
blank page of knowledge, but in rationalism, the human mind was already in pos-
session of all the components of this knowledge, and all that was required to reveal
it was introspection and reasoning.
Jansenism was another key element in the intellectual life of eighteenth-century
France. The Jansenists were condemned by the Church but they exerted a powerful
infl uence over many intellectuals. Disputes over Catholic dogma apart, they could
be seen as Catholic Calvinists, given to an individualistic vision of the modern
world and receptive to the economic practices that were developing at the time.
This situation had led high-ranking government offi cials to consider proposals
for reform, though not before carrying out meticulous descriptions of the causes of
142 L.A. d’Abadal
crisis, many of which were linked to the nature of the Absolutist state itself. Among
these authors Boisguilbert and Vauban stand out. Boisguilbert’s conception of an
economy governed by natural laws and his vision of the economic interdependence
of the different social classes led him to liberalism. He was a philo-Jansenist, and
his vision of economic activity was at odds with the predominant view of the time.
Vauban, for his part, advocated fi scal reform and the creation of a single tax on
income rather than on wealth or consumption.
Slightly later, as said before, Richard Cantillon, an expert in the economies of
France and Britain, wrote his Essai sur la Nature du commerce en général. The
work was not published until 1755, but it circulated freely beforehand and quickly
became famous. It was the fi rst compendium of the science that was to be known as
political economy, and offered a vision of the economy as a world that could be
described by means of theoretical laws. Boisguilbert, Vauban and Cantillon planted
the seeds of the physiocrats theories.
But the prevailing vision of the economy at the time was quite different. Authors
such as François Veron de Forbonnais and Galiani were the physiocrats main oppo-
nents. Forbonnais was a representative of late mercantilism, with certain liberal
touches, in step with the economists who held sway in the rest of Europe: James
Steuart in Britain; Justi and the Cameralists in Germany, then at the height of their
infl uence; Genovesi, who was highly infl uential in Italy; and Campomanes in Spain.
The pragmatic Galiani, diffi cult to classify in any one school, was an acute critic of
the physiocrats. It was probably due to him (and to the other authors we have men-
tioned) that the dogmatic excesses of the physiocrats were abandoned in favour of
an eclectic but practical vision of the problems of the economy.
The Works of the Physiocrats
There is no one book that contains all the ideas of physiocrat theory, though
Mirabeau’s Philosophie Rurale and others come close. The analysis should be based
on in the works of Quesnay, who was averse to writing great tracts, but who wrote
many short articles on specifi c subjects. Mirabeau, Dupont, Mercier and Patullo
expanded on the themes that Quesnay examined, and in some cases their analyses
are useful. The fi gure below lists these articles and publications of Quesnay, and
elaborations on his ideas by other authors (Table
5.1 ).
The nucleus of physiocrat theory is to be found in these books and articles. Apart
from the entries in the Encyclopédie (“Evidence”, “Fermiers” and “Grains” men-
tioned above, plus “Hommes” and “Impôts” which were not published), we should
mention Quesnay’s articles on political theory, “Droit naturel”, “Analyse du
Gouvernement des Incas du Pérou” and “Despotisme de la Chine”. The economic
principles established in these articles were developed by Quesnay and Mirabeau in
a series of publications, the most important of which are the different Tableaux
Economiques published as a single work (containing the maxims that appeared in
the article “Grains”, though with slight additions), or included in longer works such
as Mirabeau’s Philosophie rurale of 1763.
143
5 The Physiocrats
Table 5.1 Physiocratic works
Work Year Short title Related concept Other references
Method
Encyclopédie 1756 Evidence Method
(Encyclopédie) unpublished 1756 Fonctions de l’Âme Method Aspects de la psychologie (1760)
Functions of the soul Aspects of psychology
Politics
Journal d’agriculture 1765 Droit Naturel Ordre naturel Traité de la monarchie (1757)
unpublished
Natural right Natural order Treatise on monarchy
Éphémérides 1767 Incas du Perou Despotisme legal L’Ordre naturel et essentiel des
societés politiques
Incas of Perú Legal despotism The natural and essential order of
political societies
Éphémérides 1767 Despotisme de la Chine Despotisme legal
Despotism of China Legal despotism
Agriculture
Encyclopédie 1756 Fermiers Grande et petite culture Traité sur l’amelioration des terres
(Patullo 1774 )
Farmers Great and small agriculture
(Avances)
Improvement of lands
Capital
Encyclopédie 1757 Grains Produit net Maximes generales (1774)
Grains Net product General maxims
Impôt unique
Single tax
(continued)
144 L.A. d’Abadal
Table 5.1 (continued)
Work Year Short title Related concept Other references
Economy
(Encyclopédie) Unpublished 1757 Hommes Population theory Ameéioration des terres (Patullo
1774 )
Men Bon prix Improvement of land
Good price L’Ami des hommes
Friend of humanity
(Encyclopédie) Unpublished 1757 Impôts Taxes Tax analysis Theorie de l’impôt
Theory of tax
(Encyclopédie) Unpublished 1757 Interèt de l’argent Limitation interest rate Interèt de l’argent (Journal de
l’agriculture 1766)
Money interest Money interest
Tableau Economique
Tableau Économique 1758–1760 Tableau Économique Economic interdependence L’Ami des Hommes
Economic picture Circular fl ow Friend of humanity
Philosophie Rurale
Rural philosophy
Journal de l’agricultur 1766 Problème Économique Tableau analysis (Bon prix)
Physiocratie 1767 2º Problème Économique Tableau analysis ( Impôt
unique ) (Dupont, 1767) Physiocracy
Journal de l’agriculture 1766 Analyse de la formule du
Tableau
Simplifi cation
Tableau
145
5 The Physiocrats
As can be seen, Quesnay’s interests evolved over time, and we can classify
chronologically his articles in fi ve groups, or subjects. The only variation is in the
themes referring to politics, which we place in the second group due to their meth-
odology even though they were developed later, almost at the same time as the
Tableau Economique . The doctrine as a whole can be summarized as in Table
5.2 .
The fi rst row presents the theoretical concepts that the physiocrats used.
Evidence “a certainty so clear that the spirit cannot reject it”, was the source of
knowledge. Evidence suggested that in nature, both physical and social, there
existed a natural order. Part of this order was that agriculture alone was productive
and created wealth: but only large-scale agriculture ( grande culture ) with access to
avances, stock of capital. The wealth created by agriculture they called produit
net – net product or net revenue – which vitalized the economy by circulating or
exchanging between sectors. These exchanges were represented in the Tableau
Economique .
But each theoretical concept could produce a policy. The physiocrats advocated
an educational system that would stress what to them was evident; a political system
in accordance with the natural order, based on the despotism of the positive laws,
provided these laws had been laid down by an enlightened despot well advised as to
the character of the natural order; an agrarian change or reform that would impose
in France an agricultural system like the English one, grande culture ; and the impôt
unique , a single tax, as Vauban had proposed, on produit net alone. Finally, they
advocated the generalization of a system of liberty that would favour free individual
action and thus allow the spread of the produit net to all sectors and establish a bon
prix for grain – a price that was remunerative for producers, as Boisguilbert had
proposed.
So fi rst, the physiocrats were not only economists; their economics were inte-
grated in a much wider body of social science. This broad sweep would be lost once
the physiocrats had disappeared and compartmentalization set in. Second, the phys-
iocrats were profoundly marked by their times. They appeared in the arena of ideas
to deal with the problems of the moment, the debates that engaged the France of the
eighteenth century (shown in the second row of the fi gure). But to intervene in the
country’s affairs it did not suffi ce to propose alternative political measures that
might palliate the crisis; they had to seek out the theoretical justifi cations of their
proposals, something which their opponents were unable to do.
The Theory of the Physiocrats
The various tenets of physiocratic theory require individual analysis. With the concept
of evidence , Quesnay developed a theory of knowledge. The concept originated in
Malebranche, and arose from radical Cartesian principles. For Descartes, knowledge
was implicit in the brain, and reasoning was all that was required to reveal it.
Malebranche radicalized this position, allowing that this knowledge could be evident,
146 L.A. d’Abadal
Table 5.2 Physiocratic theories
Method Politics Agriculture Production Circulation reproduction
Theory Evidence Natural order Agriculture the only
productive sector
( Avances )
Produit net (Bon prix)
(Prix fondamental)
Tableau Economique
Economic policy Education Legal despotism Agrarian reform
(Grande et petite
culture)
Impôt unique Trade freedom
Conceptual terminology Avances Grande culture Produit net Bon prix Impôt unique
Capitals Capitalist extensive
agriculture
Net product or surplus High price remunerative Single tax
Prix fondamental
Cost of production
147
5 The Physiocrats
but Quesnay suggested that the senses should aid in this perception, adopting some of
Condillac’s sensualist ideas.
5
So, to some extent, empiricism entered their method.
As a result of this method, it was evident that society was clearly governed by a
natural order. It was this natural social order, analogous to the natural biological
order that could be observed in the human body (at least by a doctor) that main-
tained the balance between its constituent parts, and the result of the natural laws
that governed the functioning of the society and the economy. The political conse-
quence of this natural order was a positive order that respected these natural laws.
Rejecting Montesquieu’s conception, after Quesnay the physiocrats defended legal
despotism, a position that opened them to criticism in a world that was beginning to
tire of full-blooded despotism. The idea of legal despotism was developed in the
main by a disciple of Quesnay, Mercier de la Rivière; in his study the term denotes
a despotism of laws rather than a despotism implemented by an individual. The
positive laws, which corresponded to the natural laws, were to be applied despoti-
cally, and it was to be the laws that should govern. The task of the sovereign was
merely to apply the natural laws with the aid of his counsellors, and the only par-
tially autonomous power that the physiocrats admitted was the judiciary, a power
that had to analyse whether the positive laws were in accordance with the natural
order. And the principles that had to be maintained were Locke’s: Liberty, property
and security. Their motto was “Ex natura, ius, ordo et legis; ex homine, arbitrium,
regimen et coertio”.
The examples of despotism that Quesnay analysed were China and the Incas of
Peru, which in certain aspects conformed to his idea of political order. Curiously,
the Argentine national hero Manuel Belgrano, one of the few Hispanic physiocrats,
drew on Quesnay’s ideas during the struggle for independence of the Americas and
proposed the reestablishment of the Inca monarchy as a political system for the
continent.
In spite of the importance of Mercier’s work on legal despotism, the two found-
ers had specifi c ideas on the subject. The edition of the Traité de la Monarchie
(1758) by Quesnay and Mirabeau
6
a work that they preferred not to publish reveals
some of the contradictions they must have encountered in this theory. In the Traité
they analyse the possible origin of the monarchy, and declare the primacy of the
natural order over the ephemeral occupant of the throne. They appear to doubt the
capacity of the monarch to achieve a true natural order, and to transform it into a
positive order. But the positive law, the refl ection of the natural law, was to serve as
5
This sensualism is explained by Quesnay in these terms: “Les Sensations sont les motifs ou
causes déterminantes de la raison et de la volonté décisive”. The sensualist components may be
seen in Steiner (
1998 ) pp. 30 and ff.
6
A session of the ESHET 1999 annual meeting was dedicated to this subject, with papers by, Eltis
and Eltis (
1999 ) and Cartelier ( 1999 ) . The book, edited by Gino Longhitano, will be published
shortly. A demonstration of Quesnay’s “constitutional” vision that Eltis mentions can be seen in a
conversation between Quesnay and the Dauphin, the future King Louis XVI, referred in Higgs
(
1968 ) p. 45. The Traité has seldom been studied before, an exception being Fox-Genovese
(
1976 ) .
148 L.A. d’Abadal
the framework for the monarchs activity: though they were against the division of
powers, this political system recalls to an extent a constitutional monarchy in which
no legislative body is required because the natural laws are the only ones that need
be applied and established as a “constitution”. Whether it was the character of the
Dauphin, the future Louis XVI, that led them to advocate this limitation of the
power of the monarch is a hypothesis that is still to be studied. In any case, the func-
tion of the enlightened counsel of the monarch is established more clearly to reveal
the natural order.
This work was written at the same time as the Tableau Economique , and the two
works should be seen as the two cornerstones the one political and the other eco-
nomic of well-established societies, or, in the terms of the physiocrats, of the
Royaume Agricole , the Agricultural Kingdom, as the ideal model for the country.
The agricultural and economic components of the theory were to be found in other
works. The Tableau is in a way the economic constitution of the Agricultural
Kingdom, just as the monarchy with a positive legislation that observes the natural
law is its political constitution. The Maximes added to the Tableau reinforce this
impression. The two great conceptual pillars of physiocracy should therefore be
analysed jointly.
In the articles on agricultural subjects the idea of agriculture as the sole produc-
tive area begins to emerge. “Fermiers” discusses the existence of two types of agri-
culture, grande culture and petite culture. Grande culture , mainly concentrated in
the north of France, was the agriculture of the great tenant farmers using modern
techniques (that is, horses, machinery and the three-fi eld system) and with access to
abundant capital; petite culture , on the other hand, was the agriculture of métayers
(small sharecroppers), with few technical means, oxen in place of horses and a two-
fi eld system (crop-fallow rotation). The predominance of the latter type of agricul-
ture in France, especially in the south, was at the root of the economic crisis, and
this preponderance of petite culture and an irrational fi scal system plus the restric-
tions on freedom of trade were the cause of migration to the cities. Implicit in the
physiocrats argument was the need to transform petite culture into grande culture
whenever possible, in other words, to implement an agrarian reform similar to that
effected by the enclosure movement in England.
7
On the way, the physiocrats defi ned avances, capital necessary for production.
They made a detailed description of the various types of capital necessary for the
modernization and proper functioning of French agriculture: souverains , public capi-
tal for developing infrastructure; fonciers , for preparing land for crops; primitives ,
fi xed capital for exploitation and annuels , circulating capital for annual production.
In the article “Grains”, Quesnay calculated the profi ts that would be obtained
from generalizing a system of grande culture and free trade, and by encouraging
7
An apparent contradiction arises if we observe that the “modern” system, the three-fi eld system,
dates from Charlemagne’s time, and became general in the twelfth to thirteenth centuries: it does
not seem to be so modern. For an explanation, see Argemí (
1994 ) . A more general discussion in
Mulliez (
1975 ) .
149
5 The Physiocrats
agriculture over trade or industry. In this article we fi nd the idea of bon prix – the
fair price – high enough to be remunerative, and which permits produit net,
8
the only
surplus created by agricultural production. So, it included the idea of the unique
productivity of agriculture.
9
The fi nal part of the article contained a series of indica-
tions or maxims, which Quesnay would use in later works, especially in the Tableau
Economique . These maxims formed the economic constitution of the ideal Royaume
Agricole , or Agricultural Kingdom.
In a society like the France of the second half of the eighteenth century, the asser-
tion that agriculture was the only productive sector appears accurate enough. First,
agriculture represented the largest part of the economy and employed most of the
population. In addition, when industry is relatively undeveloped and involves only
a few small, independent craftsmen, there is a great temptation to confuse physical
creation with economic creation. One grain produces several grains and a cow sev-
eral calves, but the cloth of a shirt can produce nothing more than the shirt itself, and
so there is no produit net or surplus. If this had been the only discovery of the physi-
ocrats, they would hardly deserve credit as founders of a school, but behind their
statements there lies something more: it has been called the land-theory of value,
similar to the theory of Petty and, later, of Cantillon. The theory is based on a central
idea that the origin and the measurement of the value of commodities are in terms
of land (or in terms of grain, its product par excellence). The value of a commodity
is thus calculated in terms of the amount of land necessary to produce it, or, consid-
ering an average yield in grain per unit of land, in terms of the amount of grain that
the land produces.
The last articles written for the Encyclopédie , but not published at that time,
contain few new ideas. The article “Hommes” looks again at the issue that had led
to the formation of the school (wealth as a cause of population), including other
concepts such as prix fondamental , fundamental price or production cost, valeur
vénale , the market price and the need for free trade.
10
The difference between the
valeur vénale and the valeur or prix fondamental is what constitutes the produit net
or surplus, and so the former must be close to the bon prix to increase the surplus or
produit net.
11
This article also includes the defi nition of manufacture as sterile, or
more precisely of craftsmen as a sterile class, in consonance with the defi nition of
agriculture as the only productive sector; this defi nition is developed more fully in
subsequent works.
12
The article “Impôts” presents a less radical position than is usually attributed to
the physiocrats on the idea of the single tax, although in the fi nal analysis it is this
8
François Quesnay ( 1958 ) , p. 462. According to Perrot ( 1992 ) its origin may be found in Duhamel
(
1750 ) . vol V. p. 158.
9
François Quesnay ( 1958 ) . p. 472.
10
For the relations between the different concepts of valeur and prix in Quesnay’s works, see Vaggi
(
1987 ) .
11
François Quesnay ( 1958 ) . p. 525 as an example.
12
See François Quesnay ( 1958 ) , “ Sur les travaux des artisans ” p. 885 and ff.
150 L.A. d’Abadal
tax that has theoretical support (only net created wealth should be taxed). But this
article contains a clear defi nition of a fundamental concept, produit net , the net
product or net revenue corresponding to the idea of surplus: “the annual wealth that
constitutes the income of the nation are the products which, once all expenditure is
removed, form the profi t obtained from the biens fonds (the land)”.
13
In fact, this
concept is the central point on which the whole of the physiocrats economic theory
is founded; although it can be seen in embryo in earlier authors starting with Petty,
it was the physiocrats who developed it in a more precise form. It is this concept that
permits the proposal of a single tax imposed on it, and since in the physiocrats ideal
situation the net product is paid by cultivators to the landowners in the form of rent,
it is the landowners who will pay the tax, an idea none too attractive to the dominant
classes of the times.
Finally, the article on interest merely considers the need to limit interest rates so
that capital can be directed to productive activities and not to speculation, an idea at
odds with Quesnay’s liberalism, but consistent with his concept of production.
The Tableau Economique
The physiocrats great creation was the Tableau Economique . Its importance, accord-
ing to Mirabeau, can be seen in this statement: “Trois grandes inventions principales
ont fondé stablement les Societés, indépendamment de tant d’autres qui les ont
ensuite dotées et decorées. Ces rois sont, 1¼ L’invention de l’écriture, qui seule
donne a l’humanité le pouvoir de transmettre, sans altération, ses loix, ses pactes,
ses annales, et ses découvertes. 2º Celle de la Monnaie, qui lie tous les rapports entre
les Sociétés policés. La troisième enfi n, qui est due à notre age, et donc nos neveux
profi teront, est un dérivé des deux autres, et les complete également en perfection-
nant leur objet: c’est la decouverte du Tableau Économique”.
Prepared meticulously by Quesnay, it became the group’s hallmark, so much so
that Mirabeau compared its importance with that of the discoveries of money and
printing. But its original zigzag form, as it became known, made it diffi cult to under-
stand. It has been said that it was based on contemporary diagrams of blood
circulation.
14
A fi rst interpretation of the Tableau is that of the different fl ows of expenditure
generated by an initial income. This interpretation has a parallel in the one often
used to explain the Keynesian multiplier. Each expenditure is an income for another
class, which then spends in accordance with specifi ed norms; this generates new
incomes, and so forth.
15
13
François Quesnay ( 1958 ) p. 582.
14
Foley ( 1973 ) . The best descriptions may be found in Eltis ( 1975, 1996 ) and Herlitz ( 1996 ) . The
English picture is taken from Eltis (
1975 ) .
15
This interpretation, perhaps the simplest, is taken from Tsuru ( 1942 ) , but simplifi ed.
151
5 The Physiocrats
The fi rst models of the Tableau were based on a quantity of 400 pounds, a fi gure
that increased to 2,000 pounds in later versions, and which in some of Quesnay’s
texts are referred to as milliards (thousands of millions). The variation in the quan-
tity is probably an attempt to give an empirical presentation of the French economy
of the time. In this regard, Schumpeter included the physiocrats in a chapter entitled
“The econometricians and Turgot”. We will use this example, assuming that it refers
to 2,000 million pounds in the country as a whole. For the sake of simplicity, we will
work with fi gures reduced to thousands, and ignore the use of money.
The starting point is the working capital of 2,000 pounds, the avances of the
cultivators. In the productive process, these 2,000 pounds produce 5,000 pounds,
but since 1,000 pounds are used to pay off the fi xed capital (at a rate of 10%, which
would mean that the capital invested, or the avances primitives, amounts to 10,000
pounds), the net reproduction, or the surplus, is 2,000 pounds. These 2,000 pounds,
the net reproduction, are paid to the landowners in the form of 2,000 pounds of grain
as rent for the land. Half of the sum is spent on manufactured goods produced by
industry the previous year, and the landowners thus have 1,000 pounds at their dis-
posal to spend on manufactured goods.
Annually, industry produces a gross total of 2,000 pounds of manufactured
goods, and has only spent 1,000 pounds, in exchange for food with the landowners.
It needs raw materials, and buys them from the cultivators with the other 1,000
pounds of manufactured goods. It thus exchanges 2,000 pounds of manufactured
goods for 1,000 pounds of grain and 1,000 pounds of raw materials, with which it
can begin the productive process of transforming 2,000 pounds in a particular form
into 2,000 pounds in another form, without net creation of wealth.
Agriculture has produced 3,000 pounds of grain and 2,000 pounds of raw materials
(e.g. linen, etc.); it has paid 2,000 in grain to the landowners and has sold 1,000 in the
form of raw materials to industry, in exchange for manufactured goods (equipment),
and can now begin the productive process with 3,000 pounds, 1,000 in the form of
grain, 1,000 in the form of raw materials and 1,000 in the form of manufactured
goods, which will generate 3,000 pounds of grain and 2,000 of raw materials (with a
net creation of wealth). So, after the exchanges, the initial situation is “reproduced”.
Even though the initial quantity (here 2,000 pounds) varied in the different edi-
tions of the Tableau , to make it consistent with the current situation, as we have
said, there is one aspect that appears to be consistently inaccurate. The consumption
of food by the three classes is assumed to be the same, 1,000 pounds; but the com-
position of the French population in the eighteenth century must have made this
impossible. The small fraction of aristocrats might conceivably consume as much as
the vast majority, who worked the land, if they bought suffi cient quantities of luxury
goods. But the small fraction of craftsmen could only consume the same quantity if
they engaged in foreign trade, which might account for the volume, but would
undermine the theory: foreign trade would be an indirect source of wealth, some-
thing that was alien to the physiocrats. This theoretical problem in the Tableau is
one of the possible weak points of its analysis.
16
16
This fact was pointed out by Meek ( 1962 ) , Chap. 2 .
152 L.A. d’Abadal
One of the most important consequences for economic policy of the Tableau in
particular, and of physiocratic theory as a whole, is the idea of freedom, of
economic liberalism.
17
Wealth had to circulate in the form and proportions described,
and all types of interference were to be avoided. Additionally, if the composition of
the expenditure of the various economic actors varied, the dynamic equilibrium
refl ected in the Tableau would be broken; economic circulation would be reduced,
causing economic crisis.
18
So the landowners would have to spend not less than half
of their income on agricultural products (be they necessary or superfl uous) but
excessive industrial luxury would decrease productive expenditure and reduce
economic reproduction. Nonetheless, the idea of economic freedom, especially with
respect to the trade in wheat, impregnates Quesnay’s other works, from his fi rst
articles on agricultural themes, such as “Fermiers” and “Grains”.
The writings of two of Quesnay’s and Mirabeau’s disciples also deserve men-
tion. Dupont de Nemours wrote De l’origine et progrès d’une science nouvelle
(
1768a ) , and the articles “Catalogue des écrits composés suivant les principes de
science économique” (
1768b ) and “Notice abrégé des différents écrits modernes qui
ont concouru en France à former la science de l’économie politique” (
1769 ) both
published in the journal that he directed, Ephémérides du Citoyen , and the compila-
tion of articles by Quesnay entitled Physiocratie (1768), where Dupont invented the
term physiocracy. These writings form a fi rst attempt to present a history of eco-
nomic thought, evidently linked to what was for Dupont the highpoint of his own
theory. We must add that Dupont included among their predecessors not only
Boisguilbert, Vauban and Cantillon, but also Montesquieu and some agrarian writ-
ers such as Hèbert. And Quesnay included in his writings agronomists like LaSalle
and Duhamel. Liberal agrarism and new agronomy are two other sources of
physiocracy.
Mercier de la Rivière’s L’ordre naturel et essentiel des sociétés politiques (1767)
was a defence of the political theory, that is, of the concept of legal despotism, and
it comes nearer than any other work to being a complete textbook of physiocracy. It
was much valued by later authors such as Adam Smith. As is often the case with
textbooks, however, much of the material it contained had been set forth by other
authors in previous publications.
Interpretation and Evaluation of Physiocracy
We should begin with the interpretations that take into account the complete body
of the physiocrats thought, both their theory and their policies, including their ideas
on the political system. We will call them the doctrinal interpretations.
17
As in some other concepts used in this article, the idea of liberalism appears elsewhere, but for
the sake of consistency we ascribe it to the Tableau .
18
The study of disequilibrium was made in the Philosophie Rurale (1764).
153
5 The Physiocrats
Some of these interpretations of physiocracy have paid excessive attention to the
agricultural aspects of its proposals, and for this reason have described it as a ratio-
nalization of the feudal economic order.
19
But even for Marx, physiocracy was a
system of agricultural capitalism, and, as such, the bourgeois reproduction of the
feudal system.
20
But it was defi nitely capitalist, refl ecting the new society that was
evolving in the north of France.
Marx’s ideas gave place to a second interpretation of physiocracy, an economic
doctrine representative of the interests of a new social group, the new landowners
capitalists, taking the place of the aristocrats, including even Quesnay, who bought
an estate and tried to make it profi table.
21
But this new interpretation does not stress
the essential fact, the capitalist nature of the exploitations that this group defended.
This capitalist nature was the nucleus of the new society.
Additionally, the physiocrats were aware that this new society needed more than
freedom in order to evolve and reach the level of dynamism that existed on the other
side of the Channel. First, it required capital, an indispensable element for the type
of production which the physiocrats considered ideal, large-scale agricultural pro-
duction; and second, a system of free exchange between sectors. And though they
were naive to believe that agriculture was the only sector that could produce surplus,
this was because the conditions of capital fl ow and a social organization including
capitalists and wage-earning labourers were beginning to emerge in the agricultural
setting, and nowhere else. They erred in thinking that it was the conditions inherent
in agriculture that created the surplus – and not the set of economic conditions
which, in their model, were only to be found in agriculture.
In this regard, the physiocrats are the best representatives of a political economy
of agrarian capitalism, as Petty and Cantillon had been before them.
22
The political
economists between Petty and the physiocrats, and even reaching Smith, were a
specifi c group whose main objective was an economy in which only agriculture had
a modern form, and whose basic characteristics could be analysed through the study
of this sector.
Another doctrinal interpretation, complementary to this one, sees physiocracy as
a proposal of economic development based on agriculture.
23
In the eighteenth cen-
tury there were a range of possible economic models: a commercial republic, along
the lines of Venice in its heyday, and which had evolved in Holland in the seven-
teenth century; or a manufacturing nation, along the lines of England, once it had
supplanted Holland as the leading trading nation. The Dutch model was the clearest
example of a mercantilist policy; the English model was already shifting towards
industry, and was progressing towards liberal ideas. The physiocrats economic poli-
cies aimed to create a distinct model. In France, a larger country than either England
19
Beer ( 1939 ) .
20
Marx ( 1963 ) p. 50.
21
Ware ( 1931 ) .
22
McNally ( 1988 ) .
23
Longhitano ( 1994 ) .
154 L.A. d’Abadal
or Holland, the importance of the agricultural sector favoured the Royaume Agricole ,
the Agricultural Kingdom, a proposal that differed from the Dutch and English
models. In this context, their proposals for fi scal reforms acquired considerable
importance, not only in their almost dogmatic defence of a single tax, but in the
more sophisticated conceptions expressed in some of Quesnay’s works. In fact, the
key objective of the new science was the same as Adam Smith’s, that is, to enrich
both the people and the sovereign. Once the fi rst objective had been achieved, the
tax system was crucial to the success of the second. A rich, economically developed
French state would be in a position to compete with Britain. The fi scal concerns of
the physiocrats, that were among the fi rst that spurred them to political and scien-
tifi c debate, are proof of this idea. Incidentally, the three development models cor-
respond to the “systems of political economy” analysed by Smith.
In a way, the physiocrats reproduced on French soil the English Augustean
Debate of the Restoration, after the Revolution of 1688. The confl ict between the
defenders of a State based on the landowners, the Country Party and the defenders
of foreign trade, the Court Party is to an extent refl ected here, though the physiocrats
position at court may make the comparison confusing.
24
An evaluation of the science that the physiocrats developed is also important. In
spite of inventing the new name physiocracy, their proposal included the term politi-
cal economy, part of the new science of which Dupont spoke. This new science had
a precise agenda of its own, and in the France of the eighteenth century it had to
compete with other scientifi c approaches that studied the same phenomena. First
was the mercantilist school, dominant at the time, championed by François Veron
de Forbonnais, whom Quesnay replaced as writer on economic matters for the
Encyclopédie . Forbonnais’ science of trade was widely accepted throughout Europe,
but it was replaced by the physiocrats political economy. After the disappearance of
the physiocracy, the mercantilists would regain their position of prominence in
France for a time, only to be swept away when Say introduced the ideas of Adam
Smith.
Nonetheless, the physiocrats could not be said to have a conception of the econ-
omy such as those of contemporary agronomists and scientists. Though in eigh-
teenth-century France an agronomist was considered a political economist concerned
with the problems of agriculture,
25
and indeed scientists like Linnaeus wished to
give a certain naturalist content to the science, the physiocrats proposals were far
removed from these conceptions.
26
The new science also had to compete with more purely empiricist approaches,
along the lines of the English Political Arithmetic. Perhaps if Petty had published
24
Pocock ( 1975 ) , Chap. XIII.
25
In his entry for “Agronomie”, Rozier (1787) defi ned an Agronome as someone who wrote on
subjects of political economy.
26
Steiner ( 1998 ) studies the different defi nitions in the fi rst chapter, p. 10 and ff. Of special interest
are the defi nitions by Quesnay and Linnaeus; the two were new proposals in front of the mercantil-
ist idea, and both relied on agriculture as the source of wealth.
155
5 The Physiocrats
the complement to his Political Anatomy, this work would have been close to the
physiocratic approach. However, this arithmetical method had few practitioners in
France. It was the physiocrats who brought the rationalist, abstract and theoretical
approach to the science, an approach that fi nally won the day.
Besides the interpretation of the physiocrats economic thought or doctrine, and
of their conception of political economy as a science, it is necessary also to interpret
their economic analysis, or the scientifi c part of their thought. In the fi rst place, the
physiocrats scientifi c approach, like that of their predecessors, was based on a par-
ticular conception of the objectives of political economy. For them, political econ-
omy studied phenomena related to the creation of surplus, and the reproduction of
the economic system on the basis of this surplus. Surplus and reproduction formed
the basic concepts of their idea of political economy, and not scarcity and allocation,
as in present microeconomics. This surplus-reproduction approach, characteristic of
the classical school as defi ned by Marx, began with Petty and Boisguilbert, and
ended with Sismondi and Jones, (and, we should add, with Marx as one of the last
representatives of the classical school).
27
So, the physiocrats were the fi rst to give
form to this specifi c line of economic analysis.
A fi nal interpretation, the standard one, would defi ne the physiocrats as the fi rst
group to propose a liberal economic order, created spontaneously via the actions of
self-interested men, and their proposal was made some time before this order was
defi ned in its standard terms by Adam Smith’s invisible hand. We should stress the
precise formulation of the economic liberalism of physiocracy according to which
the nascent capitalist society operated in accordance with the free play of individual
interest: “The magic of a well-ordered society lies in the fact that each man works
for others while believing that he is working for himself”, said Mirabeau. But his
liberalism was limited to the fi eld of economics. Though some may claim correctly
that this is more a doctrinal line than an analytical one, it must be mentioned because
of the importance of liberal views on economic matters.
Some of the physiocrats instruments can also be interpreted in the light of mod-
ern theories. One modern interpretation of the Tableau is as an Input-Output Table.
28
Indeed, the inventor of Input-Output analysis, Leontiev, always described his work
as a continuation of Quesnay. Although there are a number of technical diffi culties
involved in applying Leontiev’s calculus to the present table, these diffi culties can
be surmounted by considering landowners not only as a productive sector that pro-
vides a very special service (i.e. allowing the land to be possessed by them), but as
the fi nal demanders. Doing so, and in confi rmation of the physiocrats proposals,
agriculture is clearly the only sector that creates wealth.
29
With the Tableau and the idea that agriculture is the only productive area, there
emerges a possible theoretical interpretation of some elements of physiocracy. As
we have said, the physiocrats maintained what we might call the land-value theory.
27
For this approach, see Cartelier ( 1976 ) .
28
See Phillips ( 1955 ) .
29
Maital ( 1972 ) .
156 L.A. d’Abadal
This theory could be reformulated with the instruments used by Sraffa, in a system
of production of commodities by means of commodities, to show, as in the above
case, the idea that agriculture is the only source of production. In this case, the value
of a good is proportional to the amount of land necessary to produce it, either
directly or in the form of land that produces food for the workers involved in the
process.
30
Furthermore, this explanation gives a theoretical basis to the empirical
Tableau , or Input-Output Table, thus linking the two above interpretations.
The Fate of Physiocracy
The physiocrats ideas on both economic theory and economic policy were soon
forgotten. In the policy aspect, physiocratic measures were partially applied in areas
of Baden, by the Margrave Karl Friedrich, a physiocrat, and in Tuscany, by the
Archduke Pietro Leopoldo, a sympathizer. But largely physiocracy was seen as a
“girl as beauteous as an angel, but unluckily a virgin”.
31
Their methods were diffi -
cult to understand, for they were far ahead of their time; their proposals were con-
ceptually radical; and the society around them was changing. They were treated
with contempt, criticized and then ignored. So, the diffusion of their ideas was often
partial and incomplete, and sometimes, only the reactionary interpretation of their
despotism was accepted.
32
Liberal forms of late industrialist mercantilism and cam-
eralism were now in the ascendancy, and very soon Adam Smith was to appear on
the scene. But the contributions of the physiocrats endured, sometimes hidden
behind other ideas. In the fi eld of economic policy, Tocqueville, a leading conserva-
tive, clearly recognized the achievement of the physiocrats: that of having provided
the basis for what would be the economic policy of the French Revolution. But
Tocqueville was also aware of their ambiguous attitude to freedom: economic free-
dom, but political despotism. He classifi ed them as “illiberal”, a telling epithet com-
ing from one who was hardly a supporter of the Revolution.
33
But one way to assess their importance is to concentrate solely on the analytical
aspects of their theory. In the theoretical fi eld, their contributions can be evaluated
fairly by comparison with the proposals of the scholar generally considered to be
the father of our science, Adam Smith. Smith himself wrote a favourable critique of
the works of Quesnay and his disciples, and to a certain extent, maintained partially
some of their ideas (agriculture being more productive than the other sectors, for it
created rent). But between them and Smith there was an intermediate step, which
30
Gilibert ( 1977 ) . For a fuller exposition see Candela, G. and Palazzi, M. “Presentazione”, in
Candela and Palazzi (
1979 ) .
31
Argemí et al. ( 1995 ) .
32
Tocqueville ( 1973a, b ) . “Notes complémentaires”.
33
It is well known that Schumpeter said that of the four greatest economists of history, three were
French: Walras was defi nitely one, and Turgot probably another.
157
5 The Physiocrats
was given by an ally of the physiocrats, a disciple of Gournay and probably one of
Schumpeter’s four greatest economists of all time – Turgot.
34
Merely for being the
precursors of Turgot, and for having had direct and perhaps indirect infl uences on
Smith, the physiocrats are assured of a position in the fi rst rank of the history of
political economy.
But the physiocrats did not take their place in the mainstream of the evolution of
economic thought until well into the nineteenth century. With the compilation pub-
lished by Daire,
35
the dimensions of their work could be evaluated; but this evalua-
tion would have to wait until the middle of the nineteenth century when Marx
36
and
other German authors such as Oncken
37
realized that the physiocrats proposals were
among the milestones of the history of economic thought. Since then, economists
have accepted physiocracy as one of the most important steps in our history. As we
have seen, its legacy is still with us.
Summary
During the third quarter of the eighteenth century, economic debate in France was
dominated by what can be considered the fi rst structured school of thought in eco-
nomic matters, the physiocrats. The term physiocracy, meaning rule or government
of nature, refl ects its members’ interest in proposing a line of interpretation of the
world that was complementary, but different, to the one obtained by the philoso-
phers by means of philosophy. Its sphere was social science as a whole, not econom-
ics alone.
Physiocracy was defi ned by a precise conceptual model, created to allow its pro-
ponents to participate in the controversies on economic policies of the moment. The
physiocrats defi ned themselves as such more by the almost sectarian defence of this
theoretical and conceptual model, and of the language in which it was expressed,
than by their proposals on policy questions.
In political matters, the term “Legal Despotism” was the physiocratic norm, but
it admitted a range of interpretations: despotism based on law (that is to say, consti-
tutionalism), or despotism protected by law (or despotism “tout court”). All the
physiocrats agreed that, inside the framework of the Ancien Régime, it was only
possible to implement the reforms they advocated from a position of power; conse-
quently, it was to the positions of power that their advice and warnings were directed.
Despotism had to be reformist, in spite of the diffi culties involved in implementing
reforms. At the same time, the physiocrats proposals had a liberal component, even
though it was limited to the economic sphere.
34
Lundberg ( 1964 ) .
35
Daire ( 1846 ) .
36
Marx ( 1963 ) .
37
Oncken ( 1888 ) .
158 L.A. d’Abadal
The core of the theoretical model included the following ideas: that agriculture
was the only productive sector; the concept of produit net , its circulation through the
Tableau Economique and, accordingly, the defence of a single tax and of free trade.
But on the way, the physiocrats proposed a theory of value and advanced important
economic concepts such as capital and economic interdependence. At the same
time, the economic policy they proposed, the construction of a Royaume Agricole ,
can be seen as an alternative to the policies of the mercantile republics, or to those
of the manufacturing nations (such as England) which they saw as nations of trade.
Physiocracy is one of the fi rst attempts to build economic science, and as such is
one of the ancestors of present day economics. Both the complete theory and some
of the tools its advocates used can be interpreted in terms of modern economic
theory, and some of the ideas they developed – the economic interdependence of
sectors, the idea of a circular fl ow of income and the concept of capital – remain
with us today.
Acknowledgement I must thank Michael Maudsley for his help with the English version
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JG B kh ( d) HdbkfhHi fE iTh h
Introduction
Adam Smith was appointed to the Chair of Logic in Glasgow University in 1751.
He was translated to the Chair of Moral Philosophy in 1752 and held this post until
he retired from academic life in 1764. During this period Smith took an active part
in the administration of the University and also taught extensively, even by modern
standards. On Mondays to Fridays he lectured to the public or graduating class from
7.30 to 8.30 a.m . and met the same class again at 11 o’clock in order to “examine”
the students on the topics of the fi rst address. He also lectured on the “private” class
at 12 noon, 3 days a week.
According to John Millar, Smith’s most distinguished student and later professor
of public law, Smith devoted the bulk of his time in the private class to the delivery
of a system of Rhetoric and Belles Lettres which was probably based upon the mate-
rials he had worked up when giving a private course in Edinburgh between 1748 and
1751. These lectures were concerned with such topics as the origin of language,
style and above all with analysis of a variety of forms of discourse; in effect a gen-
eral theory of the way in which we communicate ideas, including scientifi c ideas.
Smith’s teaching from the Chair of Moral Philosophy fell into four parts. Again
on the authority of John Millar, it is known that he lectured on natural theology, eth-
ics, jurisprudence and economics in that order and in a style that confi rms his debt
to his old teacher, Francis Hutcheson. Millar also made it clear that the lectures on
ethics formed the basis of the Theory of Moral Sentiments (TMS) (1759) and that
the subjects covered in the last part of the course were further to be developed in the
Wealth of Nations (WN) (1776).
A. S. Skinner (*)
Adam Smith Professor Emeritus in the University of Glasgow’s
Department of Political Economy, Glen House , Cardross , Dunbartonshire G82 5ES , UK
e-mail: [email protected]
Chapter 6
Adam Smith: Theory and Policy
Andrew S. Skinner
162 A.S. Skinner
Adam Smith had a very defi nite research programme in mind from an early date;
a fact which was made clear in the concluding passages of the fi rst edition of the TMS.
The point was also repeated in the advertisement to the sixth and last edition of the
work (1790) where Smith indicated that the TMS and WN were two parts of a plan
which he hoped to complete by giving “an account of the general principles of law
and government, and of different revolutions which they had undergone in the differ-
ent ages and periods of society”.
Sadly, Smith did not live to complete his plan partly at least as a result of his
appointment, in 1778, as Commissioner of Customs. But posterity has been fortu-
nate as a result of the discoveries made by Edwin Cannan (1895) and John Lothian
(1958) which brought to light two versions of Smith’s lectures on jurisprudence as
they were delivered in the sessions 1762–1763 and 1763–1764.
The three parts of Smith’s great plan are highly systematic; each discloses a debt
to contemporary scientifi c work especially in the fi elds of biology and Newtonian
physics; all are interdependent.
The TMS, which builds upon the analyses of Hutcheson and David Hume
(Winch
1978 ), is primarily concerned with the way in which we form moral judge-
ments. It was also designed to explain the emergence, by natural as distinct from
artifi cial means, of those barriers that control our self-regarding and un-social pas-
sions. The argument gives prominence to the emergence of general rules of conduct,
based upon experience, which include the rules of law. The analysis also confi rms
that accepted standards of behaviour are related to environment and that they may
vary in different societies at the same point in time and in a given society over time;
a thesis which owed much to the persuasive infl uence of Montesquieu.
The lectures on jurisprudence on the other hand help to explain the emergence of
government and its changing structure in terms of an analysis which features the use
of four distinct types of socio-economic environment the celebrated stages of hunt-
ing, pasture, agriculture and commerce.
The ethics and Smith’s historical treatment of jurisprudence were also closely linked
with the economic analysis that was to follow. If Smith gave prominence to the role of
self-interest in this context, auditors of his lecture course and readers of the TMS would
be aware that the basic drive to better our condition was subject to a constant process
of moral scrutiny. It would also be appreciated that economic aspirations had a social
reference in the sense that it is chiefl y from a regard “to the sentiments of mankind, that
we pursue riches and avoid poverty” (TMS i.iii.2.1). Later in the book, the position was
further clarifi ed when Smith noted that we tend to approve the means as well as the ends
of ambition. “Hence … the eminent esteem with which all men naturally regard a steady
perseverance in the practice of frugality, industry and application” (TMS IV.2.8).
The lectures on jurisprudence helped Smith to specify the nature of the system of
positive law, which might be expected in the stage of commerce and also throws
some light on the form of government that might conform to it.
Finally, the treatment of jurisprudence is important because it helps to explain the
origins of the modern economy and the emergence of an institutional structure
(Rosenberg
1960 ) where all goods and services command a price. It is in this context
that “Every man … lives by exchanging, or becomes in some measure a merchant”
(WN l.iv.1); a position which leads to Smith’s famous judgement that:
163
6 Adam Smith: Theory and Policy
It is not from the benevolence of the butcher, the brewer, or the baker, that we expect
our dinner, but from their regard to their own interest. We address ourselves, not to their
humanity but to their self-love, and never talk to them of our own necessities but of
their advantages. Nobody but a beggar chooses to depend chiefl y upon the benevolence
of his fellow citizens. Even the beggar does not depend upon it entirely (WN, l.ii.2).
The Workings of the “Invisible Hand”
As far as the purely economic analysis is concerned, it is suffi cient to our present
purpose to be reminded that in the WN the theory of price and allocation was
developed in terms of a model which made due allowance to distinct factors of
production (land, labour, capital) and for the appropriate forms of return (rent,
wages, profi t). This point, now so obvious, struck Smith as novel and permitted
him to develop an analysis of the allocative mechanism that ran in terms of
inter-related adjustments in both factor and commodity markets. The resulting
version of general interdependence also allowed Smith to move from the discus-
sion of “micro” to that of “macro” economic issues, and to develop a model
of the “circular fl ow” which relies heavily on a distinction between fi xed and
circulating capital.
But these terms, which were applied to the activities of individual undertakers,
were transformed in their meaning by their application to society at large. Working
in terms of period analysis where all magnitudes are dated, Smith in effect repre-
sented the working of the economic process as a series of activities and transactions
which linked the main socio-economic groups (proprietors, capitalists and wage-
labour) and productive sectors. In Smith’s terms, current purchases in effect with-
drew consumption and investment goods from the circulating capital of society;
goods which were in turn replaced and income re-generated by virtue of productive
activity in a given time period over a series of such periods.
We should note in this context that Smith was greatly infl uenced by a specifi c
model of the economy which he came across during a visit to Paris in 1766. The
model was designed to explain the operation of an economic system treated as an
organic system. It was fi rst produced by Francois Quesnay, a medical doctor, and
later developed by A.R.J. Turgot, Minister of Finance under Louis XVI (Meek
1962, 1973 ) . The signifi cance of the analogy of the circulation of the blood would
not be lost on Smith – and not would the link with William Harvey, a distinguished
member of the medical school of Padua.
Looked at from one point of view, the analysis taken as a whole provides one of
the most dramatic examples of the doctrine of “unintended social outcomes” or the
working of the “invisible hand”. The individual undertaker (entrepreneur), seeking
the most effi cient allocation of resources, contributes to overall economic effi ciency;
the merchant’s reaction to price signals helps to ensure that the allocation of
resources accurately refl ects the structure of consumer preferences; and the drive to
better our condition contributes to economic growth. Looked at from another per-
spective, the work can be seen to have resulted in a great conceptual system linking
164 A.S. Skinner
together logically separate, yet inter-related, problems such as price, allocation,
distribution, macro-statistics and macro-dynamics.
If such a theory enabled Smith to isolate the causes of economic growth, with the
emphasis now on the supply side, it was also informed throughout by what Terence
Hutchison has described as the “powerfully fascinating idea and assumption of
benefi cent self-adjustment and self-equilibration” (Hutchinson 1988 , p. 268).
The argument is also buttressed by a series of judgements as to probable pat-
terns of behaviour and actual trends of events. It was Smith’s fi rm opinion, for
example, that in a situation where there was tolerable security, “the sole use of
money is to circulate consumable goods. By means of it, provisions, materials, and
fi nished work are bought and sold, and distributed to their proper consumers” (WN,
11.iii.23). In the same way he contended that savings generated during any (annual)
period would always be matched by investment (WN, 11.iii.18); a key assumption
of the classical system which was to follow. In the case of Great Britain, Smith also
pointed out that real wages had progressively increased during the eighteenth cen-
tury, and that high wages were to be approved of as a contribution to productivity
(WN, l.vii.44). The tone is buoyant with regard to economic growth and this was
duly refl ected in the policy stance which Smith was to adopt.
Smith’s prescription with regard to economic policy followed the direction of
analysis just considered. He called on governments to minimise their “impertinent”
obstructions to the pursuit of individuals. In particular, he recommended that the
statutes of apprenticeship and the privileges of corporations should be repealed on
the grounds that they adversely affect the working of the allocative mechanism. In
the same chapter Smith pointed to the barriers of the deployment of labour gener-
ated by the Poor Laws and the Laws of Settlement (cf. WN, I.x.c;IV.ii 42). But there
is also a moral dimension to the argument in the sense that all of the regulations so
far reviewed constitute violations of natural liberty.
Smith objected to positions of privilege, such as monopoly powers, which he
regarded as creatures of the civil law. The institution was again represented as
impolitic and unjust; unjust in that a position of monopoly is a position of unfair
advantage, and impolitic in that the prices of the goods so controlled are “upon
every occasion the highest which can be got” (WN, l.vii.27).
In this context we may usefully distinguish Smith’s objection to monopoly in
general from his criticism of one manifestation of it namely, the mercantile system,
described as the “modern system” of policy, best understood, “in our own country
and in our own times” (WN, IV.2). The system is represented as a coherent whole;
as a set of policies based on regulation and therefore liable to that “general objection
which may be made to all the different expedients of the mercantile system; the
objection of forcing some part of the industry of the country into a channel less
advantageous than that in which it would run of its own accord” (WN, V.v.a.24).
Professor Winch summarised Smith’s advice to the Legislator (cf. Haakonssen
1981 ) in these terms:
The system of natural liberty, should it ever come into existence, will produce a fairer
distribution of income and fewer injustices in the form of infringements of natural liberties
or rights such as those affecting choice of occupation, place of residence, and modes of
employing capital and other types of property (1983, p. 529).
165
6 Adam Smith: Theory and Policy
Functions of Government
Smith’s view of the government, or rather the functions of government, was positive
in other ways. Most obviously, he recognised that the state had an obligation to
provide for defence since in the last analysis security is always more important than
opulence. He also recognised the need to provide an adequate system of justice,
both as a pre-condition of social order and as a basic pre-requisite for economic
growth. Both of these essential services were designed to secure a stable environ-
ment – and so too were a number of economic policies.
In fact Smith was prepared to justify a wide range of policies, all of which have
been carefully catalogued by Jacob Viner in his justifi ably famous article on
Adam Smith and Laisser-Faire Viner (
1927 ) . For example, he was prepared to
justify the use of stamps on plate and linen as the most effectual guarantee of quality
(WN, l.x.c.13), the compulsory regulation of mortgages (WN, V.ii.h.17), the legal
enforcement of contracts (WN, l.ix.16) and government control of the coinage.
In addition he defended the granting of temporary monopolies to mercantile groups
on particular occasions, to the inventors of new machines and, not surprisingly, to
the authors of new books (WN, V.i.e.30).
But four broad areas of intervention are of particular interest, in the sense that
they involve issues of general principle. First, Smith advised governments that they
were faced with taxes imposed by their competitors in trade retaliation could be in
order especially such an action had the effect of ensuring the “repeal of the high
duties or prohibitions complained of ” (cf. Winch
1983 , p. 509). Second, Smith
advocated the use of taxation, not simply as a means of raising revenue, but as
means of controlling certain activities, and of compensating for what would now be
known as a detective telescopic faculty, i.e. a failure to perceive our long-run inter-
est (cf. WN, V.ii.x.4; V.ii.k.50; V.ii.g.12).
Smith was also well aware, to take a third point, that the modern version of the
“circular fl ow” depended on paper money and on credit (Zallio,
1990 ); in effect a
system of “dual circulation” involving a complex of transactions linking producers
and merchants, dealers and consumers (WN, 11.ii.88); transactions that would
involve cash (at the level of household and credit) (at the level of the fi rm). It is in
this context that Smith advocated control over the rate of interest, set in such a way
as to ensure that “sober people are universally preferred, as borrowers, to prodigals
and projectors” (WN, II.iv.15). He was also willing to regulate the small note issue
in the interests of a stable banking system. To those who objected to this proposal,
he replied that the interests of the community required it, and concluded that “the
obligation of building party walls, in order to prevent the communication of fi re, is
a violation of natural liberty, exactly of the same kind with the regulations of the
banking trade which are here proposed” (WN, 11.ii.94).
Although Smith’s monetary analysis is not regarded as among the strongest of
his contributions, it should be remembered that the witness of the collapse of the
major banks in the 1770s was acutely aware of the problems generated by a sophis-
ticated credit structure. It was in this context that Smith articulated a very general
principle, namely, that “those exertions of the natural liberty of a few individuals,
166 A.S. Skinner
which might endanger the security of the whole society, are, and ought to be,
restrained by the laws of all governments, of the most tree, as well as of the most
despotical” (WN, il.ii.94).
Emphasis should be given fi nally to Smith’s contention that a major responsibil-
ity of government must be the provision of certain public works and institutions for
facilitating the commerce of the society which were “of such a nature, that the profi t
could never repay the expense to any individual or small number of individuals, and
which it, therefore, cannot be expected that any individual or small number of indi-
viduals should erect or maintain” (WN, V.i.c.1). In short, he was concerned to point
out that the state would have to organise services or public works, which the profi ts
motive alone could not guarantee.
The examples of public works which Smith provided include such items as roads,
bridges, canals and harbours – all thoroughly in keeping with the conditions of the
time and with Smith’s emphasis on the importance of transport as a contribution to
the effective operation of the market and the process of economic growth. But
although the list is short by modern standards, the discussion of what may be called
the “principles of provision” is of interest for the emphasis which is given to situa-
tions where market forces alone will not generate services or facilities which are
necessary to the economic well-being of the whole.
The theme is continued in Smith’s treatment of another important service, namely
education; a subject which was developed in the course of Smith’s discussion of the
social and psychological costs of economic growth; costs which he attributed to the
division of labour. There are three applications. First, Smith suggested that eco-
nomic development could lead to a decline in martial spirit; a problem which he
likened to leprosy or any other loathsome disease – moving Jacob Viner to add
public health to Smith’s list of governmental functions (Viner
1927 ; Wood 1984 ,
i. 162). In this connection Smith advocated a kind of military education akin per-
haps to that of the territorial but not inconsistent with National Service.
Second, he drew attention to the problem of the relatively poor who lack the lei-
sure, means and inclination to provide education for their children (WN, V.i.f.53).
Smith’s programme is limited but he did advocate the setting up of local schools of the
Scottish model and suggest that the poor could be taught “the most essential parts of
education … to read, write and account” together with the “elementary parts of geom-
etry and mechanics” (WN, V.i.f.54, 55). Smith was prepared to go so far as to infringe
the natural liberty of the subject, where this is narrowly defi ned, in recommending
that the “public can impose almost the whole body of the people the necessity of
acquiring those most essential parts of education by obliging every man to undergo an
examination or probation in them before he can obtain the freedom in any corporation,
or be allowed to set up any trade either in a village or a town corporate” (WN, V.i.f.57).
Finally, Smith advocated training in the higher sciences, such as were taught in
the universities and went so far as to suggest that government should act “by insti-
tuting some sort of probation even in the higher and more diffi cult sciences, to be
undergone by every person before he was permitted to exercise any liberal profession,
or before he could be received as a candidate for any honourable offi ce or trust of
profi t” (WN, V.i.g.14). It will be noted that Smith did not regard education as a
matter of choice but of compulsion.
167
6 Adam Smith: Theory and Policy
Adam Smith on Equitable and Effi cient Government
Smith not only identifi ed the various services which the state was expected to pro-
vide but also gave a great deal of attention to the forms of organisation which
would be needed to ensure and to induce effi cient delivery thus returning the reader
to the role of self-interest. For example, in the case of justice, treated as a public
service, Smith contended that effective provision of so central a service depended
crucially on a clear separation of the judicial from the executive power (WN,
V.i.b.23).
But as Alan Peacock (
1975 ) has pointed out, Smith’s effi ciency criteria are dis-
tinguished from this basic issue of organisation, the argument being, in effect, that
the services provided by attorneys, clerks or judges should be paid for in such a way
as to encourage productivity. Smith also ascribed the “present admirable constitu-
tion of the courts of justice in England” to the use of a system of court fees which
had served to encourage competition between the courts of King’s bench chancery,
and exchequer (WN, V.i.b.20, 21). A further interesting and typical feature of the
discussion is found in Smith’s argument that although justice is a service to the
whole community, nonetheless, the costs of handling specifi c causes should be
borne by those who give occasion to, or benefi t from them. He therefore concluded
that the “expense of the administration of justice … may very properly be defrayed
by the particular contribution of one or other, or both of those two different sets of
persons, according as different occasions may require, that is, by fees of court”
(WN, V.i.i.2), rather than by a charge on general funds.
The theme was continued in the discussion of public works where Smith sug-
gested that the main problems to be addressed were those of equity and effi ciency.
With regard to equity, Smith argued that public works such as highways,
bridges and canals should be paid for by those who use them in proportion to the
wear and tear occasioned. At the same time, he argued that the consumer who
pays the charges generally gains more from the cheapness of carriage than he loses
in the charges incurred (WN, V.i.d.4).
Smith also defended the principle of direct payment on the grounds of effi ciency.
Only by this means, he argued, would it be possible to ensure that services are pro-
vided where there is a recognisable need; only in this way would it be possible to
avoid building roads through a desert for the sake of some private interest; or a great
bridge “thrown over a river at a place where nobody passes, or merely to embellish
the view from the windows of a neighbouring palace; things which sometimes hap-
pen, in countries where works of this kind are carried on by any other revenue than
that which they themselves are capable of affording” (WN, Vi.d.i.6).
Smith also tirelessly emphasised the point, already noticed in the discussion of
justice, namely, that in every trade and profession “the exertion of the greater part
of those who exercise it, is always in proportion to the necessity they are under of
making that exertion” (WN, V.i.f.4). On this ground, for example, he approved
of the expedient used in France, whereby a construction engineer was made a present
of tolls on a canal for which he had been responsible, thus ensuring that it was in his
interest to keep the canal in good repair.
168 A.S. Skinner
The “incentive” argument is eloquently developed in Smith’s treatment of
universities where he argued, notably in correspondence with William Cullen, an
old friend and colleague, that degrees can be likened to the statutes of apprentice-
ship (Corr, 177) which offered no guarantee of quality, and protested against the
idea of universities having a monopoly of higher education (Corr, 174) on the
ground that this would inhibit private teachers, notably of medicine.
In particular Smith objected to a situation where professors enjoyed a stable and
high income irrespective of competence or industry (WN, V.i.f.7): the Oxford, rather
than the Glasgow model. In the same context, he argued in favour of free movement
of students between teachers and institutions (WN, V.i.f.12, 13) as a means of induc-
ing teachers to provide appropriate services. Smith concluded:
The expense of the institutions for education and religious instruction is … benefi cial to the
whole society, and may, therefore, without injustice, be defrayed by the general contribu-
tion of the whole society. This expense however, might perhaps with equal propriety, and
even with some advantage, be defrayed altogether by those who receive the immediate
benefi t of such education and instruction, or by the voluntary contribution of those who
think they have occasion for either the one of the other (WN, V.i.i.5).
While the modern reader has to make a considerable effort to understand Smith’s
intentions, students of his course in Glasgow and perhaps contemporary readers of
his work would quite readily perceive that the different parts were important of
themselves and also that they display a certain pattern of inter-dependence. As we
have seen, the ethical argument indicates the manner in which general rules of con-
duct emerge, and postulates the need for a system of force-backed law, appropri-
ately administered if social order is to be possible. The treatment of jurisprudence
showed the manner in which government emerged and developed through time, and
threw some light on the actual content of rules of behaviour, which are likely to
prevail in the four different socio-economic states.
It would also be evident to Smith’s students that the treatment of economics was
based upon psychological judgements (such as the desire for status) which are only
explained in the ethics, and that this branch of Smith’s argument takes as given that
particular socio-economic structure which is appropriate to the fourth economic
stage, that of commerce. The lesson that he taught was that economic phenomena
should not be seen in isolation.
Conclusion
The modern reader too will fi nd much instruction in Smith’s work, especially if the sepa-
rate parts are seen, as Smith intended they should be seen, as making the parts a greater
whole; an achievement which invites us to consider that economics, ethics and jurispru-
dence should be seen as the essential components of a system of social science.
There are further dimensions of Smith’s thought which are also of continuing
relevance and which refl ect aspects of his teaching in jurisprudence and ethics, seen
now from a different perspective.
169
6 Adam Smith: Theory and Policy
It will be recalled that for Smith the fourth economic stage could be seen to be
associated with a particular form of social and political structure which infl uences
the outline of government and the context within which it must function.
Smith drew attention in this connection to the fact that modern government of the
British type was a complex instrument; that politics was a competitive game with as
its object the attainment of “the great prizes which sometimes come from the wheel
of the great state lottery of British politics” (WN, IV, vii, c, 75). Smith added in a
passage that refl ects the psychological assumptions of the TMS (I, iii.2, “Of the
origin of Ambition”) that:
Men desire to have some share in the management of public affairs chiefl y on account of the
importance which it gives them (WN, IV.vii.c.74).
This point leads on to another which was emphasised by Smith, namely that the
same economic forces which had served to elevate the House of Commons to a
superior degree of infl uence had also served to make it an important focal point for
sectional interests – a development which could seriously affect the legislation
which was passed and thus affect that extensive view of the common good which
ought ideally to direct the activities of Parliament in fulfi lling the functions of gov-
ernment outlined above.
If Smith was alive to the dangers of collective interests he also commented upon
the “insolence of offi ce” and warned against the man of system who “is apt to be
very wise in his own conceit” and who “seems to imagine that he can arrange the
different members of a great society with as much ease as the hand arranges the dif-
ferent pieces upon a chess board” (TMS, IV, ii.2.17).
At the same time, Smith noted that governments on the English model were
likely to be particularly sensitive to public opinion – and as frequently constrained
by it. Smith made much of the point and in a variety of ways. He noted, for example,
that even if the British Government of the 1770s had thought it possible voluntarily
to withdraw from the current confl ict with America, it could not pursue this emi-
nently rational course for fear of public discredit (Corr, 383).
Smith also gave a great deal of attention to the general problems presented by
the confi rmed habits and prejudices of a people and to the need to adjust legislation
accordingly. For example, he likened the fear of engrossing and forestalling in
discussing the corn trade “to the popular terrors and suspicions of witchcraft”
(WN, IV.v.b.26), and described the law dealing with the exportation of wheat as
one which “thought not the best in itself, is the best which the interests, prejudices,
and temper of the Times would admit of” (WN, IV.v.b.53). The reference to the
Wisdom of Solon in the context of the previous discussion fi nds an echo in the
Moral Sentiments (VI.ii.2, 16).
We are reminded that governments as well as markets may have failings (cf. West
1976 ) ; failings which may refl ect imperfect knowledge, and the problem of structure
as well as the role of public opinion – ironically, one of the most important pillars of
political freedom.
Smith recognised the point that in the modern state it is critically important that
the citizen be vigilant, informed, above all else educated, in the broad sense of that
170 A.S. Skinner
term, if an adequate standard of moral and political behaviour is to be sustained.
Or, as he put it:
An instructed and intelligent people … are always more decent and orderly than an ignorant
and stupid one. They feel themselves, each individually, more respectable, and more likely
to obtain the respect of their lawful superiors. They are more disposed to examine, and more
capable of seeing thought, the interested complaints of faction and sedition … in tree coun-
tries, where the safety of government depends very much on the favourable judgement
which the people may form of its conduct, it must surely be of the highest importance that
they should not be disposed to judge rashly or capriciously concerning it (WN, V.i.t.61).
The reference to the role of government reminds us that Smith regarded the study of
political economy, in the old sense of that term, as a “branch of the science of a
statesman or legislator;” of the contrast which he drew between the statesman and
that “insidious and crafty animal” vulgarly called the politician and of his convic-
tion that it was the duty of philosophers such as himself to encourage “the develop-
ment of the public spirited attitudes of the legislator” (Winch
1983 , p. 503). Professor
Winch concluded that “the strategy of persuasion that lies behind the WN … pro-
vides the basis of Smith’s case for bringing science to bear on the conduct of legisla-
tors” (op cit, p. 503; cf. Haakonssen
1981 ) and makes the point that “much of
Smith’s advice … depends on considerations that do not fl ow from economic rea-
soning alone” (op cit, p. 502).
“The argumentation of this chapter is drawn from A System of Social Science
(OUP, 2nd ed., 1996)”.
Works of Adam Smith
EPS Essays on Philosophical Subjects, general editors D.D. Raphael and
A.S. Skinner (OUP, 1980)
Corr Correspondence, ed. E.C. Mossner and I.S. Ross (OUP, 1977)
TMS The Theory of Moral Sentiments, ed. D.D. Raphael and A.L. Macfi e
(OUP, 1976)
LRBL Lectures on Rhetoric and Belles Lettres, ed. J.C. Bryce (OUP, 1983)
WN Wealth of Nations, ed. R.H. Campbell, A.S. Skinner and W.B. Todd
(OUP, 1976)
Stewart Dugald Stewart, Account of the Life and Writings of Adam Smith,
included in EPS
References
Haakonssen K (1981) The Science of a Legislator: The Natural Jurisprudence of David Hume
and Adam Smith. Cambridge: Cambridge University Press
Hutchinson T (1988) Before Adam Smith: the emergence of political economy, 1662–1776.
Blackwell, Oxford
171
6 Adam Smith: Theory and Policy
Meek RL (1962) The economics of physiocracy. Allen and Unwin, London
Meek RL (1973) Turgot on progress, sociology and economics. OUP, New York
Peacock AT (1975) The treatment of the principles of public fi nance in the wealth of nations.
In: Skinner AS, Wilson T (eds) Essays on Adam Smith. OUP, Oxford
Rosenberg N (1960) Some institutional aspects of the wealth of nations. JPE iii:105–120, reprinted
in Wood, 1984
Viner J (1927) Adam Smith and Laisser-Faire. JPE i:143–167, 35; reprinted in Wood JC (1984)
West EG (1976) Adam Smith’s economics of politics. Hist Polit Econ 8(4):515– 539
Winch D (1978) Adam Smith’s politics. OUP, Oxford
Winch D (1983) Science and the legislator. Econ J 93:501–529
Wood JC (1984) Adam Smith: critical assessments. Beckenham: Croom Helm
Zallio F (1990) Adam Smith’s dual circulation framework. Royal Bank of Scotland Review 166
173
JG B kh ( d) HdbkfhHi fE iTh h
David Ricardo was born on April 18th, 1772 in London as the third child of Abraham
Ricardo and Abigail Delvalle. Abraham lived until 1812, having been born in
Amsterdam on March 11th, 1734. Abraham Ricardo was a stockbroker, just like his
father Joseph Israel Ricardo (1699–1762). In the Spring of 1760, Abraham went to
London as an agent for his father, and married there on April 30th, 1769. He was
elected “Parnas”, or warden, of the Portuguese Jewish Community of London in 1785,
1789, 1793, 1798 and 1802, and was also a very successful stockbroker for this
Community. David Ricardo’s grandfather, Joseph Israel Ricardo, had died in 1762 and
was buried in Ouderkerk, the famous cemetery of the Portuguese Jewish Community,
near Amsterdam. In 1721, he had married Hanna Abaz, a Christian lady who con-
verted to Judaism (a “Gijoret”). In the municipal archives of Amsterdam, the father of
Joseph Israel Ricardo is referred to as David Israel of Livorno. His brothers did not use
the name Ricardo either, but just the name Israel, mostly “of Livorno”. Often the pro-
fession of “coral maker” is mentioned in the archives, but perhaps coral trader is
meant. It seems probable that the Ricardos had left Spain for Livorno around 1650.
When arriving in Amsterdam, the Ricardos became active members of the
Portuguese Jewish Community. Abraham and most of his family gave fi nancial sup-
port to the Talmud Tora and Ets Haim (Jewish religious educational establishments).
But the Ricardos were not based entirely in Amsterdam. Apart from the Hague and
London, they went to North and South America and Curaçao. For example, the son
of David Hizkiau Ricardo (Abraham’s brother) Mordechay Ricardo (1771–1842)
went to Curaçao. There he became the protector of Simon Bolivar. Abraham’s niece
Rebecca was the mother of Isaac Da Costa, the Dutch poet (1798–1860).
Little is known about David Ricardo’s youth. In 1824, A Memoir of David
Ricardo appeared anonymously, in which it was said that his father wanted him to
A. Heertje (*)
Em. Professor of Economics, University of Amsterdam,
Laegieskampweg 17 1412 , ER Naarden , The Netherlands
e-mail: [email protected]
Chapter 7
Life and Work of David Ricardo (1772–1823)
Arnold Heertje
174 A. Heertje
go into business, in particular in the stock exchange. We now know that this Memoir
was written by his brother Moses. In it we learn that, to this end, Abraham sent his
son David to Amsterdam from 1783 till 1785, where he stayed in the house of
the widow of his uncle David Israel Ricardo Jr, where also his uncle Moses
Israel Ricardo (1738-1800), registered as a Jewish trader, lived on the Nieuwe
Keizersgracht (Heertje 2004, 2005 ). I assume that there he received general private
lessons. After his return to London, he followed a normal school education “…till
his father took him into business” (Memoir, Sraffa, VIII, page 3). From his 14th
year, he helped his father on the stock exchange.
In a letter to her mother, dated November 14th, 1821, Maria Edgeworth wrote that
Ricardo told her: “We were 15 children. My father gave me but little education. He
thought reading, writing and arithmetic suffi cient because he doomed me to be noth-
ing but a man of business. He sent me at eleven to Amsterdam to learn Dutch, French,
Spanish but I was so unhappy at being separated from my brothers and sisters and
family that I learned nothing in 2 years but Dutch which I could not help learning”
(Colvin
1971 , page 266). Sraffa suggests that Ricardo was sent to the religious school
of the Portuguese Jewish Community in Amsterdam, the Talmud Tora (Sraffa, X,
page 210). However, I have come to the conclusion that this is not true. I did not fi nd
Ricardo’s name in the list of pupils of the Talmud Tora. Moses, in his Memoir, does
not refer to the Talmud Tora, and Ricardo did not mention to Maria Edgeworth that
he had ever received a religious education. That his stay in Holland during 1783–
1785 made a big impression on him follows from a letter written from Amsterdam to
his eldest son Osman in 1822. “Although I had not been in this town for more than
30 years I had no diffi culty in fi nding my way, alone, about those places which had
formerly been familiar to me” (Sraffa
1955 , page 208). This letter is part of a set of
letters written to describe his tour on the continent with his wife and two daughters.
His personal visits to Amsterdam in 1822 concern Portuguese Jews.
On December 20th, 1793, David Ricardo married Priscilla Ann Wilkinson, an
English Quaker. This marriage led to a breach with his father and mother and the
rest of his family. He left his father’s fi rm and with the help of friends he established
himself as stockbroker in the City of London. Within the space of only a few years,
he managed to be far richer than his father. His prestige on the stock exchange was
high. Around 1819, he retired from the fi nancial world in London to live at his coun-
try house Gatcombe Park in Minchinhampton, which he acquired in 1814, and is
now the house of Princess Anne.
From an intellectual point of view, Ricardo was in a certain sense a late fl owering
individual, although already in his youth he showed “a taste for abstract and general
reasoning” (Sraffa
1955 , page 4). He had no systematic education, and his natural
gifts blossomed only after his fi nancial activities and success. From his 25th year
onwards, Ricardo’s fi nancial success enabled him to study mathematics, chemistry,
geology and mineralogy. In 1808 he became a member of the Geological Society
(Sraffa
1955 , page 49). His inclination for the exact sciences changed direction when,
almost by accident, he came across a copy of the Wealth of Nations in 1799 (McCulloch
1846 , page XVII). As a result he then fell in love with economics, although it took
another 10 years before he wrote, anonymously in the Morning Chronicle, an article
on the “Price of Gold” (Sraffa
1955 , page 30) which provoked many reactions. After
175
7 Life and Work of David Ricardo (1772–1823)
this fi rst article, he wrote several pamphlets, and eventually his magnum opus in
1817, “ On the Principles of Political Economy, and Taxation” Ricardo
1817 .
In 1814, James Mill (1773–1836), father of the famous John Stuart Mill (1806–1873),
had not only more or less forced Ricardo to begin writing his Principles but also
urged him to take up a seat in Parliament (Sraffa
1955 , page 138). At fi rst, Ricardo
was not inclined to act on either of Mill’s suggestions on account of his innate mod-
esty and apparent lack of eloquence, both orally and in writing. Nevertheless, in the
Spring of 1819, Ricardo did become a Member of the House of Commons where he
remained until his death in 1823. Once there, he aligned with neither the Whigs nor
the Tories. Later, he was described as a “moderate oppositionist” and as somebody
who “voted on the side of the people” (Sraffa
1955 , page XIX). Ricardo made several
speeches in Parliament, in particular on economic topics. Again and again, Ricardo
defended the interests of the poor and in doing so revealed his social concerns.
His publications in the years 1809–1815 mainly dealt with monetary and fi nan-
cial topics. In these writings, Ricardo reacted to the problems of the day, and made
use of his experience as a man of fi nancial business. But, even in these contribu-
tions, he showed a high degree of independent thinking and originality. An interest-
ing illustration of this was his proposal to substitute the gold standard for a gold
bullion standard, which saves gold in relation to the quantity of bank notes. In his
more theoretical publications after 1815, his sense for abstract reasoning and deduc-
tion came to the fore.
His book of 1817 illustrates the deductive method. The use of the word “suppose”
is characteristic. Although Ricardo did not make use of mathematics himself, in a
certain sense he laid down the foundations of the modern approach in economics, in
particular the introduction of models in economic analysis. In Ricardo’s hands
economics is less a subject with absolute statements and becomes more relativistic.
With a change in assumptions, the conclusions also change.
In our time economics has developed into a set of axiomatic systems. It is inter-
esting to note that Ricardo was reproached for his use of the deductive method,
which was criticized as being apractical and asocial. Both reproaches are
unfounded and can be ascribed to an insuffi cient understanding of the axiomatic
approach to study social relationships. Ricardo’s method has the advantage of
bringing into the open his assumptions and of making explicit the relationship
between starting points and conclusions. This is the basis for the continuing
improvement of the theory. Schumpeter referred to the habit of applying results of
pure theory to the solution of practical problems as the Ricardian Vice (Schumpeter
1954 , page 473). Moreover, his speeches in Parliament and his social behaviour
only refl ect his deep concern for the weak and the poor. His coolness as a theorist
must be distinguished from his warmth as a person. His conclusion that wages will
just cover the cost of living springs from his analysis of a decentralized economy
in which the economic role of the state is modest. It does not imply that he con-
sidered the level of wages ideal.
This brings us to a very important aspect of Ricardo’s position in economics. The
fact is that the interpretation of his work is still under debate. On the one hand, we
recognize the Sraffi an, and on the other hand, the neo-classical interpretation of
Ricardo. According to the neo-classical interpretation, Ricardo belongs to the
176 A. Heertje
Classical School of Adam Smith, Thomas Robert Malthus and John Stuart Mill.
As such, he is part of the harmony model in economics. In this model everybody
aims at the maximization of individual welfare as consumer and producer, which
leads to the best of all possible worlds. In modern economic theory, this is struc-
tured in terms of general equilibrium and Pareto-optimality. Political liberalism is
based on it, and Ricardo was a liberal. He was neither dogmatic nor intolerant, knew
how to separate personal feelings from business and preferred individual freedom to
collective governance. He was a defender of free trade and in favour of small gov-
ernment (Hollander
1979, 1995 ) .
At the same time, Ricardo’s work opens the possibility to regard him as a fore-
runner of Marx, the founder of the confl ict model in economics, i.e. the confl ict
between the proletariat and the capitalists. The following arguments play a role in
this respect. In the hands of Karl Marx, Ricardo’s labour theory of value became an
absolute doctrine. Ricardo restricted his analysis of prices to the case of reproduc-
ible goods. Marx exploited this theory to make labour the source of value.
Ricardo also prepared the way for Karl Marx in another respect. While in the
1817 and 1819 editions of his Principles , Ricardo did not expect serious conse-
quences, for the labourers of introducing machinery, he changed his mind on this
issue in the third edition of this book in 1821. He added a new chapter “On
Machinery”, in which he explained that labourers may suffer from the introduction
of machinery. Later, Marx quoted with approval Ricardo’s famous phrase:
“Machinery and labour are in constant competition” (Sraffa
1955 , page 395). The
essence of this is that technical change may cause a confl ict between the proletariat
and the capitalists. On the one hand the introduction of machinery raises the level
of consumer goods, on the other hand its labour-saving character raises the level of
unemployment. Again, in Marx’s hands, a more or less incidental observation by
Ricardo became the corner stone of his theory on the breakdown of capitalism
(Cozzi and Marchionatti
2001 ) .
Let me add a further note on Ricardo’s distinction between reproducible and
non-reproducible goods. Natural prices have to be distinguished from market prices
in Ricardo’s theory. Market prices are a short-run phenomenon. They are a result of
demand and supply. The Sraffi ans put all the emphasis on Ricardo’s long-run price
theory. The neo-classical economists neglect the long-run approach in Ricardo, and
refer to market prices and the market mechanism in Ricardo. As a member of the
Classical School, Ricardo adhered to the notion of a one-way avenue of production
to consumption. But, as a Sraffi an, he would look at the economic process as a cycli-
cal process, based on reproduction. He would be at ease with the title of Sraffa’s
book (Sraffa
1960 ) : Production of Commodities by Means of Commodities . And
even more so, Ricardo, Marx and Sraffa would be in full agreement.
While Ricardo put aside the case of non-reproducible goods, like paintings and
historical monuments, as they are the exception rather than the rule, in our days
these goods are becoming more and more relevant. From the point of view of price
theory, there is still the problem of Ricardo’s days. Nothing more can be said about
such goods than what Ricardo himself already asserted in 1817 (Sraffa
1955 , page
12), i.e. their value “varies with the varying wealth and inclinations of those who are
177
7 Life and Work of David Ricardo (1772–1823)
desirous to possess them”. In my view the distinction between reproducible and
non-reproducible goods is a lasting contribution by David Ricardo to economic
theory. The analysis of this distinction and its consequences for value and price
theory is a challenge for present-day economic theory.
References
Colvin C (ed) (1971) Maria Edgeworth, Letters from England 1813–1844. Clarendon Press,
Oxford
Cozzi T, Marchionatti R (eds) (2001) Piero Sraffa’s political economy. Routledge, London
Heertje A (2004) The Dutch and Portuguese-Jewish background of David Rcardo, The European
Journal of the History of Economic Thought, p. 281–294
Heertje A (2005) The Dutch and Portuguese-Jewish background of David Rcardo, The European
Journal of the History of Economic Thought, p. 183
Hollander S (1979) The economics of David Ricardo. University of Toronto Press, London
Hollander S (1995) Ricardo – the new view, collected essays I. Routledge, London
McCulloch JR (ed) (1846) The works of David Ricardo, Esq-MP. John Murray, London
Ricardo D (1817) On the principles of political economy, and taxation. John Murray, London
Schumpeter JA (1954) History of economic analysis. Oxford University Press, New York
Sraffa P (ed) (1955) The works and correspondence of David Ricardo, I-XI. University Press,
Cambridge
Sraffa P (1960) Production of commodities by means of commodities, prelude to a critique of
economic theory. Cambridge University Press, Cambridge
179JG B kh ( d) HdbkfhHi fE iTh h
John Stuart Mill (1806–1873) was, during the middle third of the nineteenth century,
the world’s leading economist and also arguably the world’s leading intellectual.
Mill’s collected works are massive, spanning not only economics but also philoso-
phy, political science, psychology, and the entire range of social science (e.g. his
The Subjection of Women is a founding feminist tract). Among major economists,
only Adam Smith could conceivably be ranked with Mill in breadth of focus and
power to integrate different fi elds of study into a powerful argument (David Hume
conceivably outranks Mill in overall contribution to social science, but Hume is not
usually considered to be a major economist).
The key to understanding Mill is that he is the only leading economist in the
history of economics to explicitly advocate the principle of the subordination of
economics to broader social science. To him, “economic truths,” while of great
importance, were trumped for policy purposes by societal context.
1
Despite Mill’s
deep respect for the internal logic of political economy and his insistence on its
profound practical signifi cance, no one did more than he to denigrate the notion
that classical political economy was a suitable guide to social policy when unaided
by the insights of broader social science (see, in particular, Bk. II, Chap. 4, of
Chapter 8
John Stuart Mill’s Road to Leviathan:
Early Life and Infl uences
Michael R. Montgomery
M. R. Montgomery (*)
School of Economics, University of Maine , 5774 Stevens Hall , Orono , ME 04469 , USA
e-mail: [email protected]
1
Wesley Mitchell writes that “[s]ocial philosophy is the larger, the controlling element in Mill’s
mind” (Mitchell
1967 , 562). For example, the “iron laws” of Malthusian population theory were
valid only on the assumption of an ignorant and culturally-bereft working class. By educating the
masses, Mill thought, populations could be taught culture and self-discipline, controlling the sex-
ual urge and defeating Malthusian “law.” Further, Mill routinely rejected the materialism underly-
ing economics as a basis for the broader social sciences, writing that “I regard any considerable
increase in human happiness, through mere changes in outward circumstances, as hopeless…”
( Mill
1969 [1833], 15).
180 M.R. Montgomery
Mill 1929 [1871], or of Mill 1965 [1871]), henceforth to be referenced as
“ Principles ”).
2
Accordingly, Mill often receives high praise from those who decry
“economic imperialism” in social science, particularly with respect to public pol-
icy decisions. Mainstream historians of economic thought, by contrast, are more
inclined to emphasize what they see as his relatively thin contributions to the devel-
opment of technical economics (though it is widely acknowledged that he made
important contributions).
While the scope and signifi cance of Mill’s technical additions to economic the-
ory are still debated, few would deny that Mill’s deepest infl uence falls in the areas
of “heterodoxy” – the interplay between economics and broader social science. His
Principles of Political Economy , while primarily a masterful summary of the fi eld,
was also shockingly heterodox (for its day) at numerous junctures. Whether for
good or for ill, there is no doubt that Mill’s text was one of the most infl uential
books of the last two centuries. It was the supremely dominant introduction to eco-
nomics from 1848 through the publication of Marshall’s text in 1890, and Mill still
was being widely-read during the Twentieth-Century’s fi rst decades. From 1848
through at least 1890, then, it is safe to say that most, if not nearly-all, English-
speaking economists and policy-makers got their start in political economy through
a thorough perusal of Mill’s infl uential volume.
Mill exerted a powerful infl uence on progressive economists such as Richard
T. Ely (founder of the American Economic Association) who were aggressively
seeking rationales to expand the role of government power in economic affairs. In
the last two books of the Principles , but especially in Book V, Mill argued passion-
ately (if unknowingly) for just such an expansion of government authority in the
economy – one that, while considered radical then, is mainstream today. This and
the next article will argue that Mill’s primary contribution to economics lies here, in
his [historically] persuasive arguments favouring government-initiated nostrums for
a wide range of perceived free-market failings.
Mill’s remarkable reputation as an advocate for laissez faire was achieved
through his many statements (in his Principles , in his On Liberty , and in many other
sources) explaining and lauding free-market forces and individual freedom. To
many, then, it comes as a bit of a shock to learn that Mill’s overall verdict on free-
market capitalism was far from enthusiastic (though there is some evidence that in
his last years he was returning to a more pro-capitalistic viewpoint [see Mill
1967
[1879], 703–56]). In fact, Mill was among the fi rst of the major fi gures who, while
fully recognizing the numerous virtues in free-market forces, ultimately held that
market forces also beget unacceptable drawbacks that, to be resolved, had to be
addressed by government fi at. He was, accordingly, arguably a founder of the
“Progressive” movement (he uses the term in a modern sense several times in
2
The primary reference copy of the Principles consulted in this paper is Mill ( 1929 [1871]), the
famous Ashley/Longmans edition providing complete information on Mill’s revisions of the
Principles as Mill took it through its various editions. For the reader’s convenience, page numbers
for the more accessible Collected Works edition are also provided (page references are fi rst pro-
vided for the Ashley/Longmans edition, then for the Collected Works edition.
181
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
his Autobiography )
3
that swept the West in the late nineteenth and early twentieth
centuries (and which is currently enjoying, at least in the U.S., an early-twenty-fi rst
century resurgence as well). A mixed economy in which the virtues of free-market
capitalism would be tempered and guided by the enlightened hand of government
authority is, therefore, the logical implication of Mill’s system.
This article will argue that Mill himself failed to see the profoundly intervention-
ist consequences of many of his “mildly interventionist” arguments. While Mill him-
self thought of such government intervention as exceptional – needed in relatively
few and concrete instances – his arguments in Book V of the Principles are nothing
less than an open-ended invitation for the government to assume a prominent, even
dominant, role in the economy. In making his case (chiefl y in Book V of the
Principles and in On Liberty ), Mill repeatedly displays a remarkable comfortable-
ness with a type of government authority over economic affairs that Adam Smith
likely thought he had dispelled once and for all in the Wealth of Nations . The govern-
ment bureaucrat assumed in Book V of the Principles is honest, trustworthy, enlight-
ened, and completely focussed on enhancing the general good of society – and Mill’s
great prestige as a free-market thinker gave others leave to think of government in
this same way. That Mill had elsewhere shown a healthy skepticism of the govern-
ment, government offi cials, and their typical motives did not appear to affect in the
least his argument for greater government in the Principles and in On Liberty .
It is part of the mystery of Mill that ideas he emphasized in some parts of his
work are not fully carried through in other parts where those ideas are clearly of
vital importance. That essential contradiction, sometimes characterized as a “two
Mills” hypothesis (e.g. Berns
1975 ) , is substantially (but not fully) reconcilable via
Mill’s emphasis on the conditional nature of economic truths: Economic science
must give way to broader social science. It not infrequently does so in the Principles ,
so that Mill often appears contradictory when in his own mind his position was
consistent. It is often asserted that a thinker cannot be truly understood outside the
context of his time and its infl uences – and with Mill, this is particularly so. A survey
of his life and major infl uences is therefore useful.
Early Life
4
Mill was born on May 20th, 1806 in London, to Harriet Burrow Mill and James
Mill. His father James was a remarkable man in his own right, and his multi-volume
History of India (begun in the year of John’s birth) would soon catapult him into
3
Mill ( 1981 [1873]). Henceforth references to Mill’s autobiography will be cited in the text as
“ Autobiography ”.
4
Primary sources for the rendition of Mill’s early life are Mill’s own autobiography (“The
Autobiography of John Stuart Mill” [
1981 [1873]]), Britton ( 1953 ) and Mitchell ( 1967 ) . Mitchell’s
work was written during the fi rst three decades of the twentieth century. The book is largely an
assembly of his class notes and incomplete thoughts, but still a very thorough survey of the history
of economic thought.
182 M.R. Montgomery
national prominence as a leading intellectual of the Benthamite school. JohnMill, in
a sense, had two fathers: his biological one, and Jeremy Bentham, who indirectly
(through his infl uence on James Mill) contributed much to the younger Mill’s cele-
brated (notorious?) education at the hands of his father. Bentham and James Mill
worked closely together during John Mill’s childhood, and the famed utilitarian
theorist was a frequent presence in the Mill household.
5
So were David Ricardo and
numerous prominent leaders of the Benthamite school. Mill was raised at the feet of
giants, and in due course, he himself became one.
The celebrated education of John Stuart Mill is the stuff of legends (Mill’s own
Autobiography is still the best source). Under the stern eye of his father, Mill began
learning Ancient Greek at Age three, and by Age 15 he had mastered Greek, Latin,
most of the works of Greek and Roman antiquity, mathematics through calculus,
numerous classic Histories, and an immense volume of additional literature that
passed the elder Mill’s muster as suffi ciently consistent with the Benthamite mes-
sage he was determined to instil in his son. In the later years of his schooling, Mill
studied philosophy (notably, Plato, whose consistent altruism he thoroughly
absorbed), and political economy via Ricardo’s Principles (Ricardo
2006 [1821]),
The Wealth of Nations (Smith
1937 [1776]) and other works. The elder Mill needed
routine walking for his health, and the young John would walk beside his father,
notes of recent studies in hand, while the elder Mill would be quizzing, demanding,
criticising (often and severely), praising little, correcting contemptuously, and above
all always insisting upon greater effort and achievement from his beleaguered son
than he was then giving (or, often, capable of giving, given John’s age).
Writing much later, Mill expressed the view that his schooling at his father’s
hands had given him “an advantage of a quarter of a century over my contempo-
raries” ( Autobiography , 33), and there is little doubt that such an intellectual advan-
tage was indeed bestowed by his education. Also likely – and often speculated about – is
that such an intense experience infl icted on one so young had damaging psychologi-
cal effects. Mill’s father gave him much discipline but little love (and in return, even
late in life, Mill was unable to express any love for his father [ Autobiography , 53]).
His mother, a comparative cipher in the family, was of little help either in this regard.
A modern psychologist would also point to his social stunting: He was kept from any
normal contact with children his age through nearly the whole of his education. This
supreme isolation, emotional separation, frequent criticism, and intense instruction
likely made for a brilliant intellectual but an emotionally starved and psychologi-
cally unsettled child. In the opinion of many, these pressures would come home to
roost in 1826 in the form of a much-discussed “mental crisis” (as Mitchell termed it
(
1967 , 544); Mill referred to it as “a crisis in my mental history” [ Autobiography ,
137]). It was this breakdown or “mental crisis” that, to a remarkable extent, set Mill
on the course he was to pursue through his most productive years.
5
Apparently, Bentham’s infl uence on John’s education was, at least occasionally, more than indi-
rect. Writing in her journal on April 9th, 1840, Caroline Fox records John’s recollection that
Bentham and James Mill “were very intimate, and they tried educational experiments on John!”
(emphasis added) (Fox
1883 , 106).
183
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
Mill emphasizes a visit to France he made at age fi fteen, during which he mastered
French and acquired life-long loves of mountains and French cultural sophistication
(he also visited extensively on two occasions with J. B. Say
6
). He returned to England
a year later and was soon granted his unoffi cial graduation from his father’s school-
ing. He began to publish in his own right and continued work with Bentham and his
father on various projects. Bentham, James Mill, and those in their circle were at
work on various liberal projects considered outrageously radical for their day. Britton
( 1953 , 9) describes them as:
(1) the foundations of jurisprudence, and the reform of the law; (2) a theory of representa-
tive government based on utility, and the radical reform of Parliament; (3) the building of
economics into a systematic body of knowledge, and the abolition of restraints on trade and
labour; (4) a utilitarian doctrine of morality, and the reform and secularization of education.
In all these undertakings, the rule to be applied was the principle of Utility, or the Greatest
Happiness Principle.
Into this excitingly revolutionary intellectual movement, the young John Mill
poured his entire heart and soul.
7
Mill also developed, for the fi rst time, intellectual
friends his own age. Britton (
1953 , 14–5) describes three signifi cant examples.
First, the Utilitarian society met routinely through about 1826, at which Mill
exchanged views with other promising young Benthamite thinkers. Second, between
1825 and 1830, a reading group met mornings before work at George Grote’s house,
where the group studied Ricardo, James Mill’s The Analysis of the Human Mind ,
the early psychologist David Hartley’s Observations on Man , and other notable
contributions to the knowledge of the day. They also studied German (which Mill
learned at this time).
Finally, and arguably most signifi cantly for his later development, Mill partici-
pated in a celebrated debating society which involved most of the leading young
prodigies in London. Mill and his young Bethamite friends spent much time in for-
mal and informal debate taking on, among others, the young Thomas Babington
McCauley and his circle, as well as disciples of Samuel Taylor Coleridge (who in
his day was not only celebrated as a poet but also as a profound essayist and philoso-
pher). In 1823 he had also joined his father working at India House, where he would
remain until it closed in 1856. Finally, he undertook the extremely challenging task
of taking a huge heap of Bentham’s papers on law totalling many thousands of
pages, and turning them into a coherent manuscript. There were also various other
writing projects. All these activities, pursued simultaneously, no doubt took their
toll even on so prodigious a worker as Mill.
6
These meetings with Say as a young man were arguably far from inconsequential. Schumpeter,
for example, stresses Say’s profound infl uence on Mill’s system (Schumpeter
1954 , 529).
7
Upon fi rst reading Bentham (e.g. Bentham 1970 [1779]), Mill had been thunderstruck by his
rejection of all intrinsic-rights-based doctrines as foundations for legal systems. Here, thought
Mill, was Reason at last applied without compromise to the problems of society. Bentham tossed
aside such then-standard legal concepts as “rights of man,” “social contract,” “right reason,” “law
of nature,” “moral sense,” etc. These were mystical, metaphysical, essentially empty concepts.
Bentham’s principle of “the greatest happiness,” Mill thought, “put an end to all this. The feeling
rushed upon me, that all previous moralists were superseded, and that here indeed was the com-
mencement of a new era in thought” ( Autobiography , 67).
184 M.R. Montgomery
A “Mental Crisis”
Upon completion of Bentham’s manuscript (at which he laboured intensively without
pause for several years), Mill found that he had wound to a stop. He asked himself
whether the goals he had elected to pursue in his life (the promotion of Benthamism
and other liberal causes) would, if achieved, actually make him happy. The answer,
to “hear” him tell it in the Autobiography , was a resounding “no!” The notion that
all he had planned to do in his life would, it seemed, lead him only to a life of misery
and despair was devastating to the young Mill. He found himself wholly unable to
take pleasure anymore from the contemplation of great, noble, altruistic deeds. In fact,
his very capacity to feel anything at all seemed lost. A crisis ensued, during which –
while he was able to appear normal to family and friends – he in fact seriously
contemplated suicide. Ultimately he instead tackled the problem of trying to under-
stand and overcome his affl iction.
Mill’s great personal crisis peaked in 1826–1827 and continued in diminished
form throughout the second half of the 1820s. He described it as “a crisis in my
mental history” – that is, not a psychosis, but instead a clash between his feelings
(or lack thereof) and his consciously-embraced convictions. It was also to a signifi -
cant extent a moral crisis. Mill agonized over his inability to feel enthusiasm for a
life of altruistic self-sacrifi ce. What was wrong with him? Where was the happiness
that ought to have ensued from the prospect of charting a virtuous, reform-oriented,
Benthamite course through life? Mill’s confl ict over what he “knew” was right and
what he felt inside, caused him to intensively contemplate, over many months, what
had gone wrong with his education and his beliefs to bring him to such a state. He
ultimately reached several key conclusions that allowed him to emerge from his
affl iction, several of which revolutionized his intellectual life and beliefs.
First, he concluded that to worry about not being happy was actually to guarantee
his unhappiness. Instead (he decided), just do the right things, and happiness would
come. With that out of the way, he tackled his psychological state. Why was he
unhappy? His education was supposed to have affi xed the right feelings to the right
actions (through a crude, mechanical kind of “conditioning” developed by the early
behaviorist
8
David Hartley and embraced by his father). This had failed him, he
concluded, because the practice of “analytical methods” – like those in which he
had been intensively trained and at which he excelled – tended to fray, and ulti-
mately sever, the links between right attitudes and happy emotions. Such methods,
in fact, tended to heavily repress the emotions generally. This was, he decided, the
explanation for his deadened emotional state as well as his baffl ing inability to call
8
Technically Hartley was an “associationist” psychologist (Schumpeter 1954 , 531), but it seems
clear that, in his belief that purely external forces could thoroughly shape the psyche, Hartley was
presaging the era of Skinner. Mitchell, for example, describes associationism as a doctrine that
presumes “a person’s mind is made up of associations among ideas, and it ought, therefore, be
possible for the teacher or scientist, if he controlled the making of a mind, to make just as good a
machine as the teacher or scientist is capable of” (Mitchell
1967 , 540).
185
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
up properly enthusiastic feelings at the thought of achieving great, other-centred,
deeds that helped society-at-large.
What, then, was happening to him? Thrashing about, looking for the answer,
Mill picked up a copy of William Wordsworth’s poetry. To his astonishment, he
discovered that poetry and literature that lauded altruism in romantic terms – and
especially the romantic poetry of Wordsworth – could not only soothe his soul, but
actually restore both his capacity to feel strong emotion and his link of happy emo-
tions to noble deeds.
9
After reading Wordsworth, Mill was able to slowly lift himself
out of his mental crisis and back into the life he wanted. To John Mill, poetry quite
literally saved his life.
The then-recent works of the Romantic poets had been conspicuously absent on
James Mill’s voluminous reading lists for his son. Now the younger Mill wove the
absence of such works in his education into an elaborate theory, not just of what was
ailing him, but also of what had been lacking in Bentham, in his father, in the entire
Benthamite movement, and in society overall.
Bentham had famously stated that “all poetry is misrepresentation” ( Autobiography ,
115), and the Benthamites as a school were well known for their contempt for all
forms of “sentimentalism.”
10
Now Mill decided he had discovered that poetry – the
deeply sentimental, perfect union of art and conceptualization – had the capacity to
fully unify the intellectual and emotional sides of a human psyche (specifi cally, his
own). There was, it appeared to him, a kind of technology of the soul, involving
poetry (and the arts generally) as a counterweight to intense intellectual activity. It
was not just that a properly-balanced mental state depended critically on a full
appreciation of the role of poetry and the arts in one’s life. An appreciation of poetry
and the arts was essential to the building of a noble, virtuous, wise, and fully-aware
character . To Mill, “character” meant the sum of one’s beliefs, values, judgments,
and actions. One’s character determined, not only one’s capacity to be honest, virtu-
ous, altruistic, etc.; not just one’s capacity to fi nd emotional pleasure and enjoyment
in such noble acts, but the actual ability to see the truth broadly in life – including in
one’s purely intellectual pursuits. Art was crucial in the making of the soul of one
who could see Truth. He who failed to properly develop the artistic side of his char-
acter would invariably make serious mistakes of judgment and context, not only in
day-to-day life, but also in purely intellectual life (see, e.g. Mill’s critique of Bentham
in Mill
1969 [1833], 88–100, especially 91–3; and 111–2).
11
9
In the extensive literature on Mill’s discovery that Wordsworth’s romantic poetry was a salve for
his soul, it has apparently been missed that Wordsworth’s “Tintern Abbey” is an explicitly altruis-
tic work, that would thereby have likely spoken directly to Mill’s problems as he then saw them.
1 0
Mill however hastens to state that many Benthamites were “great readers of poetry”
( Autobiography , 115). The crucial issue was the assessment of poetry’s value. As he put it in dis-
cussing Roebuck (one of his Benthamite contemporaries), Roebuck “never could be made to see
that these things have any value as aids in the formation of character” ( op. cit. , 155).
1 1
Mill speaks of a defi ciency of Imagination in Bentham, and comments: “For want, indeed, of
poetical culture, the images with which his fancy supplied him were seldom beautiful, but they were
quaint and humorous…. The Imagination … is the power by which one human being enters into the
mind and circumstances of another. This power constitutes the poet…” ( Mill
1969 [1838], 91–2).
186 M.R. Montgomery
The “cultivation of character” – in an individual, a “class,” or a nation – would
become one of Mill’s lifelong themes. To Mill, the development of a fully-formed
noble character required deliberate training of one’s emotional state just as much as
it required the purely logical and ethical training he had received from his father
( Autobiography , 147). The cultivation of art and especially poetry, therefore, were
not mere leisurely activities: they were essential “balancing” elements desperately
needed by a healthy psyche.
Mill’s new doctrine of character did not cast either Bentham or even arguably his
father in a particularly favourable light.
12
Mill saw Bentham as a great genius and
believed that his utilitarianism had marked a profound advancement in social sci-
ence. However, Bentham’s crude utilitarian rationalism (as Mill now saw it) had
made inadequate distinction between mean acts and noble acts. All that mattered to
a consistent Benthamite was the pleasure gained by society from such acts, not their
essential nature ( Mill
1969 [1838], especially 95–6; 113; Mill 1969 [1861], 212).
Mill now saw such opinions as dangerously shallow. Noble acts helped build a
noble character; base acts helped build a base character ( Mill
1969 [1838], 98–100; 113).
A virtuous, noble character, then, was a kind of broad capital asset that added to the
public capital stock in numerous ways – among others, by setting a shining example
from which others could learn and fi nd inspiration. Bentham implicitly regarded the
benefi cial consequences of noble acts as little more than a 1-time fl ow – equivalent in
ultimate effect to base acts that created the same amount of [more-or-less immediate]
12
In the case of Bentham, we have as evidence Mill’s rather savage portrayal of Bentham as a man
of genius whose narrowness of experience and general lack of breadth led directly to what Mill
thought of as very serious intellectual errors (see Mill
1969 [1833]; Mill 1969 [1838]). For the case
of his father, the conclusion that James Mill’s lack of sentimental expression constituted a serious
fl aw in character is more diffi cult to document. Mill is very protective of his father in his writings,
but not so much so that another side of his view of his paternal relations cannot be observed. Based
on a number of passages in the Autobiography , Mill clearly attributes his emotional starvation in
his childhood as a core cause of his mental crisis, and this emotionally repressing environment, he
recognizes, was chiefl y due to his father’s infl uence (see, e.g. Autobiography , 113–14). Further,
one might quote from the Autobiography’s fi rst two chapters, among the many generous comments
may be found quite a few criticisms of what he clearly thought of as unreasonable treatment at his
father’s hands during his education. One must also read Mill’s many comments in the wake of
his mental crisis about the weakness of mere reason without its complement, strong emotion (some
of these quotes can be found in subsequent sections). Of the Benthamite movement’s relation to
poetry, Mill records the following (looking backward at his committed Benthamite period):
as regards me (and the same thing might be said of my father), the correct statement would
be, not that I disliked poetry, but that I was theoretically indifferent to it. I disliked any senti-
ments in poetry which I should have disliked in prose; and that included a great deal. And I
was wholly blind to its place in human culture, as a means of educating the feelings.
( Autobiography , 115).
It should also be noted that, as the leading disciple of Bentham, James Mill would be subject to
many of the same criticisms that John Mill levelled at Bentham. Writing critically of the eighteenth
century in his essay on Coleridge, John Mill writes of it: “There were few poets, and none of a high
order; and philosophy fell mostly into the hands of men of a dry prosaic nature, who had not
enough of the materials of human feeling in them to be able to imagine any of its more complex
and mysterious manifestations…” ( Mill
1969 [1840], 142). This criticism could be applied equally
to Bentham or to James Mill.
187
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
pleasure. By contrast, Mill saw virtuous acts (and thoughts) as tiny inputs into the
building of an accumulated stock of personal and societal capital – that is, “charac-
ter.” It was Romantic advocates of the “great man” theory like Wordsworth and
Coleridge – not Bentham and his followers – who understood that it was great, noble
men of character who truly determined (and ought to determine) the fate of societies –
and, to a remarkable extent, also the science of societies.
13
Benthamism therefore
needed to be fundamentally reformed to incorporate these vital insights.
Mill’s doctrine of character also furnished him with the key to the puzzle of what
had gone wrong with his education. He seems to have concluded that his father, while
a virtuous and (in many ways) admirable man, nevertheless had a fl aw of character
which, through his teachings, he had passed on to his son (see discussions above). By
failing to “cultivate” his emotional side, James Mill had over-emphasized his purely
rational faculty at the expense of his emotions. His emotions had eventually become
repressed, and his upbringing of John had, inevitably, refl ected his emotional short-
comings. He had taught John to be a kind of “reasoning machine,”
14
careless of emo-
tion and the emotional needs that were so important as balances to the excesses of
pure rationalism. In the younger Mill’s opinion, the result of this imbalance had been
his “mental crisis.” This mental crisis, and his successful grappling with it, then
became the basis for a wide-ranging re-evaluation of everything from the proper path
to an individual’s psychological “balance,” to the need for a thorough making-over of
society to properly refl ect the preeminent signifi cance of “character” – in determining
the fates of individuals, entire societies, and [nearly] everything in-between.
“Character” as a Dominating Factor in Social Science
Mill’s doctrine of “character” would heavily colour his future intellectual accom-
plishments. First, in Mill’s mind the doctrine of character thoroughly dominated the
insights of classical political economy. An example is Mill’s treatment of Malthusian
population theory. Malthusian theory held that the labouring classes – predominately
13
See Lehman ( 1922 ) ; see also discussion of Coleridge below. Britton points out that, in Mill’s
essay on Coleridge, Bentham’s science is derided as “the empiricism of one who has had little
experience.” By contrast: Coleridge “is placed on an equal with Bentham. The English empiricists
are now shown to lack an adequate notion of society, and to have adopted a false apriorism in their
science of government” (referring here to James Mill’s famous essay “On Government,” the skew-
ering of which by Macauley had given John Mill great food for thought (Macauley
1829 ) ). “The
Coleridgeans (continues Britton) are the true successors of Bacon and Locke in this fi eld; though
their methodology may be wrong their methods are right” (Britton
1953 , 32).
14
In the Autobiography (111), Mill wrote: “I conceive that the description so often given of a
Benthamite, as a mere reasoning machine, though extremely inapplicable to most of those who
have been designated by that title, was during two or three years of my life not altogether untrue of
me.” After his new views caused him to seek out friendship among the Coleridgeans, Sterling told
Mill “how he and others had looked upon me (from hearsay information), as a ‘made’ or manufac-
tured man, having had a certain impress of opinion stamped on me which I could only repro-
duce…” ( op. cit. , 163).
188 M.R. Montgomery
(in Mill’s opinion) men of poorly-formed characters – could not control their basic
sexual urges. Malthus and the orthodox Benthamites took men as they were and
therefore predicted continuous problems with overpopulation in industrial societies.
However, Mill’s doctrine of character gave society, he thought, an escape from the
Malthusian trap. Through enlightened education of the labouring classes, these men
could be fundamentally changed. Character could be imparted unto these classes –
one imagines them sitting together in a big circle and reading Wordsworth to each
other, under the watchful eyes of the more cultivated – giving them the enlighten-
ment (and self-discipline) to escape the Malthusian trap. (The rich landowners
would “help” pay for this education via taxes on inheritances and legacies [ Principles ,
Bk. II, Chap. 2; Bk. V, Chap. 2]).
15
Secondly, the principle of rational self-interest that was at the core of classical
political economy was just a conditional truth, a “merely provisional” ( Autobiography ,
241) feature of the state of mankind as-it-then-was at Mill’s particular point in time. It
was based (thought Mill) on the historically accurate, but ultimately arbitrary,
assumption that the characters of men as they then were under capitalism – primitive,
money-grubbing, base creatures unable to see beyond the crudest of pleasures (as
Mill saw them; see, e.g. the several particularly caustic quotes to be found in
Principles , Bk. IV, Chap. 6) – would remain forever the same. Again, proper educa-
tion stressing the development of noble, other-centred, altruistic characters would
alter the very human clay out of which future society would be built. A New Man
would then emerge who was unwilling (nay, utterly unable) to act in any way that
would enhance his individual well-being at the expense of broader society
( cf. Autobiography , 237–41; Mill
1969 [1861], 227, 230–3).
16
A society of such men would not need capitalism any longer in order to prosper.
They would shed their outdated capitalistic values as a moth sheds its pupae, and
15
In his general discussion of taxes, Mill wrote: “[T]he power of bequeathing is one of the privi-
leges of property which are fi t subjects for regulation on grounds of general expediency” ( Principles ,
809; 811). Mill suggested “as a possible mode of restraining the accumulation of large fortunes in
the hands of those who do not earn them by exertion (e.g. the landed classes in particular), a limita-
tion of the amount which any one person should be permitted to acquire by gift, bequest or inheri-
tance … I conceive that inheritances and legacies, exceeding a certain amount, are highly proper
subjects for taxation: and that the revenue from them should be made as great as it can be made
without giving rise to evasions…. The principle of … levying a larger percentage on a larger sum,
though its application to general taxation would in my opinion be objectionable, seems to me both
just and expedient as applied to legacy and inheritance duties” ( ibid ; ibid ). Further, all estates
without an heir would automatically go into the state’s coffers.
16
“We looked forward to a time … when it will no longer either be, or be thought to be, impossible
for human beings to exert themselves strenuously in procuring benefi ts which are not to be exclu-
sively their own, but to be shared with the society they belong to…” ( Autobiography , 239)…. “But
the hindrance [in bringing about widespread other-centred behaviour] is not in the essential consti-
tution of human nature. Interest in the common good is at present so weak a motive in the general-
ity not because it can never be otherwise, but because the mind is not accustomed to dwell on it as
it dwells from morning till night on things which tend only to personal advantage…. The deep-
rooted selfi shness which forms the general character of the existing state of society, is so deeply
rooted, only because the whole course of existing institutions tends to foster it…” ( op. cit. , 241).
189
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
emerge fully-formed in a new society of voluntarily-embraced socialism, joyously
sacrifi cing themselves for the good of their neighbour. Capitalism would wither
away and die, as individuals that had been carefully educated to have “virtuous”
characters, adopted voluntary socialistic cooperatives based on noble brotherly love
rather than the vicious selfi shness of the profi t motive ( cf. Principles , 788–92; 790–4).
Thus the truths of political economy (to the extent they were based on self-interested
action) represented merely a temporary, barbaric stage of humanity’s development,
soon to be surpassed and overthrown by rational voluntary socialism.
Thirdly, as a direct corollary of the second insight, came the doctrine of the fun-
damental moral corruption of the capitalist, due to the diseased character that must
inevitably be at the core of someone who makes his primary purpose the pursuit of
mere material personal well-being. The capitalist, in fact, was twice damned in
Mill’s new framework: First, for the method of his pursuits (ignoring his emotional
needs and over-emphasizing reason), and, second, for the goal of those pursuits (the
self-centred scramble for mere material well-being). Mill’s personal revolution of
character caused him in his early writings to voice considerable suspicion and some
contempt for the United States, where the crass materialists and their mercantilist
principles held the most full sway over a society.
17
And he was positively caustic in
his comments about English society. By contrast, Mill lauded the cultured and
sophisticated character of French society, particularly the French peoples’ comfort-
ableness with the free expression of emotions (as compared to those stuffy English),
and the great capacity of French intellectuals to conceive of, and proselytize for, an
alternative society built on “other-centred” principles. In the years following his
mental crisis, the young Mill would be routinely smitten with socialist French intel-
lectuals, to whom he would look for many of his “Big Ideas.”
Fourthly, England’s “upper classes,” whose material well-being (in Mill’s opin-
ion) was wholly unearned and, essentially, gathered at the expense of the rest of
society, and whose self-declared mandate to rule Britannia fl ew in the face of the
profound lack of character possessed by those born with the proverbial silver spoon
in their mouths – were beneath contempt. They were corrupt and wholly undeserving
of the disproportionate authority they claimed over English government and society.
Mill “thought the predominance of the aristocratic classes, the noble and the rich, in
the English Constitution, [was] an evil worth any struggle to get rid of … as the
great demoralizing agency in the country” ( Autobiography , 177, 179). Such people
as a class merely made a mess of things and postponed the day of Reform when
“The People” – appropriately educated and chastened by a proper vote-weighting
scheme (discussed below) – would take power.
Fifthly, while democracy was well-and-good up to a point, the doctrine of char-
acter mandated that those of most noble character should have a disproportionately
1 7
In the original 1848 edition of the Principles Book IV, Chap. 6, Mill had sneered at the U.S. as a
land where, despite “very favourable circumstances … all that these advantages seem to have done
for them is that the life of the whole of one sex is devoted to dollar-hunting, and of the other to breed-
ing dollar hunters” ( cf. , Principles , Ashley Ed., 748[n]). Mill’s suspicion of the U.S. seemed to dimin-
ish somewhat after 1860. He was especially impressed by the North’s willingness to go to war with
the South over slavery, and these comments were dropped from the Sixth (1865) and later editions.
190 M.R. Montgomery
powerful role in governing society.
18
Throughout his long life, Mill was fascinated
by various voting schemes that were offered up as alternatives to pure, one-person-
one-vote, democracy. In Thoughts on Parliamentary Reform (Mill
1977a, b [1859]),
Mill proposed a voting scheme in which the more “cultivated” would receive mul-
tiple votes while the less “cultivated” would receive only a single vote. To Mill, those
with the most “proved” education invariably were also those with the most “charac-
ter” (thus, Mill’s scheme featured “a plurality of votes, to be given, not to property,
but to proved superiority of education” [ Autobiography , 261]).
19
The undignifi ed
consequences of the cultured few being unduly inconvenienced by the voting power
of the unwashed many would thereby be avoided in Mill’s preferred State. We see,
arguably, in such cultural elitism the lasting projection of Plato (whom both Mill and
his father revered) and his “philosopher-kings.” By contrast to its special treatment
of the better-educated, Mill’s voting system granted no special status to the self-
educated, self-made businessman, thereby perpetuating the longstanding contempt
in the West for the “character-challenged” capitalists of the merchant “class.” The
school of hard knocks, apparently, was not one to which Mill subscribed.
Sixthly, Mill gave special epistemological status to those whose characters were
intuitive – those with poetical souls, like Wordsworth, Coleridge, and Thomas
Carlyle, who just seemed, somehow, to know things.
20
For the rest of his life – but
particularly in the years immediately following his mental crisis – Mill emphasized
the power of those who could “know” directly through intuition. For example
18
Mill, speaking for himself and his late wife, put the matter thusly: “We were now much less
democrats than I had been, because so long as education continues to be so wretchedly imperfect,
we dreaded the ignorance and especially the selfi shness and brutality of the mass…” ( Autobiography ,
239). See also Mill’s self-characterization of himself as an advocate of a tempered democracy late
in the Autobiography (p. 288).
19
Mill continues: “This recommended itself to me as a means of reconciling the irresistible claim
of every man or woman to be consulted, and to be allowed a voice, in the regulation of affairs
which vitally concern them, with the superiority of weight justly due to opinions grounded on
superiority of knowledge.” “Superiority of knowledge” would be assessed via “a systematic
National Education by which the various grades of politically valuable acquirement may be accu-
rately defi ned and authenticated.” Regarding his proposal, Mill comments that “[a]s far as I have
been able to observe, it has found favor with nobody.” Those of this opinion, apparently, came to
include Mill: in his next paragraph, he lauds the voting scheme advanced by Thomas Hare as “the
greatest improvement of which the system of representative government is susceptible.”
( Autobiography , 261–62).
20
This did not however mean that Mill was willing to be led in his economic theorizing by poets.
Mill, who wrote of Coleridge that “[i]n political economy especially he writes like an arrant drivel-
ler…” ( Mill
1969 [1840], 155) surely would not have gone that far. But it is no exaggeration to say
that Mill regarded constant attention to “the cultivation of the feelings” ( Autobiography , 157)
through art and culture as a necessary condition for a social scientist to maintain the full, humanist
context that alone (as Mill now thought) could lead to truly useful inquiry into society’s proper
values and behavior.
191
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
Thomas Carlyle, as a Being of intuition, had special status, and was not to be judged
by the likes of Mill:
I did not, however, deem myself a competent judge of Carlyle. I felt that he was a poet, and
that I was not; and that as such, he not only saw many things long before me, which I could
only when they were pointed out to me, hobble after and prove, but that it was highly prob-
able he could see many things which were not visible to me even after they were pointed
out. I knew that I could not see round him … and I never presumed to judge him with any
defi niteness, until he was interpreted to me by one greatly the superior of us both—who was
more a poet than he, and more a thinker than I—whose own mind and nature included his
and infi nitely more. ( Autobiography , 183)
This interpreter, “greatly the superior” of both Mill and Carlyle, was Harriet Taylor –
Mill’s future wife. Mill had made her acquaintance in 1830. At age 22, she already
was “known as a very pretty woman with a quick wit and vivid manner” (Britton
1953 , 23). There is little doubt that meeting her was the exclamation point on all that
Mill believed he had learned in the wake of his mental crisis. Here was a person who
understood, intuitively, all that he had reasoned out with such diffi culty following
his crisis, and more – a person with whom his mind and emotions were in near-
perfect harmony. It was also Mill’s fi rst experience with any kind of romance. From
the start of his relations with his future wife, Mill assumed a subordinate position
with respect to many of her views and opinions. In a tellingly submissive phrase in
the Autobiography , he writes of his good fortune at being admitted into her circle.
Harriet and John soon fell deeply in love,
21
a development which inevitably
vexed the still-very-much-alive Mr. Taylor, whose collaboration with his wife
included a young daughter (the marriage had been one of those arranged affairs that
characterized the era). As a point of honour, the relationship between John and the
already-spoken-for Harriet was to be (and by all accounts, was) merely spiritual, but
this did not preclude their spending time together discussing, reasoning, intuitiving,
and (to judge by their correspondence) longing for each other. Taylor, by all accounts
a very good man, at fi rst objected to and fought the “merely” spiritual relationship
between his wife and another man, but eventually he became resigned to the situa-
tion and agreed to accept a diminished role in his wife’s life. Obviously the relation-
ship was satisfactory to no one except the rumour mill (at one point Carlyle wrote:
“They are innocent says Charity, they are guilty says Scandal: then why in the name
of wonder are they dying broken hearted?” Britton
1953 , 24). Harriet and John
wrote themselves and friends agonized letters over their plight, which seemed hope-
less. The situation was solved, albeit tragically, by the death of John Taylor in 1849
(a death that both Harriet and John Mill deeply deplored, especially Harriet). In
1851, Mill and Harriet were wed. They would have only seven-and-a-half years
together as man and wife.
Like Carlyle, Harriet Taylor had, in Mill’s opinion, that special intuition which
let her see at a glance truths that he himself could only arrive at through the plodding
processes of mere book learning and formal reasoning. To Mill, she was a “woman
of … penetrating and intuitive intelligence, and of an eminently meditative and
21
This is judging by their early correspondence, captured in Hayek ( 1951 ) .
192 M.R. Montgomery
poetic nature…” ( Autobiography , 193), with “a heart which thoroughly identifi ed
itself with the feelings of others…” ( op. cit. , 195). Mill wrote that she possessed en
masse all of the admirable qualities which he previously had been glad to fi nd singly
in his friends and acquaintances. A greater intuitive Being thus succeeded Carlyle:
“a person of the most eminent faculties, whose genius … continually struck out
truths far in advance of me … the greater part of my mental growth consisted in the
assimilation of those truths…” ( op. cit. , 253).
22
Many of these “truths” were, it
would seem, versions of the early socialism just-then beginning to emerge as the
primary creed of the fashionable European intelligentsia. There is little doubt that
Harriet, wielding such an infl uence over John, pushed him towards more explicitly
socialist doctrines (however, neither Harriet nor John ever endorsed socialism of the
Marxian type: their’s was always a doctrine of society voluntarily converting to the
allegedly superior socialist system).
23
Despite Mill’s glowing testimony to his wife’s abilities in the Autobiography ,
history has failed to record any contemporary of Mill who shared his exceptionally
high regard for her powers. Historians of economic thought also have seen little
reason in her scanty writings to grant her such a lofty status.
24
Mill, however,
showered his wife with superlatives and granted her nearly the equivalent of full
co-author status in all his works between his publication of the Logic and his wife’s
death, particularly with respect to On Liberty (which he explicitly calls a joint work
between them) and most of those sections in the Principles which he found most
innovative (containing the heterodox insights of which he was particularly proud).
It is far from clear that these attributions to Mrs. Taylor/Mill are unwarranted.
22
An anomaly that requires resolution in Mill’s acceptance of “intuition” is how it can be recon-
ciled with his hardened rejection of the intuitionist theories of knowledge perpetrated by Kant and
his followers. No more vehement opponent of such epistemological theories could be found than
Mill. In his essay on Coleridge (a proponent of Kantian apriorism ), Mill writes: “We see no ground
for believing that anything can be the object of our knowledge except our experience” (
1969
[1840], 128–29). The anomaly vanishes when we observe that, at least to the mature Mill, “intu-
ition” was a special skill acquired from innate ability and experience, not from some innate source.
In a letter late in life Mill writes: “I have long recognized as a fact that judgments really grounded
on a long succession of small experiences mostly forgotten or perhaps never brought into very
distinct consciousness, often grow into the likeness of intuitive perceptions” (Letter to William B.
Carpenter, January 29th, 1872 (Mill
1972 , p. 1868)). This was, however, not always Mill’s view.
As a young man, in a letter to Carlyle, Mill wrote: “I conceive that most of the highest truths are,
to persons endowed by nature in certain ways which I think I could state, intuitive; that is, they
need neither explanation nor proof, but if not known before are assented to as soon as stated”
(Letter to Carlyle, July 5th, 1833 (Mill
1963 , 163)). Shortly thereafter, it appears, Mill abandoned
his notion of intuition as an inborn trait.
23
It is due Harriet Taylor to relate Mill’s own opinion of her infl uence: that she helped counter “a
moment in my mental progress when I might easily have fallen into a tendency towards over-
government, both social and political…” ( Autobiography , 259). “[H]er practical turn of mind, and
her almost unerring estimate of practical obstacles, repressed in me all tendencies that were really
visionary. Her mind invested all ideas in a concrete shape … the weak point in any unworkable
suggestion seldom escaped her” ( op. cit. , 257).
24
A reading of the considerable surviving correspondence between Mill and his future wife/wife
makes it clear that she was highly intelligent and a fi ne writer.
193
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
Co-authorship relationships are not uncommon in which the spark is provided by
one author and the grind-it-out work of putting the spark into tangible form is car-
ried out by another author. To “hear” Mill tell it, this was precisely the professional
relationship between himself and Harriet Taylor, with him playing the subordinate,
grind-it-out role (Mill himself commented generally about co-authorship, pointing
out that “the one who contributes least to the composition may contribute most to
the thought” [ Autobiography , 251]).
Harriet’s strength (to say the least)
25
was not in technical economics, but rather in
helping to provide, and pushing John to include, precisely those “heterodox” ideas
which made the Principles of Political Economy in parts so deviant from the then-
mainstream positions of political economy. Arguably, it was Harriet Taylor Mill, as
much as or more than Mill himself, who was responsible for those sections of the
Principles that (among other things) cleaved production from distribution, lauded
socialist institutions over capitalist ones, prophesied a voluntarily-socialist “futurity of
the labouring classes,” and advocated that (as in Book V) increased activity of govern-
ment was needed to counteract certain weaknesses of the capitalist system.
26
History
abounds in cases where the spouse of a great fi gure exerted a disproportionate infl u-
ence on that fi gure’s work – even when the spouse’s ability was only a smidgen of that
of the great fi gure. With Harriet Taylor Mill we have a spouse of (at minimum) con-
siderable ability, who, in a different era, would likely have had a successful academic
career in her own right, and who was also a powerful, assertive, and even domineering
personality in her relationship with John Mill. Such an individual could not fail to
have considerable infl uence on the thinking of her husband and intellectual partner.
Reaction Against Bentham: Carlyle, the “Lake Poets,”
the Saint-Simonians and Comte
The manner in which Mill had emerged from his mental crisis convinced him that
Benthamism, while still right in the main, nevertheless required a thorough reformation
that fully incorporated the principles he had grasped in his crisis years. Bentham had
died in 1832, his father in 1836. Mill had been reluctant to openly criticise Benthamism
while his father was alive, although he had published an anonymous piece in 1833 that
was at points sharply critical of Bentham and his movement. After his father’s death,
25
Writing about the Political Economy and Harriet’s contribution to it, Mill wrote: “What was
abstract and purely scientifi c was generally mine; the properly human element came from her”
( Autobiography , 257).
26
“For, on the one hand, she was much more courageous and far-sighted than without her I should
have been, in anticipations of an order of things to come, in which many of the limited generaliza-
tions now so often confounded with universal principles will cease to be applicable. Those parts of
my writings, and especially of the Political Economy, which contemplate possibilities in the future
such as, when affi rmed by Socialists, have in general been fi ercely denied by political economists,
would, but for her, either have been absent, or the suggestions would have been made much more
timidly and in a more qualifi ed form” ( Autobiography , 257).
194 M.R. Montgomery
he began openly criticising and revising Benthamism in accordance with the insights
he had gleaned during his “mental crisis” (cf. Autobiography , 213–4).
The primary literary vehicles
27
for this reformation were two lengthy pieces by
Mill on Bentham’s philosophy (in 1838) and Coleridge’s (in 1840) , whom Mill cast
as the two leading thinkers of the age. On the surface, Mill was even-handed in the
two essays, maintaining that these two famous fi gures, apparent antagonists in many
ways, were in fact the bearers of complementary insights. Each had grasped essen-
tial truths that society needed, and each of them had a world-view that was incom-
plete without incorporating the insights of the other.
Despite the veneer of impartiality, it was Bentham who came in for the severe
criticism – not only intellectually but, at points, personally – while Coleridge
escaped mostly unscathed. Writing much later in his Autobiography , Mill recog-
nized that in these two essays he had presented a moderately more favourable
emphasis on the ideas of Coleridge vs. those of Bentham. He attributes it partly to
his reaction against Bentham at this time, and partly due to the fact that he, writing
for “Radicals and Liberals,” needed to emphasize more those doctrines with which
his audience was unfamiliar and likely to under-value without his guidance. Well –
perhaps. But Mill’s essay on Bentham contains an uncharacteristic ferocity that
suggests a rejection of Bentham and his movement that is not only intellectual, but
also deeply personal. There is a palpable tone of bitter protest against outrageous
deception (even betrayal) in some of these passages (a tone that many who once
gave one’s life over to an intellectual “guru,” only to then “outgrow” him/her, would
recognize only too well). Mill later writes in the Autobiography of his excessive
reaction against Bentham during these years. Throughout his long life, Mill never
stopped thinking of himself as a Benthamite (albeit in a sense that he himself
defi ned; cf. Autobiography , 221). It is doubtful, however, that the reformed
Benthamism advocated by Mill would have been very recognizable to Bentham, or
to his father.
The intellectual distance John Mill had travelled away from Bentham and his
father is even more clearly revealed in his private correspondence. In an 1836 letter,
Mill writes of his desire to use his ownership and editorship of the London and
Westminster Review to promote “a utilitarianism which takes into account the whole
of human nature not the ratiocinative faculty only … which holds Feeling at least as
valuable as thought, & poetry not only on a par with, but the necessary condition of,
any true & comprehensive philosophy” (Mill
1963 [Letter to Edward Bulwer,
November 23rd, 1836]).
28
These were shocking, even heretical, thoughts to an
orthodox Benthamite, but they delighted elsewhere. Carlyle, reading Mill for the
fi rst time in this period, exclaimed approvingly “Here is a new mystic”
( Autobiography , 181). The same element piquing Carlyle’s interest generated,
predictably, deep concern among Mill’s former allies (a concern which with the
27
See also Mill’s The Spirit of the Age ( 1986 [1831]).
28
It is due Mill to point out that he immediately continues this remark with the words: “I know I
am writing very loosely & expressing myself very ill…” The message however easily bleeds
through the perhaps poorly-chosen words.
195
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
passage of time would prove fully justifi ed) over Mill’s new views and the direction
in which he was taking the English Liberal reform movement.
As editor, Mill routinely used the Review as a platform to advance his own
“reformed” vision of Benthamism. Not only did his own articles, including those on
Bentham and Coleridge, appear there, but he also published many pieces by Carlyle,
John Sterling, and others “who were in sympathy with Progress as I understood it,
even though I should lose by it the support of my former associates” ( Autobiography ,
215). Lose support by it he certainly did: his father’s old friend Francis Place thought
he was becoming “a German metaphysical mystic” (quoted in Britton
1953 , 22). Sir
John Bowring (a former editor of the Review who had also been Bentham’s literary
executor) characterized him as at bottom a philosopher who had “read Wordsworth,
and that muddled him, and he has been in a strange confusion ever since, endeavour-
ing to unite poetry and philosophy” (quoted in Britton
1953 , 22). Harriet Grote (the
wife of one of the Mill family’s oldest friends) predicted as early as 1837 that the
Westminster Review “would cease to be an engine of propagating sound and sane
doctrines on Ethics and Politics under J. M.” (quoted in Ashley
1929 , x). Mill him-
self, writing in 1841, characterized himself as “having defi nitely withdrawn from
the Benthamite school in which I was brought up and in which I can almost say I
was born” (Ashley
1929 , x–xi; quoted in Ashley, ibid ).
The period from (roughly) 1828 through the early 1840s was when Mill’s intel-
lectual travels took him furthest from Benthamism and laissez-faire principles and
closest to those Romantic, anti-Bentham, anti-capitalist thinkers whose infl uence
was destined to separate Mill forever from the main trunk of social science that had
been so carefully crafted by Bentham, Ricardo, and his own father. These included
in England Carlyle and the “Lake Poets” (Wordsworth, and in particular Coleridge),
thinkers in Germany such as Goethe, the French socialists of the Saint-Simonist
school (founded by Claude Henri de Rouvroy, comte de Saint-Simon), and in par-
ticular the erstwhile Saint-Simonist, Auguste Comte.
Carlyle (who famously labelled political economy “the dismal science”),
appealed to Mill by propounding “the coming of a new Idea, a new Faith – that men
generally would acknowledge what the Poet, or Prophet, would discover” (Britton
1953 , 29). This “new Idea” would engage and eventually overwhelm “the defi cien-
cies of the present age” ( ibid ). Carlyle “condemned alike the English Empiricists
and the French Enlightenment and poured bitter scorn on the mechanical philoso-
phy of the Benthamites” ( ibid ). Mill was not so much enlightened by Carlyle’s
works as he was inspired by them: He wrote that “the good his writings did me, was
not as philosophy to instruct, but as poetry to animate” ( Autobiography , 183).
Carlyle helped reinforce Mill’s developing view that the “present age” was one of
transition, and that its “truths” would not be those of that far-fi ner Age to come, in
which Society’s fl aws would at long last be vanquished. Mill’s anonymously-pub-
lished The Spirit of the Age had so impressed Carlyle that he sought out Mill and
made his acquaintance. A primary theme of this – Mill’s fi rst work expounding his
“new modes of thought” – was that a sea-change was coming, one taking society
away from “the anomalies and evils characteristic of the transition from a system of
opinions which had worn out, to another only in the process of being formed”
196 M.R. Montgomery
( op. cit. , 181). In his ability to poetically reinforce such a belief, Carlyle acted as a
vital ally, and Mill in these years was “one of his most fervent admirers” ( ibid ).
(Mill’s continued insistence on the primacy of reason, and Carlyle’s advancing
mysticism, as well as the waxing infl uence of Harriet Taylor, by 1833 brought about
a breach between the two men.)
Mill also read with enthusiasm the new doctrines coming out of Germany. Goethe
in particular captured his interest, perhaps because Goethe was much like Mill him-
self, with one foot fi rmly planted in reason and classicism and the other placed on
more ambitiously speculative notions. Goethe argued that “laws could not be cre-
ated by pure rationalism, since geography and history shaped habits and patterns, …
in sharp contrast to the prevailing Enlightenment view that reason was suffi cient to
create well-ordered societies and good laws…” ( Wikipedia, The Free Encyclopedia ,
“John Wolfgang von Goethe”). Mill himself would come to believe fervently in the
a-rational relativity of social “laws” – in the principle that the “truths” of one era or
society were not necessarily those of future eras and societies (political economy
being defi nitely included as an example of such conditional truths). Goethe argued
further that “rational laws or fi ats could not be imposed at all from a higher, tran-
scendent, sphere” ( ibid ), an appealing idea to Mill, who was then aggressively
weaning himself from rational, deductive, orthodox Benthamism. Goethe also
“denied rationality’s superiority as the sole interpretation of reality” ( ibid ), a posi-
tion which Mill would not have accepted literally, but which captured poetically
both his reaction against the excessive focus on rational processes in his education
and his new concern with the overly-narrow construing of social science by (as he
would come to call them) “the economists of the old school.”
Wordsworth, and, especially, Coleridge, also exerted a profound infl uence on Mill
in these years. Wordsworth’s poetry, we have seen, had been instrumental in helping
Mill emerge from his “mental crisis.” Further, through their advocacy of a kind of
“great man” theory of society, he and Coleridge also helped Mill clarify in his own
mind his sharp differences with Benthamism. Bentham’s utilitarianism recognized no
special need for leaders, nor any special reason to believe leaders had any greater under-
standing than that of average men. Wordsworth and Coleridge, in sharp contrast,
emphasized society’s need for strong, enlightened men (and women) of character, who
possessed the rare ability not just to make right decisions, but also to inspire those lesser
lights who might otherwise lose their way. The superior character of such enlightened
Beings led irresistibly to their having marked superiority in judgement and decision
making. As Coleridge put it: “…the laws or principles of reason and the regulations of
prudence or understanding can make contact only in the unifying mind of superior
men” (quoted in Lehman
1922 , 647). The “great man” theories of Wordsworth and
Coleridge were instrumental inputs into Mill’s critique of orthodox Benthamism. They
also inspired his later profound distrust of one-man-one-vote democratic institutions.
29
29
Mill’s exposure to Alexis de Tocqueville’s Democracy in America , in which the author (in Mill’s
view) laid out the advantages and dangers of democracy in masterful fashion, also infl uenced sig-
nifi cantly his receding from his former embrace of pure democratic institutions (cf., Autobiography ,
199, 201).
197
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
Coleridge especially infl uenced Mill profoundly in this period, due not only to
his writings but also to his ideas as-funnelled-to-Mill by Frederick Maurice and
John Sterling, two talented disciples of Coleridge with whom Mill was in constant
contact during the years of his change in views. With “[t]he infl uences of European,
that is to say Continental, thought, and especially those of the reaction of the nine-
teenth century against the eighteenth” now “streaming in” upon him ( Autobiography ,
169), Mill found himself joining Coleridge’s rejection of “the let alone doctrine, or
the theory that governments can do no better than to do nothing…” ( Mill
1969
[1840], 156). In particular Mill credits Coleridge for persuading him of the weak-
ness of the case for applying private property principles to the ownership of land.
Coleridge argued that land might properly be held by private citizens only as a de
facto trust for the benefi t of society as a whole. Mill agreed. “The land,” Mill wrote,
“the gift of nature, the source of subsistence to all, cannot be considered a subject of
property in the same absolute sense in which men are deemed proprietors of that in
which no one has any interests but themselves – that which they have actually called
into existence by their own bodily exertion” ( Mill
1969 [1840], 157).
Mill also was persuaded by Coleridgean methodological arguments that social
science at his point in time could only be “a philosophy of history,” not the theoreti-
cal and deductive science that Bentham and his father had envisioned. And to Mill,
history had demonstrated conclusively a principle of which Benthamites seemed
almost willfully blind: that an “essential condition of stability in political society, is
a strong and active principle of cohesion among the members of the same commu-
nity or state” ( Mill
1969 [1840], 134–5). Society, Mill now thought, was quite a bit
more than just a bunch of disjointed individuals. Mill now decided that the orthodox
Benthamites and the “economists of the old school” had missed the vital fact that
most people needed something – or perhaps, Someone – more than mere market
forces to believe in. Such belief was, in fact (thought Mill), the glue that bound suc-
cessful societies together (cf. op. cit. , 135). Coleridge had put forth the Church as
the force in society that would play the binding-together role. Mill had no religious
faith with which to embrace Coleridge’s suggestion, but the broader principle itself
gripped him. Now, in direct opposition to the views of Bentham and his father, Mill
“found himself asserting the value, for human happiness, of an orthodoxy , sup-
ported by institutions capable of providing moral and intellectual leadership”
(Britton
1953 , 28).
But could such a valuable orthodoxy be generated in a secular form? Enter the
French Saint-Simonians, who taught that there are “natural stages in social devel-
opment,” successive stages of societal change consisting of Ages of “settled ideas
and practices and a settled order of government” followed by “Ages of Transition”
( ibid ). Mill felt himself to be living in such an “Age of Transition” – an era in which
even the most settled principles of the present-day were subject to overthrow by the
march of progressive ideas. In such an era, a “scientifi c” orthodoxy could replace
the weakened theological framework, ushering in an era in which a “new settle-
ment will rest, not on theology, not on a priori reasoning, but on ‘positive’ notions
– on principles verifi ed by observation in the manner of the physical sciences”
( ibid ). From the Saint-Simonians, Mill took a boundless faith in the potential power
of observationally based (vs. merely deductive) social science to re-shape and
198 M.R. Montgomery
reform society’s institutions into Higher forms. Such positive institutions, in the
fi rm-but-gentle hands of an intellectual elite, would guide society into those sunny
uplands of socialist splendour about which he and his wife dreamed.
Mill was not too enamoured with the specifi cs of the socialistic scheme actually
advocated by the Saint-Simonians.
30
He was less interested in the system itself than
he was with the likelihood that Saint-Simonism would, in proportion to its success,
help push civilization nearer to “an ideal of human society” ( ibid ), bringing to a
close what he was coming to believe was a current era fi lled with social injustice.
Here as well the Saint-Simonians caused Mill to “see”:
Their criticisms on the common doctrines of Liberalism seemed to me full of important
truth; and it was partly by their writings that my eyes were opened to the very limited and
temporary value of the old political economy, which assumes private property and inheri-
tance as indefeasible facts, and freedom of production and exchange as the dernier mot [the
last word] of social improvement. ( Autobiography , 173, 175)
We see here, emerging out of Mill’s intensive exposure to socialist writings and
ideas, a utopian streak that would appear off-and-on, at odd moments, throughout
his future writings. A new context for viewing society was being formed in Mill’s
mind. Political economy was an invaluable aid to policy in “the present age.” Still,
however valuable it was to that age, only a shallow-thinking “economist of the old
school” would casually assume that such doctrine would be of any substantial value
in the reformed Great Age to come. Mill’s exposure to the Saint-Simonians taught
him, “after some resistance … that some form of socialism might be the ultimate
form of human society…” (Britton
1953 , 27). The “Laws of Production” were fi xed
and intractable and would apply to any society, socialist or capitalist, but the laws of
humanity – the laws of society (including the “Laws of Distribution”) were not
fi xed. Henceforth, Mill felt himself justifi ed in contemplating the “ultimate” form of
human society as a separate quest from his investigations into how the economic
laws of the present society actually worked. There would no longer be any reason to
presume that the Grand Age to come would be constrained by the societal laws of
the present age – including those “laws of economics” other than those purely tech-
nical ones pertaining to “production.”
The continental thinker who infl uenced Mill most profoundly along these lines
was Auguste Comte. Mill had fi rst read Comte in 1828 along with a number of
articles by other Saint-Simonians, and immediately marked Comte’s piece as the
most impressive. Comte subsequently differed with Saint-Simon and left the Saint-
Simonian movement. Mill lost track of Comte for several years, but he resurfaced in
1838 as author of the fi rst two volumes of his celebrated Positive Philosophy . Mill
found its insights regarding the building of a “science of society” profound (calling it
in one letter “very near the grandest work of this age” [quoted in Ashley
1929 , xi]),
30
Under the Saint-Simonian elite, “the labour and capital of society would be managed for the
general account of the community every individual being required to take a share of labour either
as thinker, teacher, artist, or producer, all being classed according to their capacity, and remuner-
ated according to their works” ( Autobiography, 175).
199
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
and he promptly initiated a lengthy correspondence between the two men (remarkably,
they never met [ Autobiography , 219]).
Mill took from Comte a grand vision of a comprehensive social science, which
he labelled “sociology,” that would be capable of explaining all social phenomena
(within which the more-narrowly-premised fi elds such as political economy would
fall into their proper place). As an former Saint-Simonian, Comte had his own ver-
sion of “Stage Theory” – “three stages in every department of human knowledge:
fi rst, the theological, next the metaphysical, and lastly, the positive stage” – with the
“positive stage,” in which empirical science would become the captain of society,
bringing in a new golden era of progress. This conception reads well until we recall
that Comte’s version of social science was in large part “scientifi c” socialism with a
well-developed totalitarian bent (a conception that Mill would decisively reject
when Comte published his plan for society [ Autobiography , 221; see also,
Mill
1969
[1865]]). At the time, however, Mill found Comte’s scientifi c-seeming stage
theory to be almost hypnotically compelling (cf. Ashley
1929 , xi), particularly with
respect to the building of an authentic science of society. As Mill himself put it in
typically understated fashion, “This doctrine harmonized well with my existing
notions, to which it seemed to give a scientifi c shape” ( Autobiography , 173).
Comte’s ambitious conception inspired Mill to attempt to develop a new science –
which he named ethology – that he hoped would be worthy of Comte’s vision.
Ethology was to be a science of the formation of character , and, in combination
with other related fi elds such as political economy, would be able to explain and
perhaps predict the progress of an entire society. It would be an ambitious attempt
to defi ne societal “laws of motion” on the largest scale (Mill would likely have been
transfi xed by Asimov’s Foundation Trilogy and its fi ctional development of “psy-
cho-history” [e.g. Asimov
1951 ] ). Mitchell describes Mill’s quest for a general sci-
ence of “ethology,” a science which
has not been developed but might be by a consistent thinker who set himself to do the job.
This is the science which has to deal with the laws of the formation of individual character.
One of Mill’s deep-lying convictions about mankind was that the character of people in dif-
ferent countries and even to a considerable extent the character of people who lived in con-
siderably separated periods in the same country, is considerably different. He thought that it
should be feasible to study the conditions of greatest signifi cance in forming the character
of men, in a fashion which would go far toward explaining differences in character. The
investigator then might account for the fact, for instance, that the British public had a certain
character in economic transactions which Mill thought was appreciably different from that
exhibited by the French, or Germans or other continentals. (Mitchell
1967 , 589–90)
Thus Mill might have been thinking along the broad lines pioneered in the modern
era by, say, Fukuyama (
1995 ) , who tries to explain differing levels of prosperity-
enhancing social cooperation by reference to varying levels of “trust” in a society.
One thinks also of the “social capital” movement, which has raised its fl ag in the
border areas between sociology and economics (e.g. Putnam
2000 ) . Mill had more
than just a glimmer of such possibilities; e.g. from them stem his rejection
(see quote above) of the notion of economics as a universally applicable social sci-
ence equally valid in all societies regardless of time and place (a core premise of the
doctrine of neoclassical theory). However, even after strenuous efforts, Mill was
200 M.R. Montgomery
unable to make any substantial progress with “ethology” and abandoned his quest
(though a brief discussion of it does appear in his Logic ). Despite his failure, the
conception of an over-arching unifi ed theory of broad social science – one which
recognized the importance of history and also was in touch with developments in
the physical and biological sciences – never left him. It would later inspire his very
broad-based approach to social science as seen (e.g.) in his Principles .
Comte’s shining vision (to Mill) of a very broad “sociology” made, for a time,
political economy pale by comparison in Mill’s mind. Comte himself had seen only
a provisional utility in the latter fi eld, as it had helped to disrupt and discredit that
“industrial policy of the ancien regime ” (Ashley
1929 , xiii) which, thought Comte,
stood between civilization and further progress. However, having served that pur-
pose, political economy ought now to assume its proper place as a thoroughly subor-
dinate branch of Comte’s broader scientifi c vision (indeed, its further development
should await the culmination of that vision). Comte saw little remaining present pur-
pose to political economy, which in his view wrongly propagated a narrow-minded
rejection of useful government interventions in the economy while ceaselessly advo-
cating “the sterile aphorism of absolute industrial liberty” (quoted in Ashley
1929 ,
xiii). (Smith’s Wealth of Nations , with its lofty breadth and canny observations of
actual economic conditions, escaped Comte’s censure, but the Ricardians had devi-
ated disastrously from the path laid out by the Scottish Master.)
Fundamentally the diffi culty Comte saw was with what he considered the exces-
sively narrow foundational premises of political economy – premises like the auto-
matic assumption of narrowly-focussed self-interest that divided political economy
sharply and inappropriately from the other social sciences. Mill, in the midst of his
reaction against Benthamism, responded enthusiastically to such arguments. The
“interest-philosophy of the Bentham school,” stated Mill in the Logic , was thor-
oughly unsatisfactory if one is trying to devise a general theory of government and
its proper role in society (cf. Ashley
1929 , xiii–xiv). For such a purpose, political
economy was unsatisfactorily “founded on one comprehensive premise: namely,
that men’s actions are always determined by their interests” ( ibid ). When such nar-
row-minded “economists of the old school” succinctly summarized their theory of
government with the slogan laissez faire !, they were being led by their narrow prem-
ises into blanking out essential features of the human condition that, if considered
carefully and fully, would force upon them a far different policy conclusion:
These philosophers would have applied and did apply their principles with innumerable
allowances. But it is not allowances that are wanted. There is little chance of making due
amends in the superstructure of a theory for the want of suffi cient breadth in its foundations.
It is unphilosophical to construct a science out of a few of the agencies by which the phe-
nomena are determined, and leave the rest to the routine of practice or the sagacity of con-
jecture. (Mill, quoted in Ashley
1929 , xiv)
When Comte suggested, however, that political economy as a fi eld was fatally dam-
aged by such critiques, Mill was quick to demur. The founding premises of political
economy were appropriate for “one large class of social phenomena of which the
immediate determining causes are principally those which act through the desire of
wealth; and in which the psychological law mainly concerned is the familiar one
201
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
that a greater gain is preferred to the smaller…” (Mill, quoted in Ashley 1929 , xv).
Mill was perfectly willing to defend the existence of a social science (economics)
built on narrower premises: what he was unwilling to accept was such a science
pretending that its premises were wide enough to support the entire superstructure
of a proper social science.
The problem in Mill’s mind, then, was not with political economy when applied
in the proper manner to its appropriate subject manner (the quest for wealth and its
consequences). The problems arose when political economy was applied to social
problems where the narrowness of the “interest-philosophy” assumption was inap-
propriate for the object under study. In particular (thought Mill), the limiting scope
of the orthodox political economist’s premises prevented such an economist from
seeing that, in the Enlightened Society That Is To Come, well-educated individuals
of character would routinely resist the siren call of narrow self-interest in favour of
the promotion of the larger interest of the group, potentially leading to a societal
quality of life far higher than in the materialistic society. In such a society, even the
sacrifi cer’s life would be improved, since such a person of character would derive
far more pleasure from knowing of the broad good he has done society, than he
would have derived from narrowly-construed purely selfi sh and materialistic
pleasures.
Such a “win–win” was precisely the kind of reasoning Mill and Harriet Taylor-Mill
emphasized in painting an optimistic vision of a future for mankind as a voluntarily
socialist society. From such speculations came their fondest hopes. Meanwhile, there
was no reason in the current age to ignore the lessons of the best economic principles
as put forth by the Ricardian school, the masters of the “interest-philosophy.” The
radically differing contexts separating the utopian future and the materialistic present
explains how Mill could write a lengthy tome on classical political economy, over
eighty percent of which consisted of quite orthodox insights based on the premise of
individual self-interest narrowly construed, while at the same time inveighing against
the role played by narrow self-interest in “the present state of society” and cherishing
radical socialist visions for a future in which the “merely provisional” principles of
political economy would be vanquished to the ash-bins of history.
The Logic and World Fame
Having seen Mill’s focus in his early scholarly years on topics other than political
economy, it is not surprising to fi nd that Mill’s “breakthrough book” was not on
economics at all, but instead on philosophy and the methodology of science. Mill
had been working on a comprehensive logic treatise through much of the 1830s and
early 1840s. He published A System of Logic: Ratiocinative and Inductive in 1843
(Mill
1973 [1843]). The two-volume work was much broader in scope than the typi-
cal modern logic text, which tends to focus on deductive methods. Mill wanted to
write a work successfully elucidating (and defending) induction as a potent method
of acquiring knowledge. He wanted to defend a tabula rasa theory of knowledge
202 M.R. Montgomery
with which to challenge the waxing Kantian intuitivism and Idealism. And, he
wanted to talk sense about the methodology of the social sciences. He succeeded in
doing all this and more.
The book was very well-received, and it made Mill’s reputation as a fi rst-class
thinker. Mill’s expression of surprise at the tome’s success no doubt captures the
sentiments of other authors who have had a triumph with a book of similar dryness:
“How the book came to have, for a work of the kind, so much success, and what sort
of persons compose the bulk of those who have bought, I will not venture to say
read, it, I have never thoroughly understood” ( Autobiography , 231). Mill cites “a
revival of speculation” and the fortuitous arrival of complementary texts as factors.
In his own view, a primary virtue of the work was its anti-Kantianism – its deriva-
tion of all knowledge directly from experience rather than from (as he saw it) some
specious “intuition.”
It seems likely, however, that Mill’s accessible treatment in the book’s latter sec-
tions of what we would today call the “scientifi c method also contributed” to the book’s
success. Here, at any rate, were proposed answers to important problems of inquiry.
The Logic’s focus on inductive methods, with its rules of proper generalization, falla-
cies of observation, etc., at any rate promised direct connection between scientifi c
methods and the actual world – surely a vast relief for many facing an era of burgeon-
ing Kantianism. Mill’s “Theory of Inverse Deduction,” by which hypotheses are exam-
ined by studying historical episodes and observing whether or not the hypothesis is
contradicted by the episode, is an appealing notion that doubtless also drew contempo-
raries’ attention. Finally, his Book VI on “The Logic of the Moral Sciences” addressed
a topic then garnering more and more attention. But, overall, it was the book as a
whole, with its majestic scope, and its blending of inductive and deductive methods,
that likely gave it such infl uence over the nineteenth century. The book’s stellar nine-
teenth-century reputation has not survived too well the twentieth, and Mill is today far
better known for other works (most notably, On Liberty [Mill
1977a, b [1859]]). But in
its day the Logic was regarded as a uniquely valuable contribution to scholarly knowl-
edge. Writing early in the Twentieth century, Mitchell commented that the Logic “has
an importance in the development of modern thought greater than that of his Principles
of Political Economy ” (Mitchell
1967 , 557). We may gainfully close by relating the
eminent British philosopher Karl Britton’s tribute to the work’s infl uence:
The Logic has continued to infl uence philosophers as well as to guide the refl ections of
undergraduates. Jevons and Venn, Johnson and Keynes, based their work avowedly upon
his, and the writings of the later Idealist logicians reveal a debt even where their authors fail
to acknowledge it. (Britton
1953 , 34)
The years from 1826 through 1843 were tumultuous ones for Mill. He stared down
a frightening intellectual, moral, and personal crisis; he was swept to and fro by some
of the most powerful intellectual currents of his era, and successfully weathered the
storm, ultimately integrating it all with his early learning. He met Harriet Taylor, who
would one day become not only his beloved wife, but also his full intellectual partner.
He suffered tragic personal losses in his immediate family (the deaths of his father and
his favourite younger brother). However, he soldiered through and developed a well-
thought-through philosophy of life that would direct all his efforts in future years.
203
8 John Stuart Mill’s Road to Leviathan: Early Life and Infl uences
Through all his intellectual turmoil, Mill always visualized himself as one whose
unique talent was seeing both sides of every debate – able to absorb vast amounts of
material, pick apart the various threads, and present to third parties the lessons to be
learned. Mill took as his own a phrase coined by Goethe – “many-sidedness”
( Autobiography , 171). There were truths not to be lost in the older teachings of the
eighteenth century he had been taught by his father and others. Vital insights were
also being uncovered by the thinkers of the nineteenth century. But there was, Mill
thought, no reason for either to eclipse the other. Too many times, advocates for the
scholars of each century had been either unable, or unwilling, to see the truths of the
other. The actual truth of the matter, thought Mill, was to be found only by incorpo-
rating the best thinking of both century’s paradigms. Such, in any event, would be
his own moderating approach as he entered into the period in which he wrote his
most celebrated works.
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205JG B kh ( d) HdbkfhHi fE iTh h
The Principles of Political Economy
Following the success of the Logic ( Mill 1973 [1843]), Mill turned again to political
economy. In 1844, he took advantage of the Logic’s success to arrange the publica-
tion of his Essays on Some Unsettled Questions in Political Economy (which had
been written in 1829 and 1830) ( Mill
1967 [1844]). Shortly thereafter, he began
work on a project he had earlier conceived, while at work on the Logic , of writing
“a special treatise on political economy, analogous to that of Adam Smith” (quoted
in Ashley
1929 , xvii; see Note 2, Chap. 8, for explanation of subsequent citations of
the Principle). This would become the famous Principles , to be published in 1848.
In combination with the Logic , the Principles cemented Mill’s reputation as, argu-
ably, the pre-eminent nineteenth-century thinker who wrote in the English language.
As Mitchell puts it, the “ Logic and the Principles of Political Economy together
gave Mill a position in English life and thought such as no economist had enjoyed
before him and such as no economist has enjoyed since his day in any country”
(Mitchell
1967 , 559) – a verdict that, with the possible exception of John Maynard
Keynes, stands today.
The Principles, Its Scope and Reputation
The Principles of Political Economy was written far more rapidly than Mill’s
other major works. Mill struggled for over a decade with his Logic (Mill had par-
ticularly diffi cult troubles developing his theory of induction). By contrast, the
M. R. Montgomery (*)
School of Economics, University of Maine , 5774 Stevens Hall , Orono , ME 04469 , USA
e-mail: [email protected]
Chapter 9
John Stuart Mill’s Road to Leviathan II:
The Principles of Political Economy
Michael R. Montgomery
206 M.R. Montgomery
roughly thousand-page Principles was completed almost unimaginably rapidly in
less than 2 years (during these 2 years, Mill also was working full-time at India
House and further was deeply involved in peasant land-reform projects). Mill’s
remarkably rapid progress was due in no small part to his tightly constrained vision
of the work’s scope (at least for its more orthodox sections).
1
His primary objective
was to take the works of his Classical predecessors and contemporaries and prepare
a thoroughly up-to-date and readable rendition of the Classical school of political
economy.
2
Mill was, of course, uniquely qualifi ed to carry out such a project, and
his efforts surely produced the “most mature statement of Classical theory”
(Landreth
1976 , 119), one with “an effect upon English thought second to none”
(Haney
1968 , 443). The clarity and high style of Mill’s writing also often has been
praised (though not always without a touch of irony: to Blaug (
1985 , 179), the book
is not just easy to read, but is, “indeed … too readable [as] the argument fl ows along
so smoothly that the reader is simply lulled into agreement”.) Mill’s “lucid exposi-
tion of Ricardian doctrine” (Landreth
1976 , 132) helped to make his book among
the most effective, and certainly the most infl uential, volume covering Political
Economy in his day.
3
Indeed, in some respects the very success of the book’s summary of Classical
doctrine has worked against its reputation. Mill the economist , write Ekelund and
Hebert, is often wrongly denigrated as little more than “a sophisticated synthesizer of
little theoretical originality” (1983, 152). This is in fact Wesley Mitchell’s view (though
he appreciates Mill’s “beautifully articulated discussion”) (1967, 565). To Haney
(
1968 , 474–5), Mill “deserves recognition as a great expositor of social and economic
doctrines”, but his “name would hardly be mentioned” if the standard of judgment
were how much new material he introduced into the body of economic theory. Others
demur, fi nding not just signifi cant improvements, but also notable theoretical innova-
tions in Mill’s rendition of classical theory. Blaug (
1985 , 220), Ekelund and Hebert
(
1983 , 152–9), Landreth ( 1976 , 146), and Sowell ( 2006 , 146–7) see Mill’s original
contribution to orthodox theory as substantial, and Stigler (
1965 , 7) sees Mill as no
less than “one of the most original economists in the history of the science”.
However debated is the strength of Mill’s orthodox contributions, there is broad
agreement that the Principles’ most notable innovations are in those “heterodox” sec-
tions where Mill steps outside the boundaries of classical political economy. We have
seen in earlier sections how seriously Mill took the notion that political economy was
built on premises too narrow to form an acceptable foundation for social science.
1
Mitchell ( 1967 , 559) accounts for the book’s being written “at a high rate of speed only because
Mill all his life had been thinking more or less about the problems with which the subject dealt, and
because to him political economy was a pretty well fi nished product … it was a matter of arranging
an ordered exposition of principles which had been formulated by his predecessors”.
2
Thus Mill’s book was the fi rst major appearance of a “Principles” book similar in intent to those
we see today – it was, in fact, a kind of textbook, not meant to be a work of great originality and
original achievement. In this mission it was spectacularly successful.
3
The work went through seven editions plus a “Peoples’ edition”, the seventh (last) edition coming
out in 1871, 2 years before Mill’s death.
207
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
Political economy was “a branch of Social Philosophy, so interlinked with all the
other branches, that its conclusions, even in its own peculiar province, are only true
conditionally…” ( Autobiography , 243). Mill thought that political economy, to be
truly useful, needed disciplining by the insights of the other social sciences – a
requirement often overlooked by lesser political economists who “knew nothing but
political economy (and therefore knew that ill)” ( Autobiography , 243). Such narrow-
minded economists, blustering forth with errant policy pronouncements, merely
furthered the agendas of those “numerous sentimental enemies of political economy,
and its still more numerous interested enemies in sentimental guise” ( ibid ).
4
Mill’s
policy analysis, by contrast, would combat the damaging impact of these narrowly
trained economists, helping “to disarm these enemies” ( Autobiography , 244) of political
economy by showing the fi eld’s power for good when used properly in conjunction
with the other social sciences.
5
Whatever we think of such a vision – and there are numerous “heterodox” schol-
ars operating on the fringes of modern mainstream economics who would passion-
ately embrace it (and many more orthodox modern economists who would promptly
denounce it as the silliest drivel) – Mill’s vision for his work led, without a doubt, to
much of the most interesting (and controversial) material in his Principles . As
Mitchell (
1967 , 562) points out, these parts of the Principles arguably are better
described as Mill’s applications of his and his wife’s social philosophy to Political
Economy, rather than the reverse.
6
Mill himself was of the opinion that his book’s
“applications to social philosophy” were of considerably more importance than its
more orthodox parts:
I confess that I regard the purely abstract investigations of political economy (beyond those
elementary ones which are necessary for the correction of mischievous prejudices), as of
very minor importance compared with the great practical questions which the progress of
democracy and the spread of Socialist opinions are pressing on … (Letter to Karl Heinrich
Rau, 1852, quoted in Mitchell
1967 , 562)
Mill’s and his wife’s support for that capitalist system so admirably described in his
Principles was, in fact, “merely provisional” – the best that could be done prior to
the anticipated raising-up of the quality of mankind that the coming of widespread
4
Mitchell writes of Mill’s dissatisfaction with “the process of vulgarization through which political
economy had gone in the generation after Ricardo, a vulgarization which adapted it to all sorts of
partisan use, which made political economy in the hands of the well-to-do people a rationalization
of their view of the proper treatment of the poor … a process that had made political economy,
which professed to be a science, practically a weapon adapted to the uses of class warfare”
(Mitchell
1967 , 566).
5
Mitchell ( 1967 , 560) takes the contrasting view that Mill’s interest in political economy’s applica-
tions to social philosophy can be fully explained by that “keen interest in public welfare characteris-
tic of the utilitarians in general and of Mill in particular”. This view however seems diffi cult to defend
in the face of Ashley’s careful documentation of Mill’s explicit linkage to Comte for his motivation
in writing a text emphasizing applications to “social philosophy” (See Ashley
1929 , x–xvii).
6
Certainly this is not always so; as, for example, in Mill’s survey of the consequences of the different
incentive schemes facing various types of “peasant proprietors” (Book II, Chap. VI), where he mas-
terfully analyzes the different economic consequences ensuing from differing institutional setups.
208 M.R. Montgomery
education for the poor and socialist institutions would inevitably produce. “Comes
the revolution”, thought he and his wife, and all that would be changed:
The deep-rooted selfi shness which forms the general character of the existing state of soci-
ety, is so deeply rooted, only because the whole course of existing institutions tends to
foster it … ( Autobiography , 241)
Once selfi sh (i.e. capitalist) institutions could be replaced with their proper socialist
substitutes, a New Man would arise fi lled with truly noble (i.e. altruistic) senti-
ments, and the world would change.
7
The breach between what works (capitalism)
and what is moral (altruism) – a contradiction that had troubled Mill profoundly
since at least the time of his “mental crisis” – would at last be closed. The New Man
would be so made (through enlightened education) as to naturally produce prosper-
ity in socialistic, not capitalistic, institutions.
8
This utopian streak in Mill deserves more attention than it has received – not
least as an open invitation to Karl Marx (who, of course, read Mill closely). In fact,
it is the key to resolving most of the issues surrounding the claim that there are
“two Mills” (e.g. Berns
1975 ) .
9
Ironically, history’s leading popularizer of classical
7
Ashley writes: “Until the present social system should be fundamentally changed, Mill clearly
regarded the Ricardian economics as so far applicable to existing conditions as to call for no sub-
stantial revision in method or conclusions” (Ashley
1929 , xxiii).
8
The Principles and the Autobiography are peppered with examples of Mill’s faith in the develop-
ment of a Higher Man who will replace mere Economic Man with a new one of altruistic senti-
ment; for example:
When minds are coarse they require coarse stimuli, and let them have them. In the mean-
time, those who do not accept the current very early stage of human improvement as its
ultimate type, may be excused for being comparatively indifferent to the kind of economi-
cal progress which excites the congratulations of ordinary politicians; the mere increase of
production and accumulation. ( Principles , 749; 754–55)
Or:
The social problem of the future we considered to be, how to unite the greatest individual
liberty of action, with a common ownership in the raw material of the globe, and an equal
participation of all in the benefi ts of combined labour. …We saw clearly that to render any
such social transformation either possible or desirable, an equivalent change of character
must take place both in the uncultivated herd who now compose the labouring masses, and
in the immense majority of their employers. Both these classes must learn by practice to
labour and combine for generous, or at all events for public and social purposes, and not, as
hitherto, solely for narrowly interested ones. ( Autobiography , 239)
Such revelry is not entirely lacking today [2010] in the attitudes powering the behaviours of sundry
“democratic” governments. Mill at times reads like a veritable John the Baptist heralding the
imminent coming of that eternal Socialistic Saviour – “Higher” Man.
9
Himmelfarb (according to Berns 1975 ) emphasizes the vast difference between “the Mill of On
Liberty ” and that “other” Mill “of the Principles of Political Economy , Representative Government
( Mill
1973 [1861]), and the famous essay on Coleridge (Mill 1969 [1840]), among other works”.
It will be argued below, in contrast to Berns/Himmelfarb, that the “other” Mill is very much in
evidence in these latter-mentioned works. Certainly it is true that there were two Mills – one named
John and one named Harriet – but more than that it seems diffi cult to say.
209
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
economics looked longingly for the day when that economics would become
obsolete. When at last a “higher” human being was created through successful
socialist innovations, humankind could at last throw off its crippling self-centred
institutions and begin a new life on a higher [collectivist] plane of a decidedly supe-
rior nature. The Principles taken as a whole, then – a book that might seem schizo-
phrenic at fi rst glance – is in fact luminously consistent with those broad themes that
motivated Mill throughout his long life (and, further, arguably, the entire body of
Mill’s work exhibits a similar consistency). So long as there is capitalism, classical
economics is an essential tool in crafting social policies yielding “the greatest good
for the greatest number”. Meanwhile let us work for better days. Thus there are not
“two Mills” in the Principles – or, arguably, elsewhere. Rather there is one Mill
thinking in two separate contexts, the sum of the thinking completely consistent
with both Mill’s roots in Benthamism and classical political economy as well as
with the later “broadening of his perspective” at the hands of the socialist thinkers.
Organization of the Principles
Mill’s organization of his Principles closely follows that of Say’s Treatise on
Political Economy and his father’s Elements of Political Economy , with the notable
exception that a section on “consumption” is omitted (although, of course, con-
sumption is discussed throughout the work: e.g., the distinction between “produc-
tive” and “unproductive” consumption, comes early in Book I). Book I primarily
concerns “production”, Book II primarily “distribution” (including most of the dis-
cussion of socialism), and Book III (the longest) primarily value and “exchange”.
Book IV on the “Infl uence of the Progress of Society on Production and Distribution”,
marks an organizational departure where Mill introduces and elaborates his distinc-
tion in political economy between “statics” and “dynamics” (the core of which he
took from Comte), discusses what we today refer to as “growth theory”, and con-
templates the likely future of the “labouring classes”. Book V closes the work with
a comprehensive discussion of government, its proper (and improper) functions,
and its impact on the market system.
10
Such an organization scheme contrasts sharply with that of Ricardo, who starts
with Value theory in his Chap. 1 and then follows later with his theory of distribution.
10
Both Say’s Treatise (Say 1983 [1803]) and James Mill’s Elements (James Mill 1844 [1821]) have
a Book I on production and a Book II on distribution. Say’s Book III is on Consumption, after
which the book ends. James Mill’s Book III is on exchange, and his Book IV is on consumption.
Say discusses value at the start of Book II, Mill does so (like his son) at the start of his Book III.
Ricardo (
2006 [1821]), by contrast, begins his Principles of Political Economy and Taxation with
a thorough discussion of his labour theory of value, then moves on to rent, wages, and other distri-
bution topics, then to foreign trade and types of taxes, ending with a mixture of topics including his
macroeconomic ones. Smith’s Wealth of Nations (Smith
1937 [1776]) is organized substantially
differently from all of the above and it is clear that J. S. Mill’s inspiration from Smith did not
extend to his scheme of organization.
210 M.R. Montgomery
It diverges also from what the marginalists later would do: Like Ricardo, they began
with value theory and then used that theory to explain the distribution of the national
product. Mill comes under criticism (e.g. Haney
1968 , 475; Blaug 1985 , 180) for
failing to organize his book more like either his great predecessor or his farther-
seeing marginalist successors. However, given Mill’s cost-of-production value the-
ory, one variant or another of which was at the time “state-of-the-art”, value is
anchored in production. Thus it is reasonable to begin with the fundamental concept
of production, out of which in the Classical system value eventually emerges.
Mill himself attributes his placement of value theory fairly late in the book as an
ordering derived from his fundamental separation of the “laws of production” from
the “laws of distribution”. The Laws of Production, he says, are independent of the
questions of exchange, depending as they do only on physical (technological) truths.
The question of value, then, pertains only to distribution, and even then political
economy only has something to say here if pure exchange is governing the determi-
nation of prices. It is interesting that Mill’s cherished distinction between produc-
tion and distribution (discussed in greater detail below) is so fundamental to his
system that it mandates, in Mill’s mind, the postponement of the discussion of value
to his third Book (a little-noticed explanation by the author of his own organiza-
tional decisions).
The Laws of Production and Distribution
Mill’s famed distinction between production and distribution is so important to his
framework that it requires immediate discussion before tackling his other contribu-
tions. Classical distributive doctrine was based on two pillars. First was the exis-
tence of diminishing returns to a fi xed labour/capital mix across both the intensive
and extensive margins of agriculture. Second was Malthusian population theory
with its assertion that, in the “long run”, the labouring population would adjust so
that workers would earn precisely the subsistence wage (over shorter periods,
labour’s remuneration equalled the “wages fund”, which petered out to the subsis-
tence level in the steady state). With labour’s share of national output thus deter-
mined, the remainder is split between landowners and capitalist-lenders.
Now consider the transition to the steady-state, starting from a period of “sur-
plus” production. Imagine an economy growing (population increasing, technology
increasing, land acreage fi xed) and thus moving relentlessly towards the steady-
state. To feed the growing population, land already under cultivation is more inten-
sively farmed, while newly used raw land is (by assumption) less productive than
land that already has been under cultivation (land being assumed to be brought
under cultivation sequentially from most- to least-productive units). Since less-
productive agricultural land has now been brought under cultivation, rent – “the
excess of [a land-unit’s] produce beyond what would be returned to the same capital
if employed on the worst land in cultivation” ( Principles , 425; 419) – rises for all
the higher grades of land.
211
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
The percentage return from owning such land having risen, capital-funds fl ow
out of manufacturing and into land until expected returns across the two industries
are again equalized. Now imagine a population steadily growing toward its steady-
state level, increasing the economy’s demand for food, and forcing additional agri-
cultural production on ever-less-productive units of land. Rents will continue to rise
while manufacturing profi ts fall. And this path to the “steady state”, in which profi ts
will fi nd their absolute minimum, is also marked by ever-declining economic cir-
cumstances for the labouring classes as the economy inexorably returns them to
their long-run permanent state of economic subsistence. It was pictures like this that
led Carlyle to label classical economics “the dismal science”.
Having been raised [literally] with the Ricardian economics, Mill accepted its
grim internal logic, but he was unhappy with how the pessimistic conclusions of the
classical model predetermined the fate of the labouring classes. Policy conclusions
based on classical principles already were being routinely put forth claiming that
attempts to ameliorate the poor’s conditions through “enlightened” social policy
were doomed to failure by the “iron laws” of the classical system (Mitchell
1967 ,
566). Mill disagreed vehemently with these defeatist policy conclusions. Indeed, the
revolution in his political thinking that followed his “mental crisis” in his early
twenties had been largely about just such types of issues. Fears for a better future for
mankind had been among the several main issues that had brought on his 1826 “cri-
sis” in the fi rst place ( Autobiography , 149). Now, in crafting his own statement of
political economy, Mill was determined to use what he had learned since 1826 to
turn the essentially negative long-run message of classical political economy into a
positive doctrine that held out hope for a better life for all of mankind – especially
for the labouring classes, who were condemned by classical doctrine to lives of
subsistence “in the long run”.
Mill converted the long-run pessimism of the classical system to long-run opti-
mism, through three suppositions. First, as was already generally acknowledged, in
principle there was no necessity for population to outrun food supply so long as the
labouring classes were willing to restrict the growth of their numbers through absti-
nence from sex and/or use of contraceptive techniques. The problem was in con-
vincing them to do so. Mill had a life-long passion for this topic.
Second, the primary way in which the labouring classes could be induced to hold
down their numbers and so stave off the Malthusian spectre was through an exten-
sive and far-reaching process of education the likes of which a society had never
before provided to its lowest classes. The labouring classes needed to be taught
culture and through such teachings they would obtain that enlightened state of being
that rejects the more “earthy” pleasures in favour of those of a “more elevated”
nature. In particular, they would learn, as the Mills of the world already had learned,
that a civilized being is distinguished primarily by that high altruistic bent that
unfailingly places the needs of others before one’s own needs.
Teaching this last, however, would truly require a thoroughgoing reform of soci-
ety’s self-oriented institutions, leading to the creation of a new culture where one’s
value was no longer determined by one’s ability to “get on” through various sordid
money-grubbing behaviours (see, e.g. Notes 16 and 17 in the previous chapter).
212 M.R. Montgomery
Instead one’s personal success in the New Age would be measured (both by oneself
and others) by one’s capacity for self-enlightenment and, of course, by one’s capac-
ity to joyfully engage in a life of selfl ess service. This vision would dispatch the
Malthusian spectre by transforming the labouring classes into poorer versions of the
“more elevated” classes. So augmented by such culture and “higher understanding”,
the labouring classes would naturally choose to hold down their birth rates. They
would, as newly enlightened beings, do so both for the good of themselves as well
as that of others. This, Mill thought, was how to beat Malthus.
11
However, these happy thoughts also confronted Mill with a serious obstacle – one
prompting his third key supposition. A thoroughgoing [re-] education of the labouring
classes as outlined earlier would not come cheap. Signifi cant resources would have to
be expended on the project, and, further, the considerable costs of reforming society’s
institutions also would have to be borne by someone. From where would the funds
come to fi nance Mill’s version of a “last, best hope for mankind”? Clearly, consider-
able monies from “unproductive” landlords and other owners of great inherited fortunes
were in principle available for the taking in order to fi nance Mill’s grand design –
fortunes much of which he was prepared to see the government seize – through levies
and restrictions on inheritances ( Principles , Bk. II, Chap. 2) and through confi scation
of income from the great landed estates ( Principles , Bk. V, Chap. 2, Sctn. 5).
But here is where classical distribution doctrine stood in his way. According to
classical theory, the distribution of society’s production is fi xed – determined by the
immutable laws of the classical system. Natural law, said the classical economists,
decreed that landlords would grow richer and workers (and capitalists) poorer as
society headed for its preordained date with the “stationary state”. Interference with
the impersonal workings of the classical mechanism would only make things worse.
Classical economists like Ricardo
thought that any attack upon the security of property would make things immediately far
worse for the bulk of mankind inasmuch as if property were not secure there would be no
motive for the accumulation of capital; and if there were no capital in abundance there
would not be the wherewithal to pay wages and cultivate land (Mitchell
1967 , 568).
But [we might imagine Mill thinking] Ricardo was merely one of those narrowly
focussed (albeit great) economists, lacking a grasp of broader social science and its
higher-ranking role in policy. Ricardo had not lived in the era of promising socialist
insights coming off the Continent as had Mill. He had not, therefore, grasped the
way out of the Malthusian trap that Mill [thought he] had seen. He had not been
given the chance to see that human nature itself could and must be changed. That
vision of the future changed everything. Its realization required that classical dis-
tributive doctrine give way to a new era of government-led redistribution.
11
Or, as Barber ( 1967 , 104) phrases it, the state had an important role to play as a “‘civilizer’ – i.e.
as the sponsor of improved educational facilities, as well as such cultural amenities as parks and
museums. Elevation in popular tastes and aspirations, especially among members of the working
class, was vital to the banishment of the Malthusian devil and to the exercise of human control over
the distribution of income”. Mill’s case for public education based on such thinking will be dis-
cussed in detail when we reach the discussion of the Principles ’ Book V.
213
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
Mill used two arguments to break the chains with which classical distribution
theory bounded social policy. First, the fi xed distributive outcome that society
obtained under laissez faire in the classical system, did not imply that other out-
comes were not possible given that the principles of laissez faire were not permitted
by society to operate fully. The economy might be usefully conceived as a mecha-
nism, but it was not one. Neither was “society”. Here, Mill saw a failure by econo-
mists to recognize these elementary facts – a failure which narrowed the focus of
social science inappropriately. As Mill later put the matter in an 1869 letter to
William Thornton, what now was needed instead was:
what may be called the emancipation of political economy—its liberation from the kind of
doctrines of the old school (now taken up by well-to-do people) which treat what they call
commercial laws, demand and supply for instance, as if they were laws of inanimate matter,
not amenable to the will of the human beings from whose feelings, interests, and principles
of action they proceed. This is one of the queer mental confusions which will be wondered
at by-and-by … (quoted in Mitchell
1967 , 565).
That is, social policy should be “about people” (as some might say today), not about
economics with its allegedly immutable laws of laissez faire . Political economy was
the servant, not the master, of enlightened social policy. It was simply shallow-
minded thinking to maintain that a lesser, derivative science (political economy)
could spin a conceptual web (classical theory) that could bind higher-level science
(social science generally) from taking needed steps to improve society. If, in order
to fi nance these improvements, there needed to be a relaxation of certain longstand-
ing “customs” regarding the property rights of [thoroughly “unproductive”] land-
lords and holders of large inherited fortunes, then so be it. Classical theory laid out
the laws governing the production of valuable goods and services with great preci-
sion. It also laid out the distributive consequences of those laws under the working
assumption of laissez faire . It did not, however, mean that those distributive conse-
quences were logically necessary in the event of “enlightened” government inter-
vention, and it certainly did not have anything at all to say about the desirability or
undesirability of the laissez faire distributive solution. The laws of production were
of natural design, but the “laws” of distribution were of human design – subject to
societal control, and properly so. As Mill put the matter in a famous passage:
The laws and conditions of the Production of Wealth partake of the character of physical
truths. There is nothing optional or arbitrary in them. …It is not so with the Distribution of
Wealth. That is a matter of human institutions solely. The things once there, mankind, indi-
vidually or collectively, can do with them as they like. They can place them at the disposal
of whomsoever they please, and on whatever terms. …The rules by which [the distribution
of wealth] is determined are what the opinions and feelings of the ruling portion of the com-
munity make them, and are very different in different ages and countries; and might be still
more different, if mankind so chose ( Principles , 199–200; 199–200).
As Sowell ( 2006 , 148) points out, Mill is aware that “production and distribution
cannot be so independent of each other when the manner in which a given period’s
output is distributed affects the use of inputs – and therefore output – in subsequent
periods”. Only in the short term could distribution proceed independently of
considerations of future production. Ultimately the consequences
214 M.R. Montgomery
of the rules according to which wealth may be distributed … are as little arbitrary, and have
as much the character of physical laws, as the laws of production. …Society can subject the
distribution of wealth to whatever rules it thinks best: but what practical results will fl ow
from the operation of those rules, must be discovered, like any other physical or mental
truths, by observation and reasoning. ( Principles, 200–201; 200)
And earlier in his preface where Mill fi rst broaches this subject, he is careful to state
that “though governments or nations have the power of deciding what institutions
exist, they cannot arbitrarily determine how those institutions shall work” ( Principles ,
21; 21). Mill thus cannot be sensibly accused of proposing some kind of a naive split
between production and distribution – he sees the connection between the two only
too clearly. Clearly, certain types of redistributive schemes will come at the expense
of lower output (which is not to say that Mill believed – as Classical theory seemed
to imply – that all such schemes would do so).
Mill’s celebrated distinction between production and distribution has played to
decidedly mixed reviews. To Barber, Mill’s distinction is “[p]erhaps the most sig-
nifi cant of Mill’s modifi cations in the orthodox classical tradition…” (Barber
1967 ,
99–100) in that it robbed classical distribution theory of its deterministic outcome
as originally laid down by Malthus. Further, if economic growth were unaccompa-
nied by a more “equitable” distribution of income, then now, under Mill’s prem-
ises, something could be done about it. Mere economic progress, then, was not
good-in-itself if it came at the cost of an “inequitable” distribution of income. Such
a thorough tarnishing of the reputation of economic progress opened the way to
Mill’s favourable reinterpretation of the “steady-state” ( op. cit. , 101–2). Landreth
(
1976 , 133–5) similarly sees the production–distribution distinction as quite conse-
quential, translating it into modern (post-marginalist-revolution) terms as “there is
only a loose connection between the marginal productivity of the various factors
and the personal distribution of income” ( op. cit. , 135).
In sharp contrast, Sowell sees Mill’s separation of production and distribution as
“a distinction without a difference” (2006, 148) – “In the same sense in which society
may distribute as it pleases and take the consequences, it may also produce as it
pleases and take the consequences” ( ibid ). For example, society could [and does]
decree that less effi cient production techniques be used than are readily available.
Likewise, Buchholz (
1989 , 103) deprecates Mill’s “schizoid approach to production
and distribution” – not only is distribution heavily dependent on production, but, in
addition, production laws change over time.
In fact, the distinction between “consequential” and “schizoid” seems consider-
ably determined by ideological perspective, with those leaning left pleased at the
open door to meddling with market-based distributional outcomes, and those on the
right worrying about the arguably excessive, and eminently mis-useable, power that
government must soon acquire in such a society. Blaug (
1985 , 180) probably gets
close to the heart of the matter when he says that while, speaking strictly, “the dis-
tinction between the two kinds of laws is untenable”, it is arguably best interpreted
as “an old-fashioned way of distinguishing between positive and normative eco-
nomics, separating questions of ‘what is’ from ‘what ought to be’”.
215
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
The logical justifi cation for Mill’s celebrated distinction is, in the end, probably
less important than its impact on the decades that followed it. Before Mill, classical
distributive doctrine was a sturdy bulwark against the idea that government med-
dling with the distribution of income was a good thing. The classical doctrine, while
wrong on the point that their argument irrefutably established the inadvisability
of such meddling, still remained consistent with long-run capitalist stylized facts
(a consistency more recognizable today than in Mill’s time). Such stylized facts, at
least in the opinion of pro-capitalist thinkers, include the notions that the productive
tend, on an average, to earn higher incomes, and that there is a kind of rough justice
on average in the outcomes achieved under the aegis of the free market (a rough
justice in which Mill, not surprisingly, did not himself believe – see Mill (
1973
[1861], 474), where he writes “accident has so much more to do than merit with
enabling men to rise in the world”). Accordingly, the classical argument was a pro-
tector of the strong nineteenth-century trends towards greater economic freedom in
the Western societies. This framework Mill now undermined. In its place, he sup-
plied an open-ended rationale for government involvement in the distribution of
society’s income, without providing well-defi ned limits on how this power should
be applied (as we will see, Book V of his Principles is remarkably forgiving of a
wide range of government activities).
The clear result in the West has been the replacement of capitalism with a large,
unwieldy, and hyper-expansionist welfare state, armed with an ever-broadening
defi nition of “distribution” to fuel its widening assaults on capitalist institutions.
Mill did not create this state of affairs explicitly, nor did he implicitly do so single-
handedly. Likely he would see such a state as a serious threat to liberty (as it most
certainly is). But the extraordinary infl uence of his Principles through the second
half of the nineteenth century and well into the twentieth meant that his would be
one of the most prominent infl uences in popularizing what was one – if not the – key
building block of the modern Welfare State.
Mill’s “Orthodox” Contributions in the Principles
Much of Mill’s Principles consists of (often vastly improved) expositions of then-
standard economic theory, where often Mill is synthesizing older ideas rather than
presenting new ones. However, in the Principles Mill also breaks new ground in a
number of signifi cant ways.
12
It is convenient to separate these contributions into
“orthodox” and “heterodox” ones. Orthodox contributions are those directly impacting
the main line of economic thought, while heterodox contributions seek (in retrospect)
12
This section focuses on Mill’s primary orthodox contributions as judged by several leading works
on the History of Economic Thought. For readers seeking a good comprehensive summary of the
Principles focusing more on “what’s in it”, rather than what is predominately new, see Blaug’s
Reader’s Guide to the book in (Blaug
1985 ) .
216 M.R. Montgomery
to take economics away from its main stem. Thus, Mill’s heterodox ideas, while often
extremely infl uential, generally fall outside the realm of economic theory proper.
This section focuses on the most generally recognised of Mill’s contributions.
These fall in the areas of value theory proper, supply-and-demand analysis, interna-
tional exchange ratios, the theory of joint supply, the theory of public goods, classi-
cal growth theory, and macroeconomics. It is convenient to begin with value theory
not only because of the topic’s signifi cance, but also because Mill’s exposition illus-
trates so well his ability to breathe new life into an old topic.
The Restatement of Classical Value Theory
In his Book III, Mill fi nally takes up the questions of value and value theory. Mill has
been often criticized for failing to place his value theory at the start of his Principles ,
as did Ricardo and Adam Smith (e.g. Blaug
1985 , 195).
13
Mill himself states his
reasons for postponing his discussion of value at the start of Book III, Chap. 1 (it is
peculiar that his own justifi cation for his ordering has not received more attention).
He regards the postponement of the treatment of value as being dictated by his dis-
tinction between the “Laws of Production” and the “Laws of Distribution”. The
Laws of Production, he says, are independent of the questions of exchange, depend-
ing as they do only on physical (technological) truths. The question of value, then,
pertains only to distribution. Even then, political economy has the predominant say
only if pure exchange governs the determination of prices. Since in reality custom is
also quite important in determining prices, even this limited role for value theory
must be discounted considerably ( Principles , Bk. II, Chap. 4).
Mill is frankly critical of economists who seek to organize all of economics
around “catallactics, or the science of exchanges” ( Principles , 435; 455). Such
economists commit “the error too common in political economy, of not distinguish-
ing between necessities arising from the nature of things, and those created by social
arrangements” ( op. cit. , 436; 455) The mistake of over-emphasizing value theory,
then, is but a species of the more general mis-steps by political economists of, on the
one hand, classing “the merely temporary truths of their subject among its perma-
nent and universal laws”, and, on the other hand, mistaking “the permanent laws of
Production … for temporary accidents arising from the existing constitution of soci-
ety” ( Principles, ibid ; 455–6).
Mill’s postponement of value theory based on his [in]famous cleavage of the laws
of production and distribution, shows how fundamental to political economy he
thought that his distinction was. Its thorough and complete grasping, in his view, man-
dated both a rethinking and a signifi cant reorganization of political economy – even
13
Notably, James Mill’s Elements of Political Economy also begins with production, moves on to
distribution and only then comes to exchange. James Mill’s organizational scheme stems from his
following goods through production to distribution to exchange and consumption, roughly the
temporal order in which things occur in an initial production decision ( Elements of Political
Economy , 2–4).
217
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
to the point of downgrading a topic which, even then, was usually thought of as the
starting point for the science. Mill’s demotion of value theory compared with the treat-
ment of earlier scholars does not mean that he was not impressed by its importance to
pure theory. Once the context passed from the actual economy to a hypothetical pure
market economy completely built around free exchange at market prices, Mill insisted
that the “question of value is fundamental … the smallest error on that subject infects
with corresponding error all our other conclusions” ( Principles, ibid ; ibid ). In this
light, he proceeds with a discussion of the theory of value that closely tracks that of
earlier thinkers, particularly Ricardo.
As is often the case with Mill, though the ideas he develops are not primarily his
own, his presentation of those ideas sparkles. Take, for example, his discussion of
the two conditions that are necessary if a good is to have value in exchange
( Principles , Bk. III, Chap. 2). Anyone can simply state that such a good must have
intrinsic value (“it must conduce to some purpose, satisfy some desire”, [ op. cit.,
442; 462]) and must be scarce (“there must also be some diffi culty in its attain-
ment” [ Principles, ibid ; ibid ]). Mill in addition constructs a colourful and instruc-
tive example concerning a much-desired music box, owned by one of two passengers
travelling into deep wilderness. The potential buyer will be there for many years,
he will “part with before sunset” his fellow passenger and continue on to a post
where no luxury can be purchased. Our passenger covets the music box (with its
“magic with which at times it lulls [his] agitations of mind”) and is “vehemently
desirous to purchase it”. But his fellow passenger and box-owner, aware of the
box’s value to his casual acquaintance, and even more fully aware that his acquain-
tance can acquire such a box only through him, will squeeze him to the absolute
limit regardless of the irrelevant fact that such a box can be purchased cheaply back
in London. As we might say today, the seller, with his absolute monopoly, will
squeeze every last drop of consumer surplus out of the transaction. Cost-of-
production is irrelevant to the price that will be needed to buy the box under these
conditions – all that matters is how much the purchaser values the item. By con-
trast, in London, where such music boxes are routinely produced, our purchaser
would fi nd that it is the cost-of-production that governs the box’s price, not his
personal satisfaction from ownership. Consumer surplus [as we would say today]
accruing to the buyer can be large in this circumstance. Mill’s example nicely illus-
trates an important point: how both satisfaction and production costs contribute to
the exchange process, even if it often appears otherwise due to the dominance of
cost-of-production in setting the actual price. The example also illustrates how
Mill had the essentials of the consumer surplus concept in hand, though not in a
completely developed form.
Mill’s core value theory closely follows Ricardo’s lead in Mill’s characteristic
manner: which is, while claiming to be doing nothing but synthesizing and sum-
marizing, he actually slips in changes that alter somewhat the doctrine he is address-
ing. A view often expressed is that Mill took Ricardo’s labour theory of value and
replaced it with his own cost-of-production value theory (e.g. Landreth
1976 , 142–3).
This is essentially correct, but, as Schumpeter (
1954 , 588–603) points out, the true
relation between the two value theories is more complex.
218 M.R. Montgomery
Schumpeter defi nes value theory as an attempt at “indicating the factors that
account for a thing’s having exchange value or … the factors that ‘regulate’ or ‘gov-
ern’ value” ( op. cit. , 590). The fi rst question to ask here is whether we are speaking
of absolute value in some sense, or merely relative values. There is little doubt that
both Ricardo and Mill defi ned the problem in the latter sense, focussing on rates of
exchange between commodities in a way that failed to reveal, when an exchange
ratio changed, which good had intrinsically gained or lost in value.
14
Ricardo, how-
ever, inspired by Adam Smith’s Deer-and-Beaver example, also visualized a role for
labour as both the source of value (in that the amount of labour “embodied” in goods
determined their relative values under long run competitive conditions) and as a
measure of value (in that if a standard labour unit could be defi ned, then all other
market values could be measured in relation to that standard unit). However, Ricardo
was forced to recognize quickly that abstinence, or waiting time, was also a compo-
nent in a good’s value, and that “waiting”, unlike the other factors of production,
could not be said to have an ultimate labour source. Therefore, a strict labour theory
of value was incorrect. But he continued to see the labour theory as a useful close
approximation to a correct value theory anyway, and therefore his analytical appa-
ratus embraced concepts and methods that a strict application of logic would not.
Mill, while on the surface merely echoing Ricardo, in fact drove home the logic
of the latter’s argument in a way that made its limitations clear. The abstinence point
was emphasized in Mill’s volume, and presented in such a way as to defi nitely dis-
patch with Ricardo’s labour theory (Mill’s simultaneous pleading that the labour
theory was “practically” correct fails to survive the force of his own arguments to
the contrary). Mill also emphasized that not just quantity of labour but wages paid
to labour also affect value. In his summary chapter, Mill sums up the conditions
leading to one good’s commanding a higher value as being one of the following:
it requires for its production either a greater quantity of labour, or a kind of labour perma-
nently paid at a higher rate; or that the capital, or part of the capital, which supports the
labour, must be advanced for a longer period; or lastly, that the production is attended with
some circumstance which requires to be compensated by a permanently higher rate of profi t
( Principles, 480; 498–99).
An expansion of value-sources to this extent is, of course, a de facto repudiation of
the labour theory. In Book III, Chap. 5, Mill also amended Ricardo’s pronounce-
ment that rent is always not an element in cost-of-production (and thus not a con-
tributor to value), upholding Ricardo’s view “with qualifi cations which, if correctly
stated and developed (which Mill did not do), amount to renouncing it … and point
toward the opportunity cost theory” (Schumpeter op. cit., 604).
In the process of laying out his cost-of-production-based value theory, Mill was
naturally led to resolve what many saw as a fundamental contradiction between cost-
based value theories and market-based theories (supply and demand). To Mill,
there was no contradiction, at least for the case where a good could be reproduced
1 4
Schumpeter ( 1954 , 589) writes that “J. S. Mill only clinched prevailing practice when he
emphasized that the term Value was, in economic theory, essentially relative and that it meant
nothing but the exchange ratio between any two commodities or services”.
219
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
indefi nitely (within reason) at constant cost. Here, market gyrations were merely the
froth on the sea’s waves, while the underlying surface of the sea was given by cost-
of-production ( Principles , 453; 473). As Mill puts it at the end of his Bk. 3, Chap. 3 :
But in all things which admit of indefi nite multiplication, demand and supply only determine
the perturbations of value, during a period which cannot exceed the length of time necessary
for altering the supply. While thus ruling the oscillations of value, they themselves obey a
superior force, which makes value gravitate towards Cost of Production … [D]emand and
supply always rush to an equilibrium, but the condition of stable equilibrium is when things
exchange for each other according to their cost of production … ( op. cit. , 456; 475–6).
Those interested in the history of the “perfect competition” paradigm will notice
that many of the essentials of the model are already present in Mill’s mid-century
volume. Also worth mentioning is Mill’s casual assumption that the forces of
demand-and-supply combine to quickly bring about equilibrium.
Supply, Demand, Elasticity
Mill was the fi rst prominent writer on economics to describe the forces of supply-and-
demand in a way that is broadly consistent with the way in which we conceptualize
these forces in the modern era however, (toiling in relative obscurity, Cournot had
anticipated him by 10 years, even drawing supply-and-demand curves as we do today
[Blaug
1985 , 196]).
15
This is not, however, to say that classical terminology was the
same: The classical economists typically used the terms “demand” and “supply” to
denote what economists today would denote as “quantity demanded” and “quantity
supplied” (e.g. Principles , 446; 466: “let us suppose that the demand at some particu-
lar time exceeds the supply, that is, there are persons ready to buy, at the market value,
a greater quantity than is offered for sale”.) Nonetheless, the main line of classical
economists – at least Smith, Say, Malthus, Ricardo, and Mill – grasped that demand
(and, in a short-run framework, supply also) was fundamentally a schedule that related
price to units demanded (Sowell
1974 , 105–7; Blaug 1985 , 43).
16
Both Smith and Ricardo had elected to analyze market forces within the context of
a constant-cost industry assumption, thereby dictating a [long-run] horizontal supply
curve fi xed at the long-run average cost-of-production (e.g. Blaug
1985 , 41, 113–4).
It was left to long-run demand-side forces to determine the equilibrium quantity
bought and sold at the price given by the horizontal supply curve. Smith supplemented
15
Regarding supply-and-demand, Schumpeter ( 1954 , 603) states that Mill “went much further than
the majority of economists before him – always excepting Cournot – and may be said to have been
the fi rst to teach its essentials”. Landreth (
1976 , 145) concludes that “it can be argued that our
general understanding of the workings of supply and demand in allocating resources under com-
petitive markets has not been fundamentally changed since Mill”.
16
“[T]he quantity demanded is not a fi xed quantity, even at the same time and place; it varies
according to the value; if the thing is cheap, there is usually a demand for more of it than when it
is dear” ( Principles, 446; 465–66). Sowell (
1974 , 107) attributes to Malthus the “earliest schedule
concept of supply and demand”, while Blaug (
1985 , 43) fi nds the gist of a schedule concept even
earlier in The Wealth of Nations (Book I, Chap. 7).
220 M.R. Montgomery
his long-run theory with a short-run “market” theory of price-and-quantity determi-
nation in order to explain “temporary” deviations in price from the long-run value.
In it, market price rises in response to shortages (and vice versa), as in the modern
rendition of the theory (Blaug
1985 , 42–3). Ricardo’s understanding of the model is
essentially that of Smith’s – although, at least to Blaug, Ricardo’s discussion “fosters
the impression that cost of production is something separate and apart from demand
and supply” (Blaug
1985 , 113). The leaving of such an impression was probably
inevitable in a restricted supply-and-demand framework where the truly meaningful
(i.e. long run) part of the analysis was limited to the case where supply behaviour is
completely beholden to the constant-costs assumption.
Mill’s primary contribution was to release supply-and-demand with all its poten-
tial from the shackles of a constant-cost framework ( Principles , Bk. III, Chap. 2).
His analysis, while not employing graphical methods, still was noticeably more
general and thorough than his predecessors. In essence, he presented three separate
supply-and-demand frameworks, corresponding to the three main market-based
industrial structures that he visualized. Mill recognized as the case of greatest
importance, the Smith/Ricardo case of constant (average) costs. But he went on to
recognize two additional cases. The second-most important was the case of agricul-
ture and the “extractive” industries (e.g. mining), cases characterized by increasing
long-run average costs as the scale of production increased. For these, an upward-
sloping industry supply curve was the long-run result – and not merely as a transi-
tional “market” phenomenon. Goods could be reproduced, but only at ever-increasing
costs. Finally, Mill presented the case of goods in absolutely limited supply (e.g. old
masters paintings), where long-run supply would be a vertical line due to the com-
plete inability to increase the quantity of these types of goods (he did not consider
the fact that supply could here be decreased by destruction, no doubt considering it
irrelevant to his main point). While Mill did not employ graphical analysis in this
discussion, it is easy to do so (e.g. Blaug
1985 , 197; Landreth 1976 ; Wikipedia 2011
The Free Encyclopedia, “Johann Wolfgang von Goethe” 144). Mill’s analysis seems
surprisingly modern – perhaps because it was one of the primary sources Marshall
utilized in crafting his own treatment, which presented supply-and-demand in full-
fl edged modern garb (Ekelund and Hebert
1983 , 154).
The gap in understanding between Ricardo and Mill is greater than it appears at
fi rst glance. It is more than just that Ricardo concentrated on a special case while
Mill got the more general result. To Ricardo, the long-run supply result is the crux
of the matter and mere “market” moves away from that position were mere froth
obscuring fundamental realities. In essence, “market” moves away from the long-
run supply positions were of secondary, even trivial, importance – merely special
short-run cases of a more general model dominated by the long-run industry supply
curve. As Schumpeter aptly puts it, Ricardo conceptualizes “ as if determination of
price by supply and demand were entirely different from, and incompatible with,
determination of price by quantity of labour embodied ” (Schumpeter
1954 , 592,
italics in the original). Mill, by contrast, saw that constant costs were not the most
general model. Accordingly, he conceptualized the matter in a manner far more like
in the modern era: Supply-and-demand is the general model, and the constant-costs
assumption is merely a special case of that more general model. This was a harder,
221
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
more signifi cant realization to achieve than can be seen outside its historical context,
for classical economics conceived the supply-and-demand theory as the leading
opponent of the classical labour theory of value (Ekelund and Hebert
1983 , 138),
making it even harder to see the greater generality of the former model. Here, Mill
acts as a key transition fi gure between the Ricardian and Marshallian systems.
Mill’s second signifi cant achievement was to put to bed conceptualizations of the
supply-demand tug-of-war that invoked the notion of a ratio . James Mill, for exam-
ple, had written that “the quantity in which commodities exchange for one another
depends on the proportion of supply to demand” (Mill
1844 [1821], 90). To John
Mill, however, such phrases “fail to satisfy anyone who requires clear ideas, and a
perfectly precise expression of them” ( Principles , 446; 465). First, the ratio under
discussion had different units in the numerator (a quantity) and in the denominator
(a desire). Mill not only fi nds the ratio notion to be logically unsound, but also sees
it as a source of what even then was understood as a circularity puzzle (price deter-
mines demand, but also demand determines price, etc.).
Mill then assaults the ratio interpretation of supply-and-demand head-on. If
quantity demanded exceeds quantity supplied, then price must rise, but by how
much? By the proportional size of the defi ciency? For example, does a 10% gap
between quantity demanded and quantity supplied imply that a 10% rise in price is
needed? “By no means”, says Mill: an article which “is a necessary of life” ( op. cit. ,
447; 466) may see a rise in price far beyond the percent given by the ratio, while, on
the other hand, the demand for a good which is highly price-sensitive may see a
price rise considerably less than the ratio. The ratio method thus offers little correla-
tion or predictive power with respect to the actual adjustments in price needed to
swing quantity demanded and quantity supplied into balance (what does correlate
and predict, Mill perceives clearly, is the price elasticity of demand – though he of
course does not have the term). Since the ratio method is conceptually unsound and
fails to provide insight into price adjustment, it should be discarded. Instead of con-
ceiving the problem in the terms of a ratio, “the proper mathematical analogy is that
of an equation … the quantity demanded and the quantity supplied, will be made
equal” by price adjustment ( op. cit. , 448; 467).
International Exchange Ratios and Price Elasticity of Demand
Mill’s understanding of the price elasticity of demand and its signifi cant implications
to market outcomes is made particularly clear later in Book III, Chap. 18, where he
discusses the determination of international values.
17
Here, he describes the theory of
reciprocal demand in international trade theory. Just as in regular supply-and-demand
theory, equilibrium is where the total quantity of goods supplied equals the total quan-
tity demanded. In international trade, where one country’s exports are another’s
imports, this equilibrium is where the imports of one nation take off the market the
17
Mill actually did much of this work in 1829 and 1830 (see his essay on Trade in his Essays on
Unsettled Questions in Political Economy ) ( Mill
1967 [1844]). Mill’s treatment there is arguably
clearer than in the Principles .
222 M.R. Montgomery
whole of the goods another country wishes to export, and vice versa – that is, there is
a reciprocal demand by one country for the other’s exports. In the two-good and two-
country case that Mill chiefl y examines, relative price adjustment between the two
goods continues until each country is induced to buy up the whole of the other’s
exportable goods with precisely the whole of its own goods produced for export.
Notable here by its absence is Ricardo’s notion that cost-of-production governs
the rate of exchange between goods. Why should cost-of-production not also fully
explain terms-of-trade across borders; that is, why should there be any distinction
drawn between international trade and domestic trade in political economy? Ricardo
and other classical economists emphasized how a distinct theory of international
values emerged out of the fact that factors of production (particularly capital) are
unable to fl ow smoothly across borders the way they can do within a nation’s bor-
ders. Mill pointed out that, under imperfect factor mobility across nations, there is
no mechanism by which cost-of-production can directly control the prices at which
foreign exchange occurs. How then are ratios of exchange determined? Since cost-
of-production fails to provide guidance, the more basic theory of supply-and-
demand must do so. Mill’s distinct theory of international values, then, is that the
“value of a thing in any place, depends on the cost of its acquisition in that place;
which, in the case of an imported article, means the cost of production of the thing
which is exported to pay for it” ( Principles , 583; 595).
To Landreth (
1976 , 145), Mill’s “analysis of the division of the gains from inter-
national trade among trading countries is probably Mill’s most important and last-
ing contribution to technical economic theory”. Schumpeter (
1954 , 605–15) also is
impressed. The theory’s details are now a standard part of international trade theory
and, thanks to later work by Marshall and Edgeworth, have been concisely pre-
sented in graphical form (both Blaug
1985 , 205 and Ekelund and Hebert 1983 , 158
present the graphical version). Mill’s verbal treatment is, however, notable for its
very clear use and application of the price elasticity of demand concept in every
sense but in using the name itself.
In laying out his theory, Mill faced the problem of fi nding the principle(s) that
would explain which of two trading countries would gain the most from their trade.
Ricardo had shown the conditions under which trade would occur, and the range
(given by comparative advantage) within which the trading ratio would fall. At one
extreme trading-ratio, one country would gain virtually all of the gains from trade;
at the other, the other country would reap all the gains. What principle(s) determine
where, in the range given by the two extreme ratio-values, the terms-of-trade would
actually settle? Ricardo had “glibly assumed that the advantage would be halved”
(Schumpeter
1954 , 608), but Mill delved more deeply into the question.
18
1 8
In the original essay in the Unsettled Questions , Mill makes excuses for Ricardo on the grounds that
Ricardo, “having a science to create” (page 4), had no time to trifl e with second-order issues. Mill
thus, in an oft-played role, assigns to himself the middling task of mopping up after Ricardo. In fact,
as is usually the case while playing this humble role, Mill advances the state of understanding consid-
erably of the topic at hand. Perhaps Mill’s relative assessment of his contribution to the topic improved
with time, for there is no hint of this self-effacing attitude in his discussion of it in the Principles .
223
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
Mill proceeds methodically, beginning with the pure statics of the problem.
He sets up a two-country, two-commodity framework, where the given comparative
advantage dictates that the original autarky be replaced by complete specialization
by the two nations (England in broadcloth, Germany in linen). He shows how the
equilibrium trading ratio will be where the entirety of Germany’s linen production
will exactly trade for the entirety of England’s broadcloth production. He then
moves on to comparative statics: supposing a decline in demand by England for
German linen, can England alter the terms of exchange so as to improve their posi-
tion relative to Germany? Mill concludes that indeed they can do so: England’s
“buyers’ strike” will force Germany to offer more favourable terms of trade.
Accordingly, the rate of exchange between the two commodities will move in favour
of England, and more of the gains from trade will be distributed to England. Mill
next introduces transportation costs (“cost of carriage”) and shows that, if trade
continues, transportation costs need not be shared equally among the trading nations
(it “would depend on the play of international demand” ( Principles , 589; 601)).
Mill becomes more specifi c regarding the splitting-up of the gains from trade in
the next section where he extends his framework from two to three traded commodi-
ties. The country that “draws to itself the greatest advantage” from trade is “the coun-
try for whose productions there is in other countries the greatest demand, and
a demand the most susceptible of increase from additional cheapness ” ( op. cit. , 591;
602, italics added). In his next section, where he postulates a cheapening in cost-of-
production such that Germany’s productivity in linen production increases markedly
while England’s remains unaltered, his use of elasticity becomes explicit (in every-
thing but use of the word itself). “Linen”, he says, “falls one-third in value in the
German market, as compared with other commodities produced in Germany. Will it
also fall one-third as compared with English cloth” ( op. cit. , 594; 605), giving England
the entire benefi t of the improvement, or will England’s gain be something less?
In deciding who gains and by how much from Germany’s innovation, Mill breaks
the problem down into three possibilities, defi ned by the inelastic, elastic, and unit-
elastic cases (though, once again, he does not have the actual terms themselves).
“The demand for linen in England … might be increased either in proportion to the
cheapness, or in a greater proportion than the cheapness, or in a less proportion”
( Princples, ibid ; 606). In the case Mill regards as most common, the inelastic case,
the demand in England for linen is inadequate to prevent total English expenditures
on linen from falling despite rising unit demand. As a result, linen is even cheaper
in England than in Germany, and Germany must offer less favourable trading terms
to sell all of their linen. In this case, the non-innovating trading partner will out-gain
the innovating country. The reverse holds in the case where demand is elastic, and
the gains from the invention are shared equally in the unit elastic case.
19
Mill goes on in later sections of the chapter to analyse the sense in which cost-
of-production indirectly comes into play in determining terms of trade, a discussion
in which elasticity continues to be prominently featured. At one point, as a simplifying
1 9
Mill is aware of the possible inroads opened by his analysis for government-led manipulation of the
terms of trade with other nations. He discusses the matter in Book V, Chapter 4 of the Principles .
224 M.R. Montgomery
assumption, Mill explicitly assumes what is today called the rectangular hyperbola
demand curve (which features unit elasticity everywhere on it). Overall, in his dis-
cussion of international values and terms-of-trade adjustment, Mill advances the
development of the elasticity concept well beyond where he had found it. His appli-
cation of the concept to international exchange also was path-breaking. Schumpeter
( 1954 , 609) is of the view that “[i]n this fi eld Marshall did not do more than to pol-
ish and develop Mill’s meaning”. Landreth (
1976 , 146) states that no “major changes
in the classical theory of international trade were made” until Ohlin and Keynes,
early in the twentieth century.
Theory of Joint Supply
While there is often debate about how much of Mill’s Principles is truly original, it
is generally acknowledged that Mill’s treatment of the problem of joint supply (or
joint costs) was signifi cant and new (cf. Blaug
1985 , 198). Mill confronted the issue
in his chapter on “Some Peculiar Cases of Value” (Bk. III, Chap. 16). As is now
widely known, the problem pertains to the case of a single production process that
by necessity generates two different products in fi xed proportions (beef and hides,
and coke and coal-gas are two of Mill’s examples). Mill saw that the notion of profi t
maximization for each of the paired goods individually made no sense. It was the
profi t maximization of the entire production process that counted. As Mill put the
matter: “Cost of production does not determine their prices, but the sum of their
prices” ( Principles , 570; 583).
Mill’s treatment has the pedagogical benefi t of using the identical method of
approach that he had previously used in discussing supply-and-demand and inter-
national values. Again a case is found where cost-of-production does not provide
the needed information; here, on how an equilibrium production of the two products
is reached. Again, Mill falls back on the “more fundamental … law of demand and
supply” ( Principles, ibid ; ibid ) to supply the insight that cost-of-production cannot.
And again the problem is to fi nd a price (or, in this case, prices) that will take the
production of both goods in the joint process off the market.
It is not enough to maximize profi ts from production of Good A if the joint prod-
uct Good B is not also contributing its maximum amount to joint profi ts. One must
maximize profi ts over the whole of the joint process. Mill has a nice example using
gas and coke. Gas is in demand and so a good equilibrium price is easily found for
the whole of the gas production. However, to “force a market” for coke such that the
whole of it is sold, coke’s price must go very low – too low, in fact, to cover the costs
of the entire manufacturing process. Under these circumstances, the price of gas is
raised (note the assumption of market power) to cover the losses on coke, meaning
there is a decrease in quantity demanded for gas. Gas prices rise and so do coke prices
as their quantities diminish. At the end of this complicated adjustment process, says
Mill, prices will settle where both markets are cleared and at prices that cover costs.
“If there is any surplus or defi ciency on either side … the values and prices of the two
things will so readjust themselves that both shall fi nd a market” ( op. cit. , 571; 584).
225
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
Mill’s solution to the joint supply problem is still today’s solution. In more modern
terms, “the equilibrium price of each product must be such as to clear its market,
subject to the condition that the sum of the two prices equals their (average) joint
costs ” (Ekelund and Hebert
1983 , 155 [italics in the original]). Later, Marshall pro-
vided an elegant graphical treatment (see ibid ). As Ekelund and Hebert ( op. cit ., 156)
point out, the joint supply problem has extensive applications, not just in manufactur-
ing but in a wide range of circumstances (such as public-goods, and pollution). Mill’s
early solution to the problem of joint supply – achieved without any mathematical
aid – is therefore quite a signifi cant contribution to applied microeconomic theory.
Public Goods
Mill also breaks new ground in the Principles (Book V, Chap. 11, Section 15) by
elucidating the concept of “public goods”. Mill anticipated “the Italian writers on
fi nance in the 1890s” (Blaug
1985 , 218) by decades with his statement and lucid
development of these concepts.
20
Mill lays out the diffi culty with private supply, and
the consequent argument for public subsidy/supply, of such goods in terms strikingly
similar to the treatment of the topic found in modern Principles of Economics texts.
“A voyage of geographical or scientifi c exploration”, he says, “may be of great public
value, yet no individual would derive any benefi t from it which would repay the
expense … and there is no mode of intercepting the benefi t on its way to those who
profi t by it, in order to levy a toll for the remuneration of its authors” ( Principles , 975;
968). As a second example, Mill cites lighthouses, which, he says, cannot be paid for
via a levy at sea on those benefi ting from the lighthouse “unless indemnifi ed and
rewarded from a compulsory levy made by the state” ( op. cit. , 976; 968) – meaning
that if private supply fails then government must step in and supply (or subsidize the
supply of) such goods. Such enterprises are, therefore, generally left to governments
to subsidize or undertake. As a third example, Mill mentions research into theoretical
knowledge, which he recommends the government encourage through the [now-time-
honoured] practice of creating university teaching posts that contain a research com-
ponent. As is now generally understood, the primary potential problem with all such
goods is that many people benefi ting from such a good stand aside and wait for others
to come forward and voluntarily fund the good. Such “free-riders” hope to enjoy the
good’s benefi ts without paying for the good. Thus, suffi cient funds to fi nance the
good cannot be accumulated since many of those who benefi t will enjoy the good for
free, paradoxically leading to the good not being supplied at all privately.
Mill’s lighthouse example would later famously trigger the seminal paper by
Ronald Coase (
1974 ) , which detailed how lighthouses routinely were privately built
20
Mill however does not display a complete command of the public-goods concept, particularly as
regards to its breadth. He treats the public good issue (discussed in Section 15) as separate from the
incomplete coordination issue known today as the “who goes fi rst” problem (discussed in Section 12).
Modern public fi nance theory sees them as two varieties of the same prisoners’ dilemma problem
(cf. Buchanan
1967 ) .
226 M.R. Montgomery
in the England of Mill’s day. It is now widely held that Coase’s argument refuted
Mill’s. However, Mill did not advocate public supply but rather de facto public
funding of such goods, not through explicit funding but rather through laws empow-
ering the private builders of lighthouses to collect fees from shipping (a sort of “tax-
farmer” arrangement). This is more or less the model of supply that Coase
demonstrates actually was in place to give incentive to private construction. Thus,
despite Coase’s critique, Mill’s argument in the Principles remains sound.
It is somewhat surprising that Mill did not give more attention to the possibility
of wholly private arrangements that might be able to do a creditable job of supply-
ing public goods. Certainly, Mill saw no “coordination problems” implicit in the
problem of creating and maintaining socialist workers’ co-operatives ( Principles ,
Bk. IV, Chap. 7, Sctn. 6). It would not have been unreasonable for him to ask why,
if the problem of free-riding was so predominant in the supply of public goods; was
it not then equally daunting in the creation and maintenance of such cooperatives?
Such questions would, however, be left to future generations.
A Stepping-Stone to Modern Growth Theory
Mill’s Principles , in the opening chapters of Book IV, conveys a rendition of the
dynamics of economic growth that is a notable improvement from that of Ricardo
and earlier thinkers. At times, the discussion seems almost modern. While, natu-
rally, the approach is classical and therefore Malthusian, it hints strongly of the
neoclassical growth theory that would be so infl uential in the second half of the
twentieth century (and beyond).
Following a brief discussion of “statics” and “dynamics” at the start of Chap. 1 ,
Mill launches quickly into one of the most profound and emphatic endorsements of
the long-run benefi ts of capitalism that can be found anywhere in his works. The
“civilized nations” have propelled themselves into an era marked by “perpetual, and
so far as human foresight can extend, … unlimited, growth of man’s power over
nature” ( Principles , 696; 706). “Our knowledge of the properties and laws of physi-
cal objects shows no sign of approaching its ultimate boundaries”, and moreover,
“[t]his increasing physical knowledge is now, too, more rapidly than in any other
period, converted, by practical ingenuity, into physical power” ( Principles, ibid;
ibid ). In consequence, “it is impossible not to look forward to a vast multiplication
and long succession of contrivances for economizing labour and increasing its pro-
duce…” ( Principles, ibid ; ibid ).
21
These powerful trends are aided strongly by “a
continual increase in security of person and property”, not only against common
thievery, but also “by institutions or by manners and opinion, [protecting] against
arbitrary exercise of the power of government” ( op. cit., 697; 707). Further,
“[t]axation, in all European countries, grows less arbitrary and oppressive, both in
21
Interestingly, nowhere in this discussion does Mill state that it is capitalist institutions that have
played a main role in creating this bounty, but this may be induced from other passages in the
volume (e.g. Book I, Chap. 13, 189–90), and the “Peasant Proprietors” chapters explicitly linking
favourable incentives to productive activity (Book II, Chaps. 6–9).
227
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
itself and in the manner of levying it” ( Principles, ibid ; ibid ). International Trade
(discussed in his next chapter) and the waning of warfare also plays a signifi cant
role, as does the growth of insurance. Mill emphasizes the promotion of prosperity
given by enhanced security: “Industry and frugality cannot exist where there is not
a preponderant probability that those who labour and spare will be permitted to
enjoy” ( Principles, ibid; ibid ). Then, in a passage that reminds us that Hayek ( 1948
[1945];
1972 [1944], Chap. 6) closely studied Mill:
Experience has shown that a large proportion of the results of labour and abstinence may be
taken away by fi xed taxation, without impairing, and sometimes even with the effect of
stimulating, the qualities from which a great production and an abundant capital take their
rise. But those qualities are not proof against a high degree of uncertainty. The Government
may carry off a part; but there must be assurance that it will not interfere, nor suffer anyone
to interfere, with the remainder. ( Principles , 697–8; 707)
These remarks largely anticipate the pro-capitalist positions which modern growth
theory has, after a long and unproductive stint in the socialist-technocratic wilder-
ness, come to advocate (cf., Hall and Papell
2005 : Chap. 6 [“Growth and the World
Economy”], which offers a concise introduction to this literature). Mill deserves
great credit for anticipating such doctrines, and by so many decades.
Following an impressive defence of speculators in market systems, Mill next turns
to the “nature and consequences” of the observed fact that “[a]ll the nations which
we are accustomed to call civilized, increase gradually in production and population”
( Principles , 696; 706) – or, as we might say today, growth theory . Mill’s rendition of
classical growth theory in Chap. 3 has arguably received less appreciation than it is
due. True, Smith highlighted the topic of growth in the Wealth of Nations , while
Ricardo followed with a tolerably complete treatment of the consequences of simul-
taneous and proportionate growth in capital and population. But in his Chap. 3 , Mill
lays his discussion out in remarkably similar fashion to how the Solow model (the
foundation of modern neoclassical growth theory) is treated today – fi rst he addresses
the case where population alone is growing (“capital and the arts of production
remaining stationary” [ Principles, 710; 719]), then the case where capital alone is
growing, then the Ricardian case where both population and capital are growing, and
fi nally the case where progress in technology (“a sudden improvement made in the
arts of production” [ op. cit., 715; 723]) occurs, in the absence of other changes.
Mill’s far more complete and systematic discussion advances the treatment of growth
in the classical literature considerably, and, laid out as it is in modern fashion, it
makes it easy to directly compare the workings and conclusions of classical growth
theory in comparison with neoclassical growth theory. (A complete direct compari-
son is diffi cult, because of Classical growth theory’s focus on the distribution of
income, which has no real corresponding feature in neoclassical theory.)
Mill begins with a discussion of the effects of growth of population within
Classical growth theory. Growth in the labour force in the absence of technological
improvement or other offsetting factors lowers wages through greater competition
for the same jobs. Workers suffer accordingly, and must cut back on consumption.
However, since there are now more workers, Mill thinks that, in general, the demand
for food will increase due to its inelasticity of demand. More food will be produced,
and rents will rise due to diminishing returns to agriculture. Labourers lose from
228 M.R. Montgomery
this process, while capitalists and particularly landlords gain. So far we see an
argument that leads roughly where the neoclassical model leads in the event of an
increased population ceteris paribus . There, the greater population leads to less
capital-per-worker, accompanied by less growth and less well-being for the now-
larger population (see, e.g. Jones
2002 , Chap. 2).
So far, so good – different models reaching the same conclusions. But now the
correlation ends jarringly in Mill’s discussion of the consequences of an increase in
capital in the Classical model. Mill uses “increase in capital” in a fi xed-proportions /
wages-fund way. An addition to capital only increases funds to support the suste-
nance of labour (e.g. capital is not conceived of as tools, machinery, etc.). Since each
labourer needs a fi xed amount of sustenance, and is already getting all he needs (by
assumption), additional capital can do nothing to enhance the productive ability of
labourers (this is in sharp contrast to the neoclassical approach which defi nes capital
as complementary to labour and in variable proportions). Accordingly, all that addi-
tional capital can do is bid up the price of the fi xed labour force. (Elsewhere, Mill
even talks of how in a slow-growing country, introduction of machinery could badly
hurt labour due to funds being taken out of the wages-fund to fi nance that machinery
[ Principles , 742; 749]). The additional capital therefore leads to no additional
employment (he assumes there is little unused labour to be put to work), and its sole
effect is to raise workers’ wages and lower fi rms’ profi ts. Output is unchanged. The
additional capital in essence works as a kind of tax [!] on the hiring of labour by
subsidizing additional competition for use of the fi xed labour stock (this “tax” takes
the form of a transfer from employers to workers and also landlords if – as Mill thinks
likely – the demand for food increases). This bizarre argument builds in a profound
pessimism about the ability of capital acquisition to increase output or contribute in
any way to economic growth (again, here we are holding technology constant).
Mill’s rendition of classical growth theory also is pessimistic about the ability of
technological enhancements to improve the lot of the labouring classes – now for
the familiar Malthusian reasons. It is not that Mill is unimpressed with the power of
technological improvement to increase human well-being. As we have already seen,
Book IV, Chap. 1 is dedicated to lauding past and likely future effects of technologi-
cal improvement on society. It is, rather, that population growth among the labour-
ing classes will quickly chew up any gains in living standards that briefl y emerge
(or, if he does not fully embrace this presumption in reality, at least he feels com-
pelled to place it before the reader as a conservative measure).
22
2 2
Mill is not one for “trickle-down” theories: He speaks of how great progress can co-exist with a
considerable underclass that gains little from progress at the higher income levels. “We must, there-
fore”, he says, “in considering the effects of the progress of industry, admit as a supposition, however
greatly we deprecate as a fact, an increase of population as long-continued, as indefi nite, and possibly
even as rapid, as the increase of production and accumulation” ( Principles , 699; 709). Arguably, this
passage should be interpreted as Mill denying that he believes in the Malthusian assumption he still
feels compelled to make, but is coming to disbelieve. It would be interesting to see him explicitly step
out of the Malthusian box and contemplate the consequences, but, at least in the analysis of Book IV,
he never does, except – as usual – to propose ways of lowering birth rates.
229
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
In his analysis of the case of technological improvement, Mill’s main line of
d iscussion argues that improvements usually extend in their impact into the agricultural
sector. Starting with this assumption, he then breaks his analysis into two parts; fi rst,
where the change is sudden and substantial, the second (much more common) where
it is continuous and gradual. The fi rst, “technology shock”, case overwhelms the
counterforce of labour-supply growth, pushing back the margin of land usage, lower-
ing food prices and thereby lowering rents, and benefi ting labour accordingly. Likely
population growth will, however, eventually blunt these advantages, returning labour
to its original state unless voluntary abstinence in fertility is followed (an abstinence
which Mill sees as unlikely in the society in which he lived). Mill goes on to acknowl-
edge that such declines in rents as predicted by the “technology shock” model in fact
are not observed. This is because, in fact, technological change is slow and steady,
not discrete. Accordingly population is constantly putting pressure on whatever
gains technology offers society. These conclusions, again, are in sharp disagreement
with those of neoclassical growth theorists, who, free to contemplate technological
improvement in a non-Malthusian economy, are able to unleash the full power of
technological progress as an unbridled benefi t for mankind. Mill, never able to shake
his fear of population growth, could not fi nd his way to such a conclusion. Malthusian
theory simply imposed unshakeable constraints on one’s ability to fully see the power
of technological change to improve the lot of humankind. Still, the potential of
growth-enhancing forces is nicely highlighted by Mill in these chapters.
Commonsense Thoughts on Taxation, Government and Welfare
(Bk. V, Chaps. 2–6; 8–11)
While many of the ideas presented can be found in earlier works, Mill’s thorough
treatment of public fi nance is a nice early contribution to the fi eld. He begins by
repeating Adam Smith’s four dictums regarding appropriate taxes. Rates paid by
citizens should be “proportionate to their respective abilities”. Tax liabilities should
be “certain, and not arbitrary”. Taxes should be levied when it is easiest for the citi-
zen to pay them. And (using modern terminology), a tax should impose as small
burden (deadweight loss) as is consistent with other objectives of the tax. These are
serviceable maxims which even today’s copiously enlightened legislators might
usefully fi nd time to contemplate. Mill regards all but the fi rst of these principles as
self-explanatory. As for the fi rst, he launches straightaway into a discussion of
“equality” in taxation that touches nicely on most of the core concepts of modern
taxation theory. Pursuit of equality of taxation, says Mill, means achieving equality
of sacrifi ce – a principle that would seem to imply progressive taxation (the mil-
lionaire parts easily with $100, while the pauper is devastated by the loss).
23
Certainly
23
“As, in a case of voluntary subscription for a purpose in which all are interested, all are thought
to have done their part fairly when each has contributed according to his means, that is, has made
an equal sacrifi ce for the common object; in like manner should this be the principle of compulsory
contributions…” ( Principles , 805; 808).
230 M.R. Montgomery
he favoured progressivity in taxing bequests and inheritances ( Principles , 809; 811).
For income taxes Mill favoured proportionality despite his approval of the principal
of progressivity, due to disincentives to “saving the earnings of honest exertions”
( op. cit. , 808; 811). He would combine this with an exemption for income below a
certain amount. Mill was alive to the negative impact on economic activity of pro-
gressivity in income taxes, though he saw no such problems with the taxation of
(what he saw as) idle fortunes ( op. cit. , 808–9; 810–11). He also thought that, by
taxing “luxuries” at a higher rate than necessities, society could indirectly impose
some progressivity with respect to income without the heavy work-disincentives of
a direct income tax.
Mill touches on many of the concepts of modern tax policy in his general discus-
sion. Should taxes be imposed according to the benefi ts one receives from govern-
ment protection of one’s property? No, government’s mandate is far broader than
just protecting property, so this argument fails. Should the tax rate on “the profi ts of
trade” (a profi ts tax or capital-gains tax) be at a lower rate than “incomes derived
from interest or rent”? ( op. cit. , 810; 813). Yes, such “life incomes”, at least in com-
parison to the “perpetual incomes” fl ung off by land, are both shorter in duration
and far more precarious, so that fairness in taxation should lead to their being taxed
at a lower rate (by implication, the same argument would seem to apply to wage
income). Interestingly, Mill does not advance any output-enhancement arguments
for a lower tax on “profi ts from trade”. Mill also fully treats direct, indirect, and
miscellaneous taxes in these chapters (although the consistent malthusianism char-
acterizing the analysis limits these sections’ interest to the modern reader). He is an
early advocate of what we today would call a consumption tax. Setting aside tax
cheating, “the proper mode of assessing an income tax would be to tax only the part
of income devoted to expenditure, exempting that which is saved” [ op. cit. , 813;
815]. Also notable in this section is his discussion of the distortions caused by the
curiosum known as the “window-tax”, which was a house-tax “of a bad kind, oper-
ating as a tax on light, and a cause of deformity in building…” ( op. cit. , 835; 837).
Mill supplies useful warnings against the dangers of excessive taxation. “Taxation
should not encroach upon the amount of the national capital”, he says, and, in par-
ticular, he is at pains to warn his reader that “[o]ver-taxation, carried to a suffi cient
extent, is quite capable of ruining the most industrious community, especially when
it is in any degree arbitrary…” ( op. cit. , 821; 822). Here, Mill implicitly recognises
the core principles of both the Laffer Curve (with his concern about the output
effects of “over-taxation”) and Hayekian “rules vs. discretion” doctrine (the view
that even high taxes can be tolerated so long as their burden is known to calculating
agents [cf. Hayek
1972 [1944]]). Advocates of free-market principles however
should have their celebration quickly. Mill closes the chapter paradoxically by argu-
ing that, while taxes on “legacies and inheritances” are taxes on capital (a type of tax
which, a page earlier, he had condemned), this should not prevent them being taxed
anyway. The amount raised by such a tax “is but a small fraction of the annual
increase of capital in such a country” ( Principles. , 822; 823). He might also have
mentioned the vast good he thought such revenues could do in the hands of wise and
enlightened government offi cials (e.g. Principles , 741; 748).
231
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
Mill devotes the last hundred pages of the Principles to the question of the proper
tasks of, and limits to, government action. Government’s role as the protector of
“person and property” ( op. cit. , 881; 880) is essential to economic progress. Mill
emphasizes how high taxes, if known and predictable, can be fairly well-tolerated
by an economy. That having been said, high taxes alone can cause much damage to
prosperity. Similarly, poorly administered justice, due not only to bad law but also
poorly organized legal institutions that make legal recourse diffi cult and/or expen-
sive to obtain, is a serious potential “tax” on society’s productive members. Mill
discusses inheritance law, contract law (including legal partnerships and incorpora-
tions), and insolvency law. Regarding contract law, he sees clearly the advantages of
limited liability incorporation – then a relatively new innovation – in an industrial
economy where the accumulation of “large capitals” is immeasurably aided by such
legal protections. He is however not blind to the accompanying risks; specifi cally,
the moral hazard problem of managers of such fi rms misusing their responsibilities
for personal gain ( Principles , 901; 898–9), and he discusses the disadvantages of
such arrangements more thoroughly in Bk. V, Chap. 11, Sctn 11. Finally, Mill turns
to insolvency (bankruptcy) law, which must be helpful to the indigent but not so
well-crafted as to “protect idleness or prodigality” ( op. cit. , 888; 886).
Mill’s Chap. 10 identifi es government interventions which economic theory con-
demns. Mill gives what are now considered to be the standard arguments against
protectionism, usury laws, price ceilings in general, government-sponsored monop-
olies, and suppression of labour’s right to organize. Government suppression of free
thought is also condemned as “fatal to all prosperity” ( op. cit. , 940; 935). Society,
Mill thinks, has seen the last of these fallacious interventions: “The false theories of
political economy which have done so much mischief in times past, are entirely
discredited…” ( op. cit. , 916; 913). Alas, all of them and more have dominated pol-
icy discussions in the bulk of the twentieth (and now, twenty-fi rst) centuries, due in
no small part to Mill’s own progressive ideas, which have been used by others to
justify far broader interventions than Mill himself would have advocated.
Turning now to Mill’s treatment of welfare, the reader will fi nd Mill writing in a
fashion very reminiscent of the modern approach to welfare often espoused by con-
servative thinkers. Yes, “the claim to help … created by destitution, is one of the
strongest which can exist”, and “the relief of so extreme an exigency” should be
made “as certain to those who require it as by any arrangements of society it can be
made” ( Principles , 967; 960). But assistance must be given in a carefully measured
quantity, lest people be made too dependent on the dole, to the disadvantage of soci-
ety. Assistance should not be given to the extent that the recipient is as well off as his
neighbour who has achieved success where the recipient has failed. Mill speaks of
“many highly pauperized districts in more recent times, which have been dispauper-
ized by adopting strict rules of poor-law administration, to the great and permanent
benefi t of the whole labouring class” ( op. cit. , 968; 961–2). Further, on no account
should those on the dole be given the right to vote themselves additional benefi ts.
“Those who pay no taxes, disposing by their votes of other people’s money, have
every motive to be lavish, and none to economize” ( Mill
1973 [1861], 471). Mill also
advocates a complementary relationship between the public dole and private charity.
232 M.R. Montgomery
The state should not be in the business of distinguishing between the worthy and
unworthy: its policies must be governed by a mandate to “act by general rules”
( op. cit. , 969; 962). The state’s role is to provide a small stipend to all who are
needy, without trying to “discriminate between the deserving and the undeserving
indigent” ( Principles, ibid ; ibid ). The givers of public relief have no role to play as
“inquisitors” ( Principles, ibid ; ibid ). It should be the business of private charity to
make those distinctions, and so determine who is worthy of additional support. In
this way a “tyrannical” ( Principles, ibid ; ibid ) welfare agency is prevented from
coming into existence.
Mill’s Macroeconomic Contributions
Mill’s Principles , as a comprehensive summary of political economy, naturally con-
tained a treatment of Classical “macroeconomics”. It was, of course, built around
Say’s Law, which famously held that “the very act of production guaranteed that an
equivalent amount of consuming power would be created” (Montgomery
2006 ) . So
long as Say’s Law stood, underconsumptionist theories of underemployment were
easily vanquished. The equivalency between production and consumption stated by
Say’s Law, however, was only true by defi nition in a barter economy. How did
things stand in a monetary economy, where purchasing power could vanish into
storage vaults, holes in the ground, and other such “sinks” of unspent value?
Classical economists saw clearly that equivalency between production and con-
sumption was clear-cut so long as hoarding of purchasing power – i.e. of money –
was ruled out. Early classical thinkers accordingly went to great lengths to “establish”
the non-existence of hoarding. Their fi rst thrust was to emphasize that money is
valuable only as a facilitator of purchasing, thus implying (but not really demon-
strating) that all (or nearly all) money would be constantly spent, not held. In his
famous essay on Money in the Principles (Bk. III, Chap. 7), Mill himself held that
money was only “a machine for doing quickly and commodiously, what would be
done, though less quickly and commodiously, without it…” ( Principles , 488; 506).
Say had been more explicit in denying a store-of-value role to money, stating that
the money “you will have received on the sale of your own products, and given in
the purchase of those of other people, will the next moment execute the same between
other contracting parties…” (1983 [1803], 13, emphasis added). Likewise Adam
Smith argued that “[w]hat is annually saved is as regularly consumed as what is
annually spent, and nearly in the same time too; but it is consumed by a different set
of people” (Smith
1937 [1776], 321, emphasis added). The glib “nearly” was in fact
a tacit admission that the time element was critical to the argument. As Blaug put it,
“[t]he operative proposition hidden away in Smith’s phraseology is that saving is
tantamount to investment because ‘hoarding’, the building up of monetary holdings,
is regarded as an exceptional occurrence” (Blaug
1985 , 55–6).
The problem in all this for Classical theory was the implausibility of the claim
that money was not a store of value. If money were hoarded, then it would be diffi -
cult to argue that there was no essential difference between a purely barter and a
233
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
money economy. Writing in the late 1820s, a young Mill therefore sought to dismiss
this diffi culty.
24
Mill quickly ceded the point that money could act as a store of
value, and that, therefore, there was no logical reason why purchasing power could
not retire temporarily into idle cash balances. In fact, part of the value of money was
that it allowed the moment of purchase to be separated from the moment when the
money gained is used to acquire a new good. Therefore:
The buying and selling being now separated, it may very well occur, that there may be, at
some given time, a very general inclination to sell with as little delay as possible, accompa-
nied with an equally general inclination to defer all purchases as long as possible ( Mill
1967
[1844], 276).
Mill went on to describe a commercial “crisis” as a period of time where just such
an episode would likely occur, during which money
was in request, and all other commodities were in comparative disrepute. In extreme cases,
money is collected in masses, and hoarded; in the milder cases, people merely defer parting
with their money, or coming under any new engagements to part with it. But the result is,
that all commodities fall in price, or become unsaleable. ( op. cit., 277 )
Thus a symptom (not a cause) of the crisis is the excess demand for money – the
mirror image of the excess supply of goods that characterizes the crisis. But Mill
argues that such a situation “can only be temporary, … since those who have sold
without buying will certainly buy at last…” ( ibid ). Mill is convinced (as were other
Classical economists) that the crisis period is short and so such an excess demand
for money / excess supply of goods also will last only for a short time. Such short-
term disruptions, he says, bear no resemblance to the chronic demand defi ciencies
alleged by underconsumptionists like Malthus. Thus, the short-term disruption
caused by a crisis offers no support to those who see the economy suffering from a
chronic insuffi ciency of total demand.
One signifi cant achievement Mill accomplished by this line of reasoning is to
free the Classical framework from the restrictive assumption that money be used
only as a medium of exchange, not also as a store of value. But this freedom came
at a cost. The older line based on the premise that money was not a store of value
established a strict equivalency between a barter economy and a monetary economy;
in both, Say’s law strictly guaranteed full employment. By broadening the classical
view to include routinely storable money, and thereby eliminating an unpalatable
assumption, Mill in one sense increased the plausibility of that view. However, his
more general argument also weakened the case for money’s neutrality. In “the long
run”, money was still neutral (hoarded money would eventually be spent), and Say’s
Law still guaranteed full employment (accordingly, Mill ended his essay with a
brusque, incisive rejection of the underconsumptionist argument). But now there
was a time period of a “short” but unspecifi ed length (the “crisis”) during which
money’s store-of-value function was vital in bringing about a period during which
“all commodities fall in price, or are unsaleable” ( ibid ).
24
“On the Infl uence of Consumption on Production”, in his Essays in Some Unsettled Questions in
Political Economy ( Mill
1967 [1844]).
234 M.R. Montgomery
Mill’s identifi cation in the Unsettled Questions of a way in which demand for
goods-in-general could for a time be defi cient due to the unique role played by
money in the economy, thus marks one of the beginnings of the transition from the
Classical to the modern “macro-view”. It is even, arguably, the start of mainstream
macroeconomic theory.
25
Mill identifi ed the key aspect of modern business cycle
theory – that deviations from full employment are self-correcting but occur for rea-
sons that are not essentially microeconomic in nature (they affect all sectors more-
or-less equally).
This was an idea quite distinct from standard classical reasoning. Earlier classi-
cal discussions of aggregate economic diffi culties predominately involved circum-
stances where problems in individual commodity markets were large enough to
exert a signifi cant aggregate impact – as in cases where “production is not exces-
sive, but merely ill-assorted” ( Principles , 559; 573), such as in Ricardo’s “sudden
changes in the channels of trade” argument (Ricardo
2006 [1821], Chap. 19). To the
pre-Mill classical economists, aggregate economics issues were just the outcome of
the issues of all the individual industries – a problem of microeconomics writ large.
The notion that something might occur that would push more or less uniformly
downward on demand for goods-in-general plays little role in Classical thinking.
26
Mill’s macroeconomic theorizing was of a milder sort than modern aggregate-
demand based theories. Mill made no argument based on the notion of an exogenous
decline in purchasing power due to an excess demand for money. He saw hoarding-
type behaviour instead as an endogenous response to the circumstances of the crisis
itself. The recovery from the crisis, and the elimination of the excess demand for
money, occurred in tandem, with the recovery leading the way. Nonetheless, it was
the existence of routinely storable money that allowed the crisis to develop in the
manner it did – no “excess supply of goods” (as we would say today) could occur
otherwise. The mirror-image of Mill’s excess supply of goods is his excess demand
for money. Perhaps the duration of the crisis – maybe even its cause – is due to the
disequilibrium in the supply of, and demand for, money in the crisis period. Down
this road lies monetary disequilibrium theory, pioneered by David Hume (
1970
[1752], 37) in the context of a change in the money supply. Mill, arguably without
intending to do so, raised the possibility of a monetary disequilibrium stemming from
an “under-supply of money” ( Principles , 561; 574), occurring not in Hume’s context
of an exogenous reduction in the money supply, but rather under circumstances
where a sudden crisis-induced increase in demand for money causes the normal
quantity of money to correspond to a state of excessive demand for money. This was
2 5
Hume had earlier perceived that periods of money infl ow corresponded to periods where “industry
has encreased” (1970 [1752], 37) and vice versa ( op. cit. , 40). Moreover, Hume had seen that
“there is always an interval before matters be adjusted to their new situation…” ( ibid ). But he had
dealt only with cases of change in money supply, and Hume’s essay aggressively denies that money
is anything but a medium-of-exchange and a unit-of-account.
2 6
There are some exceptions. For example, Ricardo ( 2006 [1821], Chap. 21, 205–6) traces out the
bare bones of a money-driven cycle based on confusion of real and nominal effects. But Ricardo
discusses these within the context of a single representative merchant, and does not go on to draw
out any economy-wide implications from these insights. Moreover, he places no special emphasis
on these passages – they are merely ruminations in the midst of other loosely related ruminations.
235
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
a substantive break from previous classical arguments, but it was a clear antecedent
of twentieth-century monetary theory; in particular, monetarism in its several forms.
The National Debt (Book V, Chap. 7)
In the midst of a general discussion in Book V on taxes, Mill addresses the National
Debt, a topic we would today be more inclined to place under macroeconomics.
Chapter 7 , which discusses the National Debt and issues pertaining to it, is notable
for its anticipation of many of the themes that would later animate the modern dis-
cussion of the topic. Suppose the government of a country must undertake a vast
new expenditure – does it matter whether it is fi nanced via taxes or public borrow-
ing? Yes, says Mill. Assuming defi cit fi nance under strict classical conditions, all
funds borrowed by the government would otherwise have been used to enhance the
wages fund, paying the wages of labour. Therefore, wages will be lower, and the
revenues borrowed have been taken from labour just as surely as if they had all been
taxed away instead. From this perspective, it makes no difference whether the new
public spending is fi nanced by a tax this year or borrowing followed by a drawn-out
payment, except that society is worse off in the latter case due to the lengthy liability
incurred by the public sector (Mill attributes this argument to Chalmers [ Principles
Bk 1, Chap. 5, Sctn. 8], rather than Ricardo), and except for the not inconsiderable
costs of running the tax system itself (“expense, vexation, disturbance of the chan-
nels of industry, and other mischiefs over and above the mere payment of the
money…” [ Principles , 876; 876]).
27
Mill does not stop there however but looks for exceptions to the principle asserted.
If the borrowed funds would not otherwise have been used productively (unproduc-
tive expenditure), or if the funds are to be borrowed from abroad rather than out of
the domestic wages fund, or if they consist of domestic funds to be lent elsewhere,
or if (due to the approach of the stationary state) capital is suffering from returns so
low as to be near Mill’s “practical minimum”, in all these cases, says Mill, the gov-
ernment may borrow funds without encroaching upon the employment of the
labouring classes in the country. The test of which scenario occurs depends on
whether or not the government borrowing raises the rate of interest in the country
(thus here is an early version of the “crowding out” discussion that so motivated the
US discussion of public fi nance in the 1980s, and is likely to come to the fore again
given the explosion of public debt by the West in the early twenty-fi rst century).
Mill believes that in principle, given a national debt, a nation should pay the debt
off. However, somewhat surprisingly for someone who is so alive to the costs of
defi cit fi nance, Mill – in a touch that anticipates Milton Friedman – ranks the
elimination of the most unpleasant taxes ahead of defi cit reduction. Even with this
accomplished, he ranks, ahead of paying off the debt, experimentation along the
Laffer curve (as we would put it today) to fi nd the lowest rate that collects whatever
27
Mill has no patience with the “we owe it to ourselves” principle which is often advanced when
discussing public borrowing of purely domestic funds. His simple retort is that the “transfer, how-
ever, being compulsory, is a serious evil” ( Principles , 876; 876).
236 M.R. Montgomery
is the needed revenue. From this point on he would apply “surplus revenue” to eliminating
the debt. Mill’s healthy respect for the inconvenience, cost, and assault on liberty of
many forms of taxation, even in the face of a signifi cant national debt, is deserving
of attention from those who fi xate on their government’s debt even to the extent of
advocating much higher taxes to “manage” it.
Mill’s Survey of Classical Macroeconomics
While many of his topics are of only historical interest today, Mill’s survey of the
macroeconomics of his era remains masterful – and, often, far from irrelevant to
modern topics. His chapter on money (Book III, Chap. 7) is still the classic state-
ment of the principle of money’s neutrality. He follows this up with a tolerably
complete description of the quantity theory of money (or, at least, of the equation of
exchange) in Chap. 8 . Chapter 9 addresses a crucial topic both for a commodity
standard and for advocates of a cost-of-production theory of value – the value of
money’s dependence on its cost-of-production (he sees, not surprisingly, a close
connection). His Chap. 10 nicely elucidates the peculiarities of a double-standard in
a monetary system. Chapters 11 and 12 discuss at length the question of the role of
credit in a monetary system. The Principles did much to popularize the so-called
“banking school” of money and credit, as opposed to the “currency school” (the
latter being widely regarded as an early version of monetarism). Credit does affect
prices, says Mill, and “in whatever shape given”, regardless of “whether it gives rise
to any transferable instruments capable of passing into circulation or not” ( Principles ,
524; 538–9). Chapter 13 addresses questions concerning an incontrovertible paper
currency. Mill focuses on the transfers of wealth implicit in the introduction of fi at
money into a hard-money system, pointing out along the way the problem of money-
illusion, the several costs of infl ation, how infl ation should be viewed as a kind of
tax, and the redistribution of wealth among creditors and debtors implicit in the
infl ation brought on by paper money. Chapter 14 is his famous “Of Excess of
Supply”, the substance of which was discussed earlier. Chapter 15 , “Of a Measure
of Value”, is notable as an early discussion of price indices – a discussion somewhat
complicated by the intrusion of the labour theory of value into the treatment. Other
macroeconomic topics appear, off and on, throughout the Principles (classical
growth theory, for example, discussed in detail previously, appears in Book IV, and
the macroeconomic role of capital is treated in Book I).
Mill’s “Heterodox” Contributions in the Principles
In the opinion of the Mills, by far the most signifi cant sections of the Principles
were those that “pushed” political economy in directions very far-fl ung from its
standard paths. Orthodox classical political economy’s questions, thought Mill,
were “of very minor importance compared with the great practical questions which
237
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
the progress of democracy and the spread of Socialist opinions are pressing on…”
(Letter to Karl Heinrich Rau, 1852 quoted in Mitchell
1967 , 562). A major purpose
for writing the book was to rescue political economy from its reputation as the “dis-
mal science” – as a fi eld not really in touch with the new “insights” in broader social
science, and one ever-pronouncing pessimistic conclusions about the long-run
future of mankind (particularly the future of the “labouring classes”).
One of Mill’s most important heterodox ideas – discussed earlier – is the separa-
tion of the laws of production and the laws of distribution. Another idea quite for-
eign to classical theory, also discussed earlier, is the notion that government, acting
in the name of the people, ought to confi scate considerable amounts of the “bequests”
and “legacies” of the wealthy (Book II, Chap. 2), thereby striking a blow for equal-
ity while at the same time liberating vital funds which might then be put to use in
educating the labouring classes and carrying out other public works.
A third brief example of an important “heterodox” idea by Mill frames an issue
that would be a constant source of tension between mainstream economists and
more heterodox economists stemming from Mill’s day through our own. This is
Mill’s discussion in the Principles (Book II, Chap. 4) on the topic “Of Competition
and Custom”. Here, Mill severely tries to draw lines of demarcation restricting the
laws of economics proper to what he saw as their correct usage. Political econo-
mists, he points out, “are apt to express themselves as if they thought that competi-
tion does, in all cases, whatever it can be shown to be the tendency of competition
to do” ( Principles , 242; 239). Partly this is because only by invoking the power of
competition can economics actually make logically scientifi c deductions and pre-
dictions about market outcomes. But, to Mill, it is of the upmost importance in
social science to reject the view that “competition exercises in fact this unlimited
sway” ( Principles, ibid ; ibid ). Many other forces – notably, custom – strive with
competition in the real world to impact the behaviour of decision-makers. Mill goes
on to describe many examples in numerous contexts, all designed to wean the bud-
ding economist of an over-emphasis on mere competitive forces when seeking to
understand or predict human economic behaviour. “To escape error, we ought”,
maintains Mill, “in applying the conclusions of political economy to the actual
affairs of life, to consider not only what will happen supposing the maximum of
competition, but [also] how far the result will be affected if competition falls short
of the maximum” ( op. cit. , 248; 244). One may induce from his argument that Mill
would have looked-on aghast at the excesses of deduction that characterize some of
the high points of neoclassical theory, and that he would be enthusiastic about some
of the intellectual trends that have supplanted (or at least, supplemented) that theory,
such as “behavioural economics”.
The Dynamic Tendency of Profi ts to a Minimum
Like all the Classical economists, Mill believed in a living, breathing stationary
state that was utterly inevitable given the premises of classical theory – premises
that classical economics regarded as accurate descriptions of the actual society in
238 M.R. Montgomery
which they lived. Increases in capital beyond some limit crowd in upon the limited
supply of land, raising rents and also raising either wages or population. Either
event inevitably brings about a fall in the return on capital to its absolute minimum
(thus also lowering the savings rate to its minimum sustainable level). Resource
constraints – population growth plus the inevitable increases in food costs due to
sharp limits to agricultural productivity – thus bring about minimum profi ts and
eventually cause progress to grind to a halt. Mill asserts that “the rate of profi t is
habitually within … a hand’s breadth of the minimum, and the country therefore on
the very verge of the stationary state” ( op. cit. , 731; 738).
28
Technological gains can
just barely keep the economy ahead of the stationary state for a time, but cannot do
so forever. The relentless pressure of population and food costs on the economy
must sooner or later bring on the stationary state.
29
In his depiction of the path to the stationary state, Mill is at pains to disavow the
view that “there would be great diffi culty in fi nding remunerative employment every
year for so much new capital”, leading to a “general glut” ( Principles , 732; 739).
Such is not the case, he says: All the new capital would fi nd a market, but at the cost
of “a rapid reduction of the rate of profi t” ( Principles, ibid ; 740). Mill is delighted
by such a prospect, which, he argues, “greatly weakens … the force of the economi-
cal argument against the expenditure of public money for really valuable, even
though industriously unproductive, purposes” (op. cit., 741; 747).
Given suffi ciently low profi t rates for private investment, public investment can
be justifi ed as superior to low-return private investment, and the older economists’
concerns about the consequent waste of society’s capital at the hands of government
fall to the ground ( Principles, ibid ; 748). Indeed, to Mill the truth is precisely the
reverse of conventional classical wisdom as the economy approaches the stationary
state. It is then in the private sector, where capital becomes very cheap as minimum
profi t margins are approached, that unacceptably low returns are earned. Mill’s view
is that much higher non-market returns are there-for-the-picking for society in the
long-underappreciated, funds-starved public sector. Mill thus reveals one reason
why he, alone among classical economists, welcomed the stationary state. The
looming stationary state, in which “the rate of profi t is habitually within … a hand’s
breadth of the minimum” ( Principles, 731; 738) furnished Mill with additional
28
Mill catalogues forces that might somewhat ameliorate the minimum-profi ts principle. One of
his more interesting counter-forces in the light of recent world events [2008–2009] is “the waste of
capital in periods of over-trading and rash speculation, and in the commercial revulsions by which
such times are always followed” [ Principles, 734; 741]. Others are technological improvements,
international trade, and “the perpetual overfl ow of capital into colonies or foreign countries…”
(op. cit., 735–9; 742–5). A few pages further on, Mill remarks casually that “[t]he railway gam-
bling of 1844 and 1845 probably saved this country from a depression of profi ts and interest…”
(op. cit., 743; 750).
29
Mill offers little argument for why it might be that technological improvement cannot be fast
enough to stave off the arrival of the minimum-profi t, stationary state. Instead, the proposition is
presented as, more or less, an article of faith (no doubt he was encouraged in this approach by the
broad consensus among classical thinkers that there was a real, inevitable such state in the econo-
my’s future).
239
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
grounds (in a utilitarian sense) for his program to tax inheritances and legacies of the
wealthy and to transfer formerly private wealth over to the public sector in order to
fund “any great object of justice or philanthropic policy…” ( Principles , 741; 748).
Since Mill wrote those words, many a “great object” of this nature, and more
than a few not so great, have been brought to fruition by government power (and not
all of them in a low-profi t environment either). Once Mill throws open the door to
government confi scation of a portion of private wealth for “public benefi t”, it is, of
course, diffi cult to confi ne it solely to the circumstances that Mill himself imagined.
Thus Mill’s argument, while doubtless offered with good intentions, certainly pro-
vided powerful ammunition to those who longed for Big State solutions to public
policy issues.
Reinterpretation of the Stationary State
Classical economists generally supported the notion that a no-growth “stationary
state” was the inevitable end-point of societal economic activity. The Malthusian
spectre could not be indefi nitely postponed. Where Mill mainly differs from earlier
Classical thinkers is in his highly favourable assessment of the stationary state.
Standard classical theory held that, in a developed “old” country like England, eco-
nomic growth was a necessary condition for economic well-being ( Principles , 747;
752–3). This assumption, argues Mill, is in error. Continuing economic growth is
only valuable in those societies which have as yet incompletely experienced “the
progress of civilization” ( op. cit. , 748; 754). In the old, developed countries, the
“irresistible necessity that the stream of human industry should fi nally spread itself
out into an apparently stagnant sea” ( op. cit. , 746; 752) is not a prospect to be
feared, but one to be welcomed – even relished. The great advantage Mill sees in the
stationary state is that it would reign in capitalism. In one astonishing sortie after
another, Mill savages the self-centred materialism that is the driving force of capi-
talism, and aggressively advocates the well-managed stationary state as being that
condition where mankind could, at long last, be freed from its vicious, soul-numb-
ing selfi shness.
The only essential problem with the stationary state is that posed by population
growth. But Mill thought that the stationary state, with its limits on employment
prospects, might well bring about a condition in which “prudence and public opin-
ion might in some measure be relied on for restricting the coming generation within
the numbers necessary for replacing the present” ( op. cit. , 748; 753). With the prac-
ticality of the stationary state established in this way, Mill is free to wax eloquent on
its many advantages compared with capitalism:
I cannot, therefore, regard the stationary state of capital and wealth with the unaffected
aversion so generally manifested towards it by the political economists of the old school.
I am inclined to believe that it would be, on the whole, a very considerable improvement on
our present condition. I confess I am not charmed with the ideal of life held out by those
who think that the normal state of human beings is that of struggling to get on; that the
trampling, crushing, elbowing, and treading on each other’s heels, which form the existing
240 M.R. Montgomery
type of social life, are the most desirable lot of human kind, or anything but the disagreeable
symptoms of one of the phases of industrial progress. It may be a necessary stage in the
progress of civilization … [and] it is not necessarily destructive of the higher aspirations
and the heroic virtues; as America, in her great civil war, has proved to the world…. But it
is not a kind of social perfection which philanthropists to come will feel any very eager
desire to assist in realizing. ( Principles, ibid ; 753–4).
Here Mill plays the long-suffering Comteian-stage-theorist, patiently enduring the
present for the sake of that Higher Stage Of Civilization which is surely to come.
Mill’s ideal society, realizable (he thinks) in the stationary state, is one within which,
“while no one is poor, no one desires to be richer, nor has any reason to fear being
thrust back by the efforts of others to push themselves forward” ( Principles , 749;
754). If such crude levelling sentiments strike us today as “so very twentieth (and now,
it would seem, twenty-fi rst) century”, we must remember how infl uential Mill’s tome
was through the early years of the 1900s. These types of “fi ne sentiments”, however,
often travel hand-in-hand with an eye-popping elitism, as Mill is quick to show us:
That the energies of mankind should be kept in employment by the struggle for riches, as
they were formerly by the struggle of war, until the better minds succeed in educating the
others into better things, is undoubtedly more desirable than that they should rust and stag-
nate. While minds are coarse they require coarse stimuli, and let them have them. In the
mean time, those who do not accept the present very early stage of human improvement as
its ultimate type, may be excused for being comparatively indifferent to the kind of eco-
nomical progress which excites the congratulations of ordinary politicians; the mere
increase of production and accumulation. …I know not why it should be matter of con-
gratulation that persons who are already richer than any one needs to be, should have dou-
bled their means of consuming things which give little or no pleasure except as representative
of wealth; or that numbers of individuals should pass over, every year, from the middle
classes into a richer class, or from the class of the occupied rich to that of the unoccupied
( Principles, ibid ; 754–5).
It is remarkable how many hoary assumptions and illicit conclusions Mill is able to
stuff into this single paragraph. There is fi rst the assumption that the minds of those
who yearn for war are motivated by the same things as those who yearn for profi t
(as if Watt and Napoleon had the same aspirations). Then there is the notion that the
“better minds” whom Mill lauds are themselves above an interest in profi t – a notion
confounded by the behaviour of virtually all of history’s elites.
30
Next is the assump-
tion that these elites are able and willing to educate the masses through selfl ess
service, despite (typically) their knowing almost nothing about them, their daily
lives, or their values. Then we are to assume that such self-sacrifi ce is self-evidently
the acme of morality (never mind that the sacrifi cer in history usually wins his lau-
rels by sacrifi cing others , not himself, on the alter of altruistic sentiment, and never
mind either that the many industrial inventions then-sparking an unprecedented
3 0
That Mill himself is quite aware of this historical tendency is made clear in the very next chapter,
where he writes, in answer to those, like Carlyle, who would see the higher classes “protect and
guide” (that is, control) the lower classes. Mill writes: “All privileged and powerful classes, as such,
have used their power in the interest of their own selfi shness, and have indulged their self-impor-
tance in despising, and not in lovingly caring for, those who were, in their estimation, degraded, by
being under the necessity of working for their benefi t” ( Principles , 754; 759).
241
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
revolution in living standards in England were not achieved in the name of self-
sacrifi ce.) Then there is the downgrading of “the mere increase of production”,
which is, in fact, the cause of the aforementioned revolution in living standards
(in a later paragraph, Mill asserts, without evidence, his view that the many capi-
talist innovations have failed to help the poor). Next, there is Mill’s notion that some-
one – perhaps, one of his “better minds” – is able to determine how rich “any one
needs to be”. This same person also is, marvellously, able to pierce the poisonous
veil of materialism and see how pathetically tiny is the personal pleasure Burgher
X can gain from a doubling of his means of consumption. Finally, there is the sup-
position that those who seek to bring new inventions to market seeking profi t are
truly only interested in doing so, so that they may raise their “class” status (a caddish
slander of inventors and a profound twisting of their history). All this is from a
scholar who is usually perceived as highly logical and friendly to capitalism. In fact,
it is never more clear than in his chapter on the stationary state that Mill despised
capitalism (or at least the incentives underlying it). In his eyes it was a moral out-
rage: the worst existing system except for all of the others that were then possible,
to be replaced with an “enlightened socialism” at the earliest appropriate moment.
Mill closes his stationary-state chapter with several of his favourite themes: that in
the developed economies a “better distribution” is a far more pressing issue than addi-
tional production or innovation; that sharp limits on bequests and inheritances are
needed to assure the less-fortunate that there are “no enormous fortunes;” and, perhaps
most shockingly, that enough of the necessary technological innovations for comfort-
able life already have been invented (meaning that if Mill had had his way, airplanes,
automobiles, air conditioning, the microchip, the modern medicines that would almost
certainly have saved his beloved wife’s life, and countless other things invented since
the 1870s would never have existed). Thoroughly unbowed by such considerations,
Mill waxes eloquent on the perils of the pro-growth mind-set, maintaining that:
[i]f the earth must lose that great portion of its pleasantness which it owes to things that the
unlimited increase of wealth and population would extirpate from it, for the mere purpose
of enabling it to support a larger, but not a better or a happier population, I sincerely hope,
for the sake of posterity, that they will be content to be stationary, long before necessity
compels them to it. ( op. cit. , 750–751; 756)
Not surprisingly, given this type of passage, Mill has in recent years been adopted as
a sort of pioneering mascot by the “sustainable development” movement (see, e.g.
Dietz
2008 ) ,
31
an adoption that testifi es, again, to the extraordinary infl uence Mill’s
ideas have had on the twentieth and early twenty-fi rst centuries. In the case of the
31
An even more emphatic passage occurs early in Book V when Mill debunks the idea that the
main function of the law is to protect the producer’s private property rights to what he has pro-
duced. Mill demurs, citing public environmental goods: “But is there nothing recognized as prop-
erty except what has been produced? Is there not the earth itself, its forests and waters, and all other
natural riches, above and below the surface? These are the inheritance of the human race, and there
must be relations for the common enjoyment of it. What rights, and under what conditions, a per-
son shall be allowed to exercise over any portion of this common inheritance cannot be left unde-
cided” ( Principles , 797; 801). A more succinct statement of the socialist premises of the modern
environmental movement could hardly be found anywhere.
242 M.R. Montgomery
sustainable development movement, however, the alleged association is questionable
at best. True, the Mill of the Principles questioned whether “all the mechanical inven-
tions yet made have lightened the day’s toil of any human being” ( Principles , 751;
756), but by the time of his preliminary draft on socialism ( Mill
1967 [1879]), Mill
had changed his view, and in that work he strongly pointed to recent progress of the
labouring classes. (Mill’s profound critique of socialist doctrine in that work can still
be read today with great benefi t to anyone enamoured with the socialist siren call.)
These late developments raise the legitimate question of whether, had Mill lived, he
would have again revised his Principles to refl ect these changes in his views. We can
never know, but, certainly, Mill’s thoughts as expressed in his unfi nished fragment on
socialism are diffi cult to fully reconcile with his much more [in]famous position
condemning dynamic capitalism in his stationary-state chapter.
Looking backward at Mill’s stationary-state chapter through the eyes of modern
economics, it is easy to be harsh with Mill for his haughty contempt for economic
growth, his castigation of the morality of capitalist institutions, his refusal to see
mankind for what it is rather than what he wishes it to be, and his too-hasty, undocu-
mented bald assertion in the Principles that capitalist innovation had not helped the
labouring classes. However, we should not drop the full context of what Mill (and
most classical economists) believed. Classical economics taught that, ultimately,
economic growth could not stave off the stationary state and a resulting life of misery
for the labouring classes. Mill, to his credit, was determined to uncover a better
future for mankind – thus his attempt to overturn conventional wisdom regarding the
stationary state. If capitalism could not save the bulk of mankind from eternal
misery, then perhaps another, radically different social system might be able to do so.
Mill was not naive about the incentive structure implicit in socialism, but his
utopian streak, fanned by Comte’s and Saint-Simon’s “stage of development” theo-
ries, encouraged him to believe that the man of the future would – with the crucial
aid of well-chosen government policies – be purged of his acquisitive imperatives.
Homo Futurus would be a “noble”, happy altruist to the very core of his being. With
all the wreckage of the twentieth century to learn from (and, it would appear, many
more learning opportunities to be forthcoming in the twenty-fi rst), it is easy now for
the reader educated in market processes to be contemptuous of such socialist dreams.
But in Mill’s day those dreams were yet to be tried-and-found-wanting, while capi-
talism’s promise seemed destroyed by Malthusian population theory. Mill’s utopian
voluntary socialism, naive as it seems today, can be forgiven him in a way that mod-
ern coercive socialists, with all the wreckage of failed socialist experiment after
failed socialist experiment to contemplate, cannot and should not be forgiven.
Mill’s astonishing chapter on the stationary state has received remarkably little
critical analysis. Few commentators even bother to note the profound diffi culties
that must be caused for a capitalist system by such views if they are widely held.
Commentators who might be expected to be critical, typically confi ne themselves
simply to reporting what Mill said (if they discuss the chapter at all). Commentators
more on the Left tend to pass by the actual substance of Mill’s thoughts and instead
focus on how Mill’s “heart is in the right place” and on how his strongly expressed
sentiments helped power the rise of the modern welfare state.
243
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
What is not to be doubted is that Mill’s stationary-state chapter is among the
clearest indications of Mill’s contempt for capitalism as a social system. Mill refused
to signifi cantly amend these opinions through all the many editions of the Principles .
That he failed to do so speaks volumes as to his comfortableness with these senti-
ments not just in the 1840s, but also through the remainder of his life.
32
“Futurity” of the Labouring Classes
Mill’s fi nal chapter of Book IV (Chap. 7 ) was considered by him to be one of the
most important (if not the most important) chapter in the entire volume.
33
Here, he
lays out his views on the likely development of relationships in subsequent decades
between labour and capitalism. Mill attributes this chapter – at 43 pages, one of the
volume’s longest – to the infl uence of Harriet Taylor-Mill, who “pointed out the
need of such a chapter, and the extreme imperfection of the book without it…”
( Autobiography , 255).
The Mills are convinced that the longstanding relations between the classes based
on a patronizing and protecting upper class and a subservient, grateful labouring
class are fi nished, both in England and in the more advanced Continental nations.
Mill sees a bright future for the poor in the developing new system. As the working
classes become more educated and as they become more mobile due to improve-
ments in transportation ( Principles , 756; 762), it will prove impossible to prevent
them from assuming a prominent place in determining the development of society.
Thus, the future of society depends greatly on whether the labouring classes “can be
made rational beings” ( op. cit. , 757; 763) and are willing and able to support appro-
priate societal policies. Mill is convinced that the labouring classes will rise to this
challenge – both the men and the women. He sees the opening of the workplace to
women as not only ethically essential, but also an effective bastion against overpopu-
lation. The demand for children will fall ( op. cit. , 760; 765–6) as the call of the work-
place makes caring for children a substitute for work, rather than the complement to
work that it is on, say, a family farm. Through such reasoning Mill glimpses the key
insight of what today is often called the “Demographic Transition”, and traces out the
path through which societies actually would escape the Malthusian trap.
Mill next turns to those changes then-going-on in labour markets which he sees
as holding promise for labour in the future. Regarding the relationship between
employer and employee, he is a sharp-eyed witness to the early development of
complex, sophisticated relationships between employer and employee like those we
see in our times, and he is enthusiastic about their prospects to improve labourers’
lives. The straightforward short-term labour-for-hire model, where neither hirer nor
32
There is, however, another intriguing possible explanation. If these were passages written not by
Mill but by his wife, then Mill for personal reasons would have been extremely reluctant to remove,
or even alter, the words of his “almost infallible counsellor” ( Autobiography , 261).
33
He wrote in the Autobiography : “The chapter of the Political Economy which has had a greater
infl uence on opinion than all the rest, that on ‘the Probable Future of the Labouring Classes’…”
244 M.R. Montgomery
hiree has an incentive to cultivate the good will of the other, is seen by Mill as a
fading paradigm, increasingly to be replaced with incentive schemes that create
incentive compatibility between labour and capital. Mill is at his sharpest in explain-
ing the moral-hazard diffi culty and in giving enlightening illustrations of how the
labour market is productively evolving towards bonus systems and profi t-sharing
systems, to the benefi t of all involved in the business. He explains clearly how the
problem of moral hazard (malfeasance by employees) is reduced by reserving to
workers a share of profi ts as well as wages. He also explains how the absence of
limited liability laws had previously prevented workers from receiving a portion of
the profi ts without also accepting prohibitively severe losses should the fi rm not do
well. Due to then-recent legal reforms, he predicts (correctly) a dramatic increase in
such profi t-sharing arrangements in the future. Here is Mill explaining the paths by
which capitalist incentives can encourage the evolution of institutions that favour
both business-owner and labourer alike. (He did not, apparently, think to re-evaluate
his ferocious attack on capitalist incentives from his previous chapter in the context
of these favourable developments brought on by the very capitalist incentives he had
previously decried.)
Despite Mill’s strong praise for the newly evolving relationship between employer
and employee, his main enthusiasm is reserved for those institutions then-develop-
ing that featured labourers forming cooperative enterprises and competing directly
with orthodox capitalism. Here, thought and hoped the Mills, was the future – the
beginnings of a peaceful, voluntary evolution towards a socialism operating as a
signifi cant force in the workplace.
34
Mill is impressed by the high level of intellec-
tual activity portrayed by the working men in the best cooperative ventures. “Piece-
work” was originally excluded from cooperatives, but over time it became clear that
the moral-hazard problems stemming from the alternative of a fi xed remuneration
were too daunting to be tolerated ( Principles , 779–80; 782–3). The cooperatives
thus learned to “apportion all further remuneration according to the work done”
( op. cit. , 780; 782). Mill also lauds the social welfare role played by several of the
cooperatives, in that they: set aside a portion of profi ts to care for the sick and
disabled ( op. cit. , 781; 783–4); allocate remaining capital in the case of the coopera-
tive’s break-up “entire to some work of benefi cence or of public utility” rather than
dividing it among themselves; and have a rule which “is adhered to, that the exercise
of power shall never be an occasion for profi t” ( Principles , ibid ; 784). Thus, by taking
workmen out of the capitalist model and into a non-profi t cooperative one, workmen
are made remarkably better off, writes Mill.
As is his wont, Mill waxes rhapsodic over the favourable consequences of the
cooperative model to the workingman, which, “by placing the labourers, as a mass,
34
Some appreciation of the Mills’ enthusiasm for the cooperative model can be gleaned from the
following: “…[T]he relation of masters and workpeople will be gradually superseded by partner-
ship, in one of two forms: in some cases, association of the labourers with the capitalist; in others,
and perhaps fi nally in all , association of labourers among themselves” ( Principles , 764; 769
[emphasis added]).
245
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
in a relation to their work which would make it their principle and their interest – at
present it is neither – to do the utmost, instead of the least possible, in exchange for
their remuneration” ( Principles , 789; 792). However, this material benefi t accruing
from the cooperative framework
is as nothing compared with the moral revolution in society that would accompany it: the
healing of the standing feud between capital and labour; the transformation of human life,
from a confl ict of classes struggling for opposite interests, to a friendly rivalry in the pursuit
of a good common to all; the elevation of the dignity of labour… ( op. cit. , 789–90; 792)
Such romantic reveries show that, while Mill fl irts with the notion that an evolution
of capitalist institutions will improve the lot of the labouring classes, it is in non-
profi t models where he fi nds his true hope and love. Mill’s enthusiasm for the coop-
erative model is tempered, however, by his concern that the non-profi t “socialist”
co-operatives are increasingly choosing to adopt practices more like those of ortho-
dox capitalism (establishing different classes of labourers and the like). Such impure
cooperatives, thinks Mill, cannot succeed against “individual management”, with its
deeply committed owner-manager, whose fi rm accordingly “has great advantages
over every description of collective management” ( Principles , 790; 792). Despite
these problems, Mill is optimistic that cooperative societies of labourers will pros-
per and eventually compete effectively against capitalist fi rms. He even ventures the
conclusion that once such societies have “suffi ciently multiplied”, their appeal to
the working man will bring forth a situation where “both private capitalists and
associations will gradually fi nd it necessary to make the entire body of labourers
participants in profi ts” ( op. cit. , 791; 793).
Thus, though Mill wrongly tags not-for-profi t cooperatives as the wave of the
future, he nevertheless correctly predicts the primary method by which capitalist
fi rms would become more favourably disposed towards their employees – through
profi t-sharing institutions based on common ownership of shares in corporations.
Mill however remains convinced that, ultimately, non-profi t cooperatives, with their
greater empathy towards the working man, will so displace capitalist fi rms that “the
existing accumulations of capital might honestly, and by a kind of spontaneous
process, become in the end the joint property of all who participate in their produc-
tive employment … a transformation which, thus effected … would be the nearest
approach to social justice…” ( Principles , 791–2; 793–4). Such a transformation
(though not of the type – and not from the direction – Mill was expecting) would in
fact occur in the twentieth century: the rise of the modern, publicly owned corpora-
tion, with considerable ownership by the fi rm’s employees. Thus was Mill able to
glimpse the future without ever fully grasping it in its essentials. Mill was simply
unwilling to consider seriously that capitalist, not socialist, institutions, would tri-
umph in the struggle to shape the new economic order of the century to come.
Lest his readers think that he has tilted too far towards the writings of the social-
ist thinkers, Mill closes Book IV with a ringing endorsement of market-based com-
petitive forces (Chap. 7, Section 7). “[E]ven in the present state of society and
industry”, concludes Mill, “every restriction of [competition] is an evil, and every
extension of it, even if for the time injuriously affecting some class of labourers, is
246 M.R. Montgomery
always an ultimate good” ( Principles, ibid ; 795). With such moderating thoughts
Mill closes his chapter (and his Book IV).
A Proposed Tax on “Unearned” Income from Land
Mill’s discussion of tax policy in his Book V is on the whole reasonable and non-
controversial (see Section “Commonsense Thoughts on Taxation, Government and
Welfare (Bk. V, Chaps. 2–6; 8–11)”). But Mill is always capable, at a moment’s
notice, of swerving into heterodoxy mode. And so it is that, there in the midst of an
eminently sensible discussion of orthodox tax policy and public fi nance, we suddenly
stumble across Mill’s remarkable proposition that the “future increase [in rents] aris-
ing from the mere action of natural causes” ( op. cit. , 824; 826) accruing to land
(especially to the English landed estates) should be entirely taxed away (Bk. V, Chap. 2,
Sections 5 and 6). Due to “the ordinary progress of society” ( op. cit. , 818; 819), such
returns, says Mill, are “a kind of income which constantly tends to increase, without
any exertion or sacrifi ce on the part of the owners; those owners constituting a class
in the community, whom the natural course of things progressively enriches, consis-
tently with complete passiveness on their own part” ( op. cit. , 817; 819). The landed
classes “grow richer, as it were in their sleep, without working, risking, or economiz-
ing” ( op. cit. , 818; 819–20), often due to nothing more than their being born into one
of the great landowning families. Accordingly, “it would be no violation of the prin-
ciples on which private property is grounded, if the state should appropriate this
increase of wealth, or part of it, as it arises” ( Principles, ibid; 819).
35
These propositions, which Mill seems to see as more or less self-evident, are in
fact not entirely beyond reasonable criticism. First, we note the extraordinary
notion that one has no right to the fruits of one’s own property unless one engages
in “working, risking, or economizing”. If this is so, then the case for confi scation
can hardly be confi ned to the revenues of the landed estates. After all, all durable
goods, once safely in place and working, have as part of their return an element
that is in some sense automatic and received without [further] effort. We may also
question Mill’s premise that owners of large tracts of land are growing “richer, as
it were in their sleep, without working, risking or economizing”. Even the most
quiescent of landed “robber barons” must at least recognise the opportunity-cost
principle which forces him to contemplate alternative uses of his land. Often such
land, particularly if near cities or towns, can be sold to developers for vast fortunes
(as in New York City during the early nineteenth-century). True, the English insti-
tutions of primogeniture and entails often heavily repressed such land sales (though
not completely). However, if one is talking about land speculation in general and
not the special case of the English estates, then there is something to be said for
35
Mill is aware of the diffi culty of separating this automatic component of rent with the rest of it
which may well be connected to the “skill and expenditures on the part of the proprietor”
( Principles, ibid ; 820). He proposes that a “rough estimate” of the gain can be gleaned by the gain
in value over a specifi ed time period of “all the land in the country” ( Principles, ibid ; ibid ).
247
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
the argument that the choice of which large tract of land to buy (e.g. whether you
have accurately anticipated development patterns in your area) might involve some
skill and not mere good fortune (in a later passage Mill makes clear that he also
fi nds such gains objectionable).
36
All these are fairly straightforward objections
(especially if, as is clear in the Principles , Mill is making a general statement
about landed estates and their owners, rather than an England-centred one). Here
then, one might reasonably wonder whether Mill’s venomous sentiments toward
the landed classes have not conspired successfully to get the better of him.
Regardless of the virtue (or lack thereof ) in Mill’s argument, one cannot doubt its
deleterious impact on the century to come. Due to the extraordinarily wide circula-
tion and infl uence of the Principles , doubtless Mill’s discussion was instrumental in
inspiring many of the “land reform” movements that percolated busily throughout
the late nineteenth and (in particular) twentieth centuries, working everywhere to
the detriment of the bedrock principle of inviolate property rights that modern
growth theory has identifi ed as being essential to a nation’s emergence from poverty
(cf. Hall and Papell
2005 , Chap. 6). While Mill himself might have been reluctant
to pass from the confi scation of mere rents to the seizure and re-allocation of the
land itself, others, inspired by his example, would be bolder. Inevitably, such confi s-
catory “reforms” would acquire a political tint, with populist politicians using the
cry of “land reform!” as a means to assault political enemies.
And this is not all of the infl uence of Mill’s argument in this example of the Law
of Unintended Political and Intellectual Consequences. Mill’s picture of a landed
class, merely sitting about with mouths wide-open waiting for the unearned manna-
from-heaven to drop onto their tongues, was picked up wholesale by Karl Marx,
who simply replaced Mill’s bloodsucking landlords with Marx’s bloodsucking cap-
italists. Mill, who by most accounts was wholly unaware of Karl Marx toiling away
in the libraries of London on Das Kapital , nonetheless was therefore (in one of his-
tory’s nicer ironies) likely to have been a vital inspiration to Marx’s development of
the doctrine of the exploitation of the proletariat by the bourgeoisie .
An Expanded Role of, and Scope for, Government (Bk. V, Chap. 1)
Mill dedicates the fi fth book of his volume to a systematic exploration of govern-
ment’s role – for good and for ill – in the economy. In this he follows Adam Smith,
36
He writes of the exceptional cases, like that of the favourite situations in large towns, “[where]
the predominant element in the rent of the house is the ground-rent, and among the very few kinds
of income which are fi t subjects for peculiar taxation, these ground-rents hold the principal place,
being the most gigantic example extant of enormous accessions of riches acquired rapidly, and in
many cases unexpectedly, by a few families, from the mere accident of their possessing certain
tracts of land, without their having themselves aided in the acquisition by the smallest exertion,
outlay, or risk” ( op. cit. 834; 835). Earlier, in Book IV, Chap. 2, Mill had written a passionate
defence of the role played by speculators in society. Apparently, Mill would exclude land specula-
tion from his earlier endorsement of speculation in general.
248 M.R. Montgomery
although Mill’s scope is broader. The initial foray in Chap. 1 is devoted mainly to
demonstrating the diffi culties in setting “appropriate” limits to government activity.
Mill accosts those who would try to confi ne government activity merely to “afford-
ing protection against force and fraud…” ( Principles , 796; 800). Mill is dismissive
of (as he clearly sees it) such naive notions. After all, if government can and should
protect citizens against “force and fraud”, then why not also against other evils? For
example, how much freedom to enter into “private” contracts should society allow
its citizens? Is a “private contract” under which one becomes the slave of another
person acceptable? Mill thinks not – but then, if one private contract is intolerable,
does this not open up them all to similar questions?
Indeed, Mill soon informs us that government’s duties “consist of all the good, and
all the immunity from evil, which the existence of government can be made either
directly or indirectly to bestow” ( op. cit. , 804–5; 807) – an expansive defi nition to say
the least, and one that calls to mind the very big governments of modern times.
37
Mill’s ideal government would seek “the true idea of distributive justice, which con-
sists in … redressing the inequalities and wrongs of nature” ( op. cit. , 805; 808). Such
Rawlsian
38
notions shred the classical idea of liberalism and replace it with the mod-
ern version whereby government, far from merely protecting against “force and
fraud”, assumes the role of protecting and nurturing “your tired, your poor, your
huddled masses yearning to be…” – governed?? It is hard indeed to associate these
discussions by Mill with the principled defender of individual liberty of popular lore.
Those who wonder how the term “liberal” could have been twisted from a term denot-
ing laissez faire to one denoting explicitly socialist policies, could do worse in seek-
ing their explanation than to peruse Book V, Chap. 1 of Mill’s Principles.
Digression: Mill as a Mild “Constitutionalist”
While Mill’s enthusiasm for government (working in what he sees as its proper
context) is clear, his views about how government should be constrained are less so.
Reading three of Mill’s primary political works (Book V of the Principles , On
Liberty (Mill
1977a, b [1859]), and Considerations on Representative Government
( Mill
1973 [1861]), it is easy to conclude that, when push comes to shove, Mill sees
virtually no effective (or even desirable) limit to “the interference of government by
any universal rule, save the simple and vague one, that it should never be admitted
but when the case of expediency is strong” ( Principles , 800; 804). There are grounds
37
In an 1829 letter to Gustave D’Eichthal, Mill also states this expansive defi nition of government,
writing: “Government exists for all purposes whatever that are for man’s good: and the highest &
most important of these purposes is the improvement of man himself as a moral and intelligent
being…” Letter of October 8th, 1829 (Mill
1963 [Vol. XII], 34–8 [Letter 27]). This shows that an
expansive view of government coloured his perspective from his early years.
38
See Rawls ( 1999 [1971]). The appearance here of Rawls is ironic, since Rawls was a strong
opponent of utilitarianism in the sense Mill defi ned the term. See, for example, “John Rawls”, in
the Internet Encyclopaedia of Philosophy ,
www.iep.utm.edu/rawls.html .
249
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
for such an interpretation, though doubtless it is an exaggerated one (see further). In
the three works referenced earlier – particularly in Representative Government –
Mill often writes as if a proper education for the labouring classes, combined with
special voting rules designed to both enhance and temper democratic forces, are
nearly all the protection society needs from the extraordinary power of govern-
ment.
39
Put the proper knowledge and voting procedures into place, Mill seems in
these passages to say, and otherwise-unfettered democratic processes will make all
well. Even the discussion in On Liberty , which is often interpreted as a passionate
paean to the widest range of freedom of choice for the individual, is focussed on
why , not how, the individual’s freedom of decision should be left unfettered.
Even more telling than what Mill chooses to discuss is what he does not discuss.
Mill seems to have little interest in the possibility that a written constitution could
offer a stronger bulwark against the encroachment of government into what should
be the private sphere. The notion of an explicit written-down American-style “Bill
of Rights” is not something he fi nds interesting enough to discuss in these works
either. The American strategy of trying to bind government tightly with specifi c,
written restrictions was one for which he occasionally revealed considerable enthu-
siasm – but not to the point where he was willing to put such constraints forward as
an essential part of keeping government in line. Mill speaks highly of federalism
and the independent US Supreme Court as valuable innovations (cf. 1973 [1861],
Chap. 17). However, regarding the American concept of “inalienable” individual
rights, Mill, as a utilitarian, was bound to reject any such notion, whether given to
man by God or by man’s essential nature (Mill is willing to see some such rights
assigned by the government as part of his unwritten constitution).
Mill read Tocqueville closely and also corresponded with him. He took great inter-
est in the American experiment in constitutional government. However, his enthusi-
asm did not extend to any endorsement of American constitutionalism vs. the British
version (an unwritten constitution consisting of all the laws of the land). Mill instead
offers up what some might call a strange scheme proposed by Thomas Hare (
1859 ) ,
aimed at achieving “perfection in representation” ( Mill
1973 [1861], 453). Hare’s
plan would allow citizens to vote for anyone they wished anywhere in the nation, so
39
“The fi rst element of good government, therefore, being the virtue and intelligence of the human
beings composing the community, the most important point of excellence which any form of gov-
ernment can possess is to promote the virtue and intelligence of the people themselves” ( Mill
1973
[1861], 390). After raising this point, Mill turns immediately to the “machinery” of good govern-
ment, which consists, not in explicit restrictions on government power, but rather in there being
clear rules of appointment and succession, etc. to which government is subject ( op. cit. , 391–2).
Later, great attention is given to Thomas Hare’s voting scheme, which Hare (and Mill) believed
would create a high “degree of perfection in representation” ( op. cit. , 453 ff ). An emphasis on a
new vote-weighting system is consistent with the views of one who thinks the main problem is
getting the “right people” into offi ce, rather than setting up constraints that would constrain the
wrong people should they somehow get in. Earlier, Mill himself suggested his own scheme in
Thoughts of Parliamentary Reform (Mill
1977a, b [1859]) where he proposed special voting rules
that would give extra weight to the votes of those “more qualifi ed” (in practice, those with more
formal education) to judge on political matters.
250 M.R. Montgomery
that any candidate who surpassed a particular vote total would be elected with no
regard to geographical location of voters ( op. cit. , Chap. 7). (Hare wanted to give
minorities more opportunities to elect one of their own by concentrating their com-
bined voting power on a relatively few seats.) The details of the plan are less interest-
ing than is the fact that Mill gives great and sustained attention to it – which is
indicative of his strong attraction to innovations in voting rules as the key to solving
democracy’s weaknesses. Mill looked as much, or even more, to the tweaking of vot-
ing systems as the key to democracy than he did to hard constitutional constraints.
All that having been said, Mill was not without appreciation for innovations that
constrained government action. Mill is a mild constitutionalist in the sense that he
endorses only those government actions that are allowed by a nation’s laws. In a
letter to Peter Alfred Taylor, he writes:
I think it would be a fatal notion to get abroad among the people of a democratic country
that laws or constitutions may be stepped over instead of being altered; in other words that
an object immediately desirable may be grasped directly in a particular case without the
salutary previous process of considering whether the principle acted on is one which the
nation would bear to adopt as a rule for general guidance” (Letter to Peter Alfred Taylor,
May 28th, 1869; Mill
1972 , 1607).
Crucially, however, the power of the legislature to make laws in the public interest
is to be limited by little save (he hopes) “when the case of expediency is strong”
( Principles , 800; 804). Mill also shows little concern for the likelihood that exist-
ing laws may be interpreted by the executive in ways that violate their original
spirit – interpretations that can amount to a de facto repudiation of constitutional
government. He seems to think that properly structured democratic voting
schemes, and a well-educated labouring class, would keep such shenanigans under
control.
As a further bastion against unlimited Big State power, Mill has considerable
appreciation for the notion that there should be a balance of power within a govern-
ment. In Chap. 5 of his Representative Government , he emphasizes how any of the
three powers in nineteenth-century British Government (the Crown, the Lords, and
the Commons) could frustrate the will of the other two – though the Commons,
representatives of the predominant popular will, clearly has (and should have, he
thought) the upper hand. He also appreciates the balance of power achieved by the
American constitution. Mill lauds especially the US Supreme Court, which, as fi nal
authority on legal disputes in federal court, acts as an independent check on govern-
ment power. He also lauds the existence of the House of Representatives as a body
directly elected by the people and representing them, with the Senate – in the
Constitution’s original form – being indirectly elected by state legislatures and so
directly representing states’ interests instead of the popular will. Mill also com-
ments favourably on State “nullifi cation” of national law as a potentially signifi cant
check on the powers of the American national government.
All of these are signifi cant constraints on Big State power, and Mill, had he
wished, could have chosen to advocate a radical proposal that emphasized the inclu-
sion of these checks and balances as an essential part of any well-crafted constitu-
tion. He did not choose to do so, but instead discussed these matters almost
251
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
incidentally, outside the context of his general recommendations for how govern-
ment should be constituted. Mill may well have believed in the usefulness of these
checks on government power, but he did not insist on them. He saw quite clearly the
problem posed by special interests seizing power in the legislature, and he worried
often about the potentially tyrannical nature of majority rule (particularly in On
Liberty ). Still, the somewhat paradoxical impression Mill leaves in his three pri-
mary works on government is of one who is not, when push really comes to shove,
too terribly concerned about such government power per se . Even in On Liberty , he
is more concerned with the prospect of power of all kinds (i.e. including social pres-
sures by private citizens) being directed against unusual individuals than he is
focussed specifi cally on the dangers of brute government force and the need to reign
those dangers in. That is, he does not there draw a sharp distinction between the
evils of public and private power.
In fact, Mill seems quite willing there to contemplate the use of coercive govern-
ment power to reign in the majority’s interferences with individual dissenters. He
does not seem to see any marked danger in such a course. A properly educated voting
population, voting under well-chosen voting rules, will cause the right people to be
voted into power (see, e.g. his discussion in Mill
1973 [1861], 390, where “the virtue
and intelligence of the human beings composing the community” is lightly taken as
an accomplished fact for the bulk of the discussion). Unfettered democratic rule will
restrain self-interest in the long run. This conclusion conveniently frees Mill’s more
utopian side to again rise to the fore in his discussions of government (most notably
in Book V of the Principles , particularly in his last chapter – see discussion given
further – where he recommends various government interventions in the economy).
By this route, the “classical liberal” Mill who is concerned with checks and bal-
ances seems to be replaced – when it matters most – with the Mill who is optimistic
about the pure motives and benevolent intentions of those making up the govern-
ment (as were his own motives while serving his short stint in Parliament near the
end of his life). The problem of Buchanan and Tullock (
1962 ) , concisely expressed
by the philosopher Karl Britton as: “Does not any government in fact consist of a
group of men, and have not these men private interests of their own?” (Britton
1953 ,
p. 89), often seems far from Mill’s mind in his core political passages. Such absent-
mindedness is even more strongly in evidence in those suggestions for government
interventions that close his Principles . Of course Mill believes that private interests
matter in a representative government. But in his core political writings, Mill steps
over the problem – one which an Adam Smith might well have placed at the very
center of his approach to government. Accordingly, in his assessment of and pre-
scriptions for government, Mill often seems to be writing for a society of angels
rather than for one of men. In this attitude, he calls to mind the modern [American]
“liberal”, who is generally trusting of [“other-centred”] government and suspicious
of [“self-centred”] business.
Mill is, naturally, not unaware of the diffi culties posed to Good Government by
corrupt politicians and their accompanying hosts of unelected (but far from disinter-
ested) offi cials. Still, he often gives the impression that a proper education for the
labouring classes, combined with wisely chosen voting rules, will fi x all that and put
252 M.R. Montgomery
the right kind of people into power – modern Platonic “philosopher – kings”, enlight-
ened rulers all, who will understand the felicifi c calculus in the manner of, well, Mill,
and act accordingly. If such sentiments seem naive today, we must remember that
Mill is writing at a time when democratic institutions are still relatively young and not
yet fully formed. It was easy then to believe that the main cause of depravity was
ignorance. We may easily look back from the high ground of an extra century-and-a-
half of experience with democratic institutions, and smirk our lips. But Mill was there
at (or near) the founding of those institutions, trying to glimpse their futures and their
consequences for their societies’ evolutions. Omniscience cannot reasonably be
expected of any man, no matter how powerful his intellect.
On the other hand, it would also be a mistake to give Mill a complete “pass” for
his democratic utopianism. Either Adam Smith or David Hume (or, for that matter,
his own father) could have pointed Mill towards a less utopian, more hard-headed
prognostication of the likely relationship between humankind and democratic insti-
tutions. Mill however preferred to look primarily to the Continent for his Big Ideas
(from where the charm of French sophistication had beckoned to him since adoles-
cence). Anyway, such quintessentially Anglo-Saxon paths as those of Smith and
Hume did not meander towards Mill’s preferred future of spontaneously evolving
socialist societies. The Mills were deeply committed to the vision of a “kinder, gen-
tler” collectivist future for mankind. Other visions offered only capitalism and
Malthusian misery (as the Mills might have put it). Better to grasp the larger hope.
It is interesting to compare Mill and Adam Smith on the relation between self-
interested behaviour and good government. Mill states fl atly that:
Whenever the general disposition of the people is such that each individual regards those
only of his interests which are selfi sh, and does not dwell on, or concern himself for, his
share of the general interest, in such a state of things good government is impossible. ( Mill
1973 [1861], 390)
Smith’s “invisible hand” principle, by contrast, promotes a basic harmony between
self-interested behaviour and benefi ts to society that also extends to society’s
broader interests.
By pursuing his own interest he frequently promotes that of the society more effectually
than when he really intends to promote it. I have never known much good done by those
who affected to trade for the public good (Smith
1937 [1776], 423) (emphasis added).
Mill doubtless would claim that Smith was mainly describing the workings of mar-
ket forces, and would offer his thorough agreement within that context. But more
generally, Smith is also expressing comfortableness with the workings of private
interest in society. True, Smith elsewhere in The Wealth of Nations penned the
famous comment, much-quoted by anti-marketeers, “People of the same trade sel-
dom meet together, even for merriement and diversion, but the conversation ends in
a conspiracy against the public…” ( op. cit. , 128). What is generally forgotten, how-
ever, is that Smith’s comment comes in the midst of a section entitled “Inequalities
occasioned by the Policy of Europe ” (emphasis added). Smith is elucidating on how
government actions help make such conspiracies possible, and how market forces
253
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
are the cure to such conspiracies (“In a free trade an effectual combination cannot
be established but by the unanimous consent of every single trader, and it cannot last
longer than every single trader continues of the same mind” [ op. cit. , 129]). That is,
Smith’s comment is in reference to government failure , not market failure . Mill sees
the bogeyman of “interests which are selfi sh” behind every tree, wreaking havoc on
the best-laid plans of predominately virtuous government offi cials. Smith sees as the
key problem, inappropriate government actions that unleash those private interests
on an unsuspecting population (that is, such interests become toxic only when
supported by government policy).
To Smith, private interest, properly admonished by market forces, is predomi-
nately a force for good in society. To Mill, private interest can be benefi cial, but not
unambiguously so unless government too plays its proper role (one of tempering
those “private interests”, either directly through land reform or through preventing
the accumulation of “excessive” fortunes, or indirectly through proper education of
the masses, or through other means that occur to far-sighted, virtuous, benevolent
government offi cers.) This comparison between Smith and Mill is interesting in that
it shows how far Mill, at least in the main line of his government musings, strays
from what was (until Mill) the Classical tradition in politics and political economy.
Building Leviathan: Mill’s Mushrooming Role
for Government Intervention
Book V, Chap. 11 of the Principles , entitled “Of the Grounds and Limits of the
Laisser-Faire or Non-Interference Principle”, closes out the book. It is one of the
longest, and most consequential, chapters of the entire volume. Mill begins the dis-
cussion with passionate proclamations in favour of free-market forces. The ideo-
logical battle between interventionists and free-marketeers does not “admit of any
universal solution” ( op. cit. , 941–2; 937). But “under whatever political institutions
we live, there is a circle around every individual human being which no government …
ought to be permitted to overstep…” ( op. cit. , 943; 938). “ Laisser-faire , in short,
should be the general practice: every departure from it, unless required by some
great good, is a certain evil” ( op. cit. , 950; 945).
Those thinking that these lofty sentiments surely must foretell a strong closing
chapter advocating limited government and creative free-market-based solutions to
society’s problems, alas, do not yet know their man. A pointed hint of what is to
come is provided by Mill’s early bifurcation of government interventions into two
kinds of action. Mill has little use for “authoritative” interference – government that
forbids and demands. But he is enthusiastic about what we might call a “kinder,
gentler” second type of government intervention that,
leaving individuals free to use their own means of pursuing any object of general interest,
the government, not meddling with them, but not trusting the object solely to their care,
establishes, side by side with their arrangements, an agency of its own for a like purpose
( Principles , 942; 937).
254 M.R. Montgomery
Thus, there could be (to use a term recently [2009–2010] bandied about in the
US) a “public option”, where government provides education, or banking services,
or health care, or other such things (perhaps very many other such things, a cynic
might here interject), without involving itself in the private-sector’s activities in
these areas.
40
In contrast to his view of “authoritarian” government, Mill thinks that
the second, “public option”, type of intervention is quite benign, except for the com-
pulsory taxes that must be paid to support the parallel institutions that are set up
“side by side” next to the private sector’s offerings. With this second option, “there
is no infringement of liberty, no irksome or degrading restraint”, and so “[o]ne of the
principal objections to government interference is then absent” ( op. cit. , 944; 939).
Here Mill, arguably, reveals a certain naivete. Even if (setting aside the taxes) all
this is true, so long as governments play by the rules that Mill lays out, what if they
choose not to do so? How long before “side by side” public institutions, once they
become thoroughly entrenched, grow jealous of their free-market rivals and seek
their destruction and replacement with “proper”, public institutions? We have
learned much about such dynamics since Mill’s day. While Mill cannot be held
accountable for the future, he might have shown more insight into the ultimate likely
consequences of such an incentive system. The notion of these public agencies –
established with the explicit charter of looking after the general populace in some
specifi c context – standing aside and smiling indulgently while their private-sector
competition (as it might be said) “fails to live up to its moral obligations to serve the
public” (and, purely coincidentally, injures the public agency’s fi nancial interests as
well), is a notion that may well elicit a chuckle from a modern reader. One may not
wave a red fl ag at a bull and then disclaim the resulting charge.
The Limits to Government
With Mill now having identifi ed and advocated a mega-concept of government inter-
vention which rationalizes a potentially vast expansion of public-sector involvement in
the economy, it is high time for him to reassure his reader of his free-market bona fi des .
Accordingly, he unsparingly states downsides of Big Government. Repeating his ear-
lier assertions, he argues that “authoritarian” government is dangerous and to be
tolerated only in small amounts (Section 2). He points out how growing government
throws out its tentacles from its new power bases, acquiring ever-greater direct and
indirect infl uence (Section 3) – including power over minorities of opinion that he fi nds
especially disconcerting (and which would later preoccupy him in On Liberty ). And the
machinery of government is easily overburdened, so that its additional responsibilities
come at the cost of weighting down the entire mechanism (Section 4).
40
“It is one thing to provide schools or colleges, and another to require that no person shall act as
an instructor of youth without a government licence. There might be a national bank, or a govern-
ment manufactory, without any monopoly against private banks and manufactories. There might
be a post-offi ce, without penalties against the conveyance of letters by other means. …There may
be public hospitals, without any restriction on private medical or surgical practice” ( Principles ,
942; 937).
255
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
In addition, most things are simply done worse by governments than by self-
interested individuals who “understand their own business and their own interests
better…” ( op. cit., 947; 942) (Section 5). In the vast majority of cases, government
action is unlikely to accomplish tasks remotely as well as would the private sector if
given those same tasks. (Mill does not say whether the private sector referred to is
orthodox capitalism or voluntary cooperative socialism, or both, but previous chap-
ters do not suggest that Mill is talking here only of capitalist institutions.) Mill’s
fi fth objection to “government agency” (Section 6) is his favourite. A wise government
will encourage the people “to manage as many as possible of their joint concerns by
voluntary co-operation; since this discussion and management of collective inter-
ests is the great school of that public spirit, and the great source of that intelligence
of public affairs, which are always regarded as the distinctive character of the public
of free countries” ( Principles, 949; 944).
Mill’s Broad Case for Government Intervention
Having established his limited-government credentials (or, at least, so it would
seem), Mill at last turns, in the remaining two-thirds of the chapter, to his main
undertaking. This is a laying-out of perceived weaknesses in the market system, and
suggestions for the role that a wise, benevolent government might play in counter-
ing those weaknesses. In this endeavour, arguably, he manages to undo all (or more
than all) of the pro-market principles he so carefully laid out earlier in the chapter.
All Mill’s advocacy of an expanded role for government pertains to circum-
stances where (as Mill sees it) a decision-maker cannot adequately protect his own
legitimate interests. Either individuals (predominately consumers) are unqualifi ed
to properly understand their own interests, or else individuals do understand, but are
unable to coordinate effectively enough with others to achieve these interests. By
merely alleging one or the other of these two broad classes of market failure, Mill
carves out a vast potential role for government to act as protector of an inadequately
informed, or inadequately empowered, populace. The resulting critique of laissez-
faire and recommendations for ameliorating policy was destined to make a massive
contribution to the empowerment of the West’s public sectors and the corresponding
diminishment in authority of its private ones.
The Argument from the Premise of Public Ignorance: “Culture” and Education
Mill begins with circumstances where decision-makers have meaningfully incom-
plete information about the decisions they must make (Section 8). Consumers
are poor judges of matters with which they do not deal routinely. Accordingly, the
“presumption in favour of the market does not apply in this case” ( Principles , 953;
947), and “intervention by the authorized representatives of the collective interest of
the state” ( Principles, ibid ; ibid ) is therefore necessary.
Since “[t]he uncultivated cannot be competent judges of cultivation” ( Principles,
ibid ; ibid ), education, and culture generally, will be systematically under-consumed
by the Great Unwashed, who are to be presumed wholly ignorant of such subtleties.
256 M.R. Montgomery
Parents failing to provide their children with a basic education “commit a double
breach of duty, towards the children themselves, and towards the members of the
community generally, who are all liable to suffer seriously from the consequences
of ignorance and want of education in their fellow-citizens” ( Principles , 954; 948).
In his push for compulsory public education, Mill thereby promotes what soon
would become two of the more mischievous and prominent arguments for govern-
ment intervention. First is that government at key points knows the citizen’s busi-
ness better than the citizen himself. Second, daunting “spillover effects” make what
looks at fi rst glance to be a purely private matter into one in which society has a vital
overriding interest. (When one recalls the era’s many successful apprentice educa-
tions, its high number of low-skilled jobs requiring little other than on-the-job edu-
cation, and its many self-educated success stories who went on to found whole new
industries – and when one contemplates the horror of public education in the West
today – it becomes a bit less clear that Mill was self-evidently right to advocate a
compulsory and universal public education.)
Let us also note Mill’s casual, unexamined assumption that [alleged] poor han-
dling of education by parents implies that government will do better with the job.
But if a market test is not to be applied to the viability of an education scheme, then
from where will a substitute discipline to that supplied by market forces come?
Presumably, supremely cultured, wise, benevolent, and other-spirited government
offi cials are to be invoked as the problem’s solution. Anyway, it is not for the “uncul-
tivated” to question the wisdom of such “character-laden” experts. Taken seriously,
this line of argument quickly turns education into the permanent plaything of gov-
ernment offi cials – who now and then would turn out to be not quite so altruistically
benevolent as Mill was so eager to presume.
41
Mill likely would have indignantly rejected the notion that he was advocating the
establishment of government dominance of “elementary education”. He would
point with vigour to passages where he decries the creation of any government edu-
cation monopoly (e.g. p. 956; 950). His “public option” schools would merely com-
pete “side by side” with those of the private sector, keeping the latter honest. But on
the same page, Mill calls the general quality of private education “never good except
4 1
In fact, Mill seems to have been an early supporter of what is today the Civil Service. He
emphasized:
the distinction between the function of making laws, for which a numerous popular assem-
bly is radically unfi t, and that of getting good laws made … and the consequent need of a
Legislative Commission, as a permanent part of the constitution of a free country; consist-
ing of a small number of highly trained political minds, on whom … the task of making [a law]
should be devolved: Parliament retaining the power of passing or rejecting the bill when
drawn up, but not of altering it otherwise than by sending proposed amendments to be dealt
with by the Commission ( Autobiography , 265).
Despite
the fi g leaf of a legislature able to fi nally accept or reject a bill, it is still just to say that if
this does not describe a system of rule by “wise, enlightened, experts”, then it is diffi cult to imagine
what does.
257
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
by some rare accident, and generally so bad as to be little more than nominal”
( op. cit. , 956; 950). How then is it that giving the schools – and thus, indirectly,
poorer citizens – an education subsidy (as Mill suggests op. cit. , 956; 949) will
make these citizens better judges of the schools’ comparative worth? And how long
before the public authorities begin to bitterly (and strategically) complain about
public funds being “wasted” on inferior private schools? These are the inevitable
questions that inevitably bring such a school system under the domineering hand of
government authority. Only a vast naivete about the nature of government can
account for such a line of argument.
Mill’s case for public education also sets a deep, ominous precedent for other
policy areas. The argument would seem to justify public intervention in any “cul-
tural” issue which impacts (or can be strategically claimed to impact) the labouring
classes. There is hardly anything remotely “cultural” that governments do in the
early twenty-fi rst century that cannot potentially be rationalized by some version of
Mill’s argument. For the interventionist, Mill’s position is a treasure-trove of “abate-
ments and exceptions” ( op. cit. , 953; 947) to the notion that consumers might be
trusted to be in control of their own [cultural] lives.
The public would be treated to many such demonstrations in the 150 years after
Mill wrote. Mill tried to stress the exceptional and limited nature of his arguments for
government intervention. However, there would be simply no way to enforce such a
viewpoint on those seeking new venues for government activity. Mill thought he was
making a limited argument about culture and education. In reality, he was creating
one of the most sweeping rationales ever conceived for government’s expansion.
Mill might have brought a more critical eye to his examination of the “abate-
ments and exceptions” to market principles. Instead, his casual assumption of broad
public-sector integrity and competence suggest an astonishing naivete regarding the
long-term internal workings of government institutions and the rent-seekers who
seek to control them. It is the more astonishing because, in his fragment on Socialism,
and even elsewhere in the Principles (e.g. 790–1; 792–3), he demonstrates consider-
able understanding of the fl awed incentives that drive the decisions of such institu-
tions. His highly infl uential argument advocating the concentration of greater power
in such institutions would cost the West dearly in ensuing decades.
The Argument from Public Ignorance: Mental Incompetence, “Irrevocable”
Decisions (Sections 9–10)
Mill’s second argument for government intervention (Section 9) involves protecting
the temporarily incompetent (children), the mentally incompetent, and – remarkably
for his era – domestic animals. Women need no special protection other than
equality before the law and in their treatment by society. In Section 10, Mill takes
aim at “irrevocable” decisions like voluntary slavery, indentured servitude, and
unbreakable marriage contracts. In general, “the law should be extremely jealous of
such engagements” ( op. cit. , 960; 954).
258 M.R. Montgomery
The Argument from Public Ignorance: “Delegated Agency” (Section 11)
Mill’s next exception to laissez-faire concerns the proper relations between the State
and the private corporation, which was then just beginning its rise to prominence in
business affairs. Shareholders, thinks Mill, will have little success in reigning in
their wayward managers. By contrast, government employees typically will be the
better-supervised, due to “the greater publicity and more active discussion and com-
ment, to be expected in free countries with regard to affairs in which the general
government takes part” ( op. cit. , 961; 954). Thus, publicly delegated agency will
consistently outperform privately delegated agency due to the superior monitoring
capacity of a democratic populace.
Perusing this argument, the reader may not be able to resist contemplating what
type of wondrous Beings will fi ll the voting booths of these democratic societies.
Evidently, Mill foresees a public fi lled with passionate civic idealism, eager to sac-
rifi ce themselves by putting societal welfare ahead of their own interests at every
turn. Why citizens should be so focussed on public affairs when it is their private
affairs that matter most to them, is a question that, one suspects, might have occurred
to a David Hume or an Adam Smith – but not, apparently, to John Stuart Mill. Mill
also does not notice the objection (oft-commented-upon since Mill’s day) that no
single voter can have any impact on any issue through becoming well-informed and
voting his conscience, since any one vote cast (which equals any one voter’s opinion)
is trivial to the election’s outcome. By contrast, individual stockholders, through
their ability to control many shares of stock, can exert considerable infl uence on
management’s behaviour.
Here, with Mill’s fi rm condemnation of corporations based on [what would one
day be called] Galbraithian economic reasoning, the discussion might well have
ended. However, in a sudden plot twist worthy of Victor Hugo, Mill now trumps his
own economic argument in favour of one based on that favourite construction of
his – a broader societal perspective. The previous verdict in favour of government
management is to be vacated for one endorsing corporate management, despite
the latter’s perceived economic inferiority (albeit with some “reasonable” [ op. cit. ,
960; 956] regulation of corporations and of natural monopolies). This is on the
strength of his earlier arguments about the broader societal advantages of a vigorous,
engaged, and private citizenry.
Thus, on a purely economic level, corporate management is roundly condemned,
while on a broader, societal level, such management is warmly embraced (on grounds
quite divorced from the question of management’s competence). Rarely does Mill-
The-Political-Economist part company so fi rmly with Mill-The-Broad-Social-Scientist.
Practically, however, the damage to private agency is done. Mill’s broad-based case for
private agency was forgotten: his seminal critique of the corporate structure was not.
His argument amounted in practice to an open invitation for aggressive regulation of
the new corporate structures and even, where politically possible, their replacement
with nationalized industries. Mill’s economic conclusions were crystal-clear: corporate
governance causes serious problems, and only government intervention can correct
them. Thus, Mill issues another invitation for government to massively extend its
259
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
authority (and, often, near-hegemony) over what would become the dominant type of
business structure in the West.
42
Incomplete Coordination: The “Who-Goes-First” and Public-Goods Problems
(Sections 12 and 15)
Mill next turns to circumstances where collective goods, the provision of which
requires the co-operation of many separate individuals, are arguably under-produced
by market forces due to the “who goes fi rst”? problem (a problem to which he
“requests particular attention” [ Principles , 963; 956]). He postulates workers who
wish to reduce the length of their workday by an hour a day without lowering their
hourly pay. They could all agree that such a lowering is benefi cial; yet, any one
worker could gain by defecting from the agreement and working the tenth hour. If
one such worker gains from defection, then eventually many will, and the agree-
ment will break down. Mill suggests what is needed is a State enforcement of a to
not work more than nine hours – essential if labour is to be able to coordinate so as
to reap these gains. (He sees, naturally – as do legions of modern enthusiasts – many
similar cases where useful coordination among decision-makers might be frustrated
by these types of perverse incentives.)
By gratuitously presuming that all workers have voluntarily agreed to the con-
tract, Mill avoids explicit advocacy of the State coercing labourers into accepting
the contract ( Principles , 963; 956–7). The State merely holds the workers to their
freely given pledge. But what if some workers refuse to sign the agreement (if not
existing workers, then perhaps future ones)? Without State coercion, Mill thinks, an
initial minority of defectors would increase until the agreement collapses.
Here Mill halts his discussion – and he surely does so too early. For, to take this
line is to admit that, in the real world where defectors exist, reaping the gains of
the agreement requires government’s coercion of non-cooperating labourers.
43
Thus, Mill’s “voluntary” agreement among workers must, in practice, morph into
some kind of a coercive system. Perhaps State coercion would be tempered by
some need for a super-majority of labourers before the State gets involved (one
might hope so). Or perhaps the State, “knowing” that labour needs its “help” to
solve its coordination problem, would simply cut out the middlemen and directly
impose the “necessary” coercion itself. History is not silent as to which path would
be predominately taken. Down this route, arguably, lies that labyrinth of modern
labour law so conscientiously and thoroughly applied by Western governments in
the modern era.
42
Surely here we also fi nd one of the points of origin of the myth of the soulless, out-of-control
corporate power, answering to no one but itself and its almighty god, Profi t.
43
Mill is not necessarily advocating the idea of lowering labour’s work-day – though he is clearly
sympathetic. He is merely using the case to illustrate the coordination problem and the argument
for a government role that emerges from that problem.
260 M.R. Montgomery
Turning now to Mill’s discussion of public goods (see Section “Public Goods”,
above),
44
it is interesting to note how quickly Mill presumes that his argument for
government subsidy/supply of public goods is defi nitive. One might have expected,
for example, that Mill would have contemplated circumstances under which volun-
tary private cooperation could have been successful in supplying such goods. The
modern literature on the “private supply of public goods” shows how groups of
private decision-makers often manage to overcome their coordination problems (by,
e.g. supplying public goods through various stratagems such as “tying arrange-
ments” which link the supply of a public good to another, private, good that can be
withheld until payment is rendered). However, there is no such speculation – no
such attempt to reign in what would become one of government intervention’s most
successful arguments – to be found in Mill’s discussion.
Why did Mill present (by omission) such a pessimistic view of the private sector’s
ability to supply public goods? Certainly there was no such pessimism about group-
coordination of productive activity in his lengthy discussion in Book IV, Chap. 7
covering workers’ cooperative ventures. There Mill expresses great optimism about
the ability of such voluntary non-profi t cooperation to overcome the disincentives to
cooperate that are summed up in modern economics as “prisoner’s dilemma prob-
lems”. (He does, however, express some reservations [ Principles , 790; 792].) How
are these happy thoughts to be reconciled with the professed insurmountable diffi cul-
ties that for-profi t group activity encounters when trying to profi tably supply public
goods? An argument deriding private supply of public goods on “who goes fi rst”?
grounds is at least as applicable to private non-profi t cooperative ventures generally.
In any event, Mill’s ruminations on coordination failure helped craft yet another
extremely broad set of arguments for use by those who, whether for altruistic good or
opportunistic ill, were looking for persuasive rationalizations to grow government.
While Mill did not see these arguments as anything more than occasional exceptions
to the rule of market principles, history would reserve for them a different role.
Arguably, the broad conception of market failure defi ned by the public-goods and the
“who goes fi rst”? arguments has been more successful at advancing government
agency than any other single rationalization, due to its great breadth of plausible (if
not always justifi able) application. With a little effort, virtually any argument favour-
ing an additional role for government in the economy can be attractively dressed-up
in public good “who goes fi rst”? garb. As a result, few arguments have been more
often heard emanating from petitioners in the Great Halls of political authority.
44
The reader should fi rst notice in this argument what Mill does not: that the diffi culty with supply-
ing public goods is similar in nature to that of the “who goes fi rst” problem. In both cases, the
problem is that many people benefi ting from such a good stand aside and wait for others to come
forward and voluntarily fund the good. Thus, suffi cient funds to fi nance the good cannot be accu-
mulated since many of those who benefi t will enjoy the good for free, paradoxically leading to the
good not being supplied at all privately. The workers trying to organize for a lower work-week in
the “who goes fi rst” problem face precisely the same diffi culty as the citizens trying to organize to
privately supply a public good. Coordination diffi culties are at the heart of the issues impeding the
supply of collective goods in general.
261
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
Incomplete Coordination: External Effects (Sections 12 and 14)
Always the Malthusian, Mill saw a pressing societal need to reduce population in
England. Therefore, he advocated fi nancial support for colonization of other regions
as one of the crucial areas in which government’s role is justifi ed. On the surface
these arguments are of only historical interest to the modern reader. In discussing
colonization, however, Mill manages to assert yet another very broad-ranging role
for government agency – that of combatting the bad consequences stemming from
“external effects”.
Mill was a strong supporter of the Wakefi eld system of colonization, under which
colonial governments would shape development by keeping land prices artifi cially
high. Such a regime would discourage newly arrived colonists from buying land
immediately upon arrival and becoming farmers, when the colony needed them
more urgently as common labourers ( Principles , 965; 958) (note the rejection of the
notion that free labour markets might be able to bring about the right supply of
labourers). It would also prevent too-much concentration of land ownership in a few
hands.
Unfettered market forces could not prevent inappropriate land ownership pat-
terns due to yet another “who goes fi rst”? problem. Each colonist individually is
unwilling to “go fi rst” by restricting himself to small acreage while others purchase
large acreage ( op. cit., 967; 958). Like lemmings, immigrants would simply buy up
as much land as they could afford, due to “the instinct (as it may almost be called)
of appropriation…” ( Principles, ibid ; ibid ) (note the rejection of market forces as
determining the demand for land, in favour of “instinct”). It takes a large proportion
of colonists working together to reap the gains, and such coordination cannot be
achieved without central control.
Mill therefore endorses Wakefi eld’s stratagem of using artifi cially high land
prices to retard ownership of large tracts of land. Intervention is needed to reap the
otherwise-unrealizable societal gains arising from a “proper” pattern of land owner-
ship. Later in Section 14, Mill describes a second advantage of such a centrally
planned policy: that it “keeps the settlers within reach of each other for purposes of
co-operation, [and] arranges a numerous body of them within easy distance of each
centre of foreign commerce and non-agricultural industry…” ( op. cit. , 973; 965).
(Note the assumption that the settlers themselves are not competent to assess such
matters unaided; similar considerations today make up much of the “smart” part of
the “smart growth” movement.)
These are early arguments for, quite simply, a massive introduction of government
control into the land markets of colonies. However, those enamoured with gains
such as these will also favour policies that [can be argued to] reap similar gains in
the “home country”. The genie is out of the bottle, and, once out, there is no argu-
ment that restricts its busy-bodied “reform” of every conceivable aspect of land
markets merely to the colonies.
Just how broad is the mandate is made clear when Mill caustically answers those
who object to the Wakefi eld plan on free-market grounds. The objectors had the
temerity to argue that “when things are left to themselves, land is appropriated and
262 M.R. Montgomery
occupied by the spontaneous choice of individuals, in the quantities and at the times
most advantageous to each person, and therefore to the community generally…”
( op. cit. , 965; 959) – a straightforward free-market position. Wakefi eld’s plan was
criticized by these objectors as “the self-conceited notion of the legislator”
( Principles, ibid ; ibid ) who thinks he knows people’s good better than these people
know it themselves. To Mill, the fl awed logic of those criticizing Wakefi eld’s argu-
ment is exactly analogous to the argument that, because it is in the interest of society
as a whole that people do not rob and steal, there will be no theft, and that, therefore,
there need be no police. Clearly, criminals can gain individually even as their actions
injure society overall, and so police are necessary for the defence of society. The
same, thinks Mill, holds true when society takes measures to prevent individual
selfi shness from creating land-use patterns that are inconsistent with society’s
broader needs. Mill does not observe that such arguments have, quite literally,
unimaginably vast potential application. For example: All the land-use planning and
regulation that has developed since Mill’s day – from the earliest zoning acts through
modern “smart growth” initiatives – arguably are implicit in his modest-sounding
advocacy of the Wakefi eld plan.
The Argument from Public Ignorance: Charity and Welfare Programs (Section 13)
Mill draws a fundamental distinction between circumstances where people are look-
ing directly after their own interests, vs. the case where they are seeking to be chari-
table by aiding those whom they do not know (or do not know well). Mill denies that
individuals will necessarily do a good job with their own money when they are
using those monies to promote the interests of the poor. Charity in private hands, he
thinks, is likely to be handled only “uncertainly and casually” ( op. cit. , 967; 960).
Therefore, some role for government – at least as a signifi cant supplement to private
charity – seems necessary to Mill. There should be “systematic arrangements, in
which society acts through its organ, the state” ( Principles, ibid ; ibid ) (The specifi cs
of Mill’s welfare proposals are treated above [cf. Section “Public Goods”].)
We must pause briefl y here to note that, in his discussion of private charity, Mill
introduces yet another innocuous-sounding assumption that would not fail to have
vast and fundamental consequences to the workings of Western democracy. The
notion that individuals are indifferent-to-poor judges of how they can act to help oth-
ers raises the question of whether they are acceptably good judges of their relations
with their fellow human beings. Humans are skilled (on Mill’s premises) at “looking
out for Number 1”, but at what costs to others? If humans cannot be trusted to make
wise decisions about their charitable donations, can they be trusted to adequately
retain a suitably charitable manner in their day-to-day dealings with their fellow
men? Mill himself seems to think not: In On Liberty , he advocates, not just “protec-
tion … against the tyranny of the magistrate”, but “protection also against the tyr-
anny of the prevailing opinion and feeling…” (Mill
1977a, b [1859], 220). “There is
a limit”, states Mill, “to the legitimate interference of collective opinion with indi-
vidual independence …” ( ibid ). On Liberty is, in fact, very heavily focussed on
263
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
Mill’s notion that wide deviations among human beings are essential to create a wide
enough base to support a vigorous, healthy, and active society. Accordingly, reason-
able divergence from the social norm should not only be tolerated, but celebrated.
Thus Mill’s notion is arguably one of the founding-stones of the modern “diversity
movement”. It is not hard to see why, among all Mill’s many works, it is On Liberty
that appeals most palatably to the modern self-styled sophisticate’s taste.
Mill is careful not to explicitly advocate the use of government force against
those who illegitimately interfere with “individual independence”. It is diffi cult
though to see any practical consequences fl owing from this apparent proscription.
Mill also holds that “[a]s soon as any one part of a person’s conduct affects prejudi-
cially the interests of others, society has jurisdiction over it, and the question whether
the general welfare will or will not be promoted by interfering with it, becomes
open to discussion” (Mill
1977a, b [1859], 276). Who is to engage in such “interfer-
ing” if not the State? This remarkably broad criterion for intervention gives tremen-
dous potential discretion to the government regulator looking to “protect” those of
divergent views from those who would discriminate against them. The mandate for
government to act is precisely as large as the ability of government and its allied
activists to persuade “society” that someone is being unfairly treated in some par-
ticular social setting. Mill, therefore (in a twist he would not fi nd amusing), argu-
ably is one of the founders of the modern taste for “speech codes”, laws preventing
landlords from renting to those they prefer, the vast array of discrimination law, and
the “economic rights” industry generally. If it is not also a dismal legacy, then at
least it is an ironic one, given his deep desire for toleration in society of others’
preferences.
45
Later Life of Mill
Shortly after Mill’s completion of the Principles , in 1849, John Taylor died of
cancer, his grieving wife at his bedside (Hayek
1951 , 161–2). In April, 1851, Mill
and Harriet Taylor were at last united as man and wife (before the marriage, due to
the lack of rights granted to women in the marriage contract of his day, Mill wrote
out “a solemn statement of his disapproval of the whole character of the marriage
relation as constituted by law” [Britton
1953 , 36]).
46
During the rigid Victorian
process leading up to the marriage, Mill felt that his sisters and mother had not
accorded Harriet Taylor, and the marriage, the proper amount of respect. The result
was that – despite agonized attempts by his family to repair the breach (see Hayek
1951 , Chap. 8) – Mill cut off virtually all contact with his family for the remainder
of his life.
45
Some concluding thoughts about the last section of Mill’s closing Principles chapter are pro-
vided in Section “Mill’s Legacy” below.
46
The statement can be found in Mill ( 1984 [1851]), 97–100.
264 M.R. Montgomery
During the seven-and-a-half years of his marriage, Mill (in intellectual partner-
ship with his wife) wrote On Liberty (explicitly labelled a joint work between them),
and “shaped his own views on The Subjection of Women ” (Britton
1953 , 37). Mill’s
conception of feminism was in many ways quite modern; for example, from his
earliest exposure to Harriet, he had contemptuously rejected the Victorian view that
there are “essential differences between the best masculine characters and the best
feminine characters” ( ibid ). Instead, women with the highest “feminine” qualities
also had the highest “masculine” qualities ( ibid ).
47
Many of Mill’s remaining years
would be spent addressing causes connected to the liberation of women from their
chattel-like status in Victorian society.
For the great bulk of his busiest intellectual years, Mill also had worked in
London at the India House, making policy on the governance of the British Empire’s
greatest colony. In 1856 he was appointed “Examiner of India Correspondence”, the
second-highest post in the India House. He held the offi ce only 2 years. In 1858 the
company failed to get their charter renewed and Mill, rather than join the newly
constituted India Council, resigned from the service (his pension making him fi nan-
cially secure for life). He had worked there for 33 years, a period of time during
which he wrote nearly all of his greatest works (see Autobiography , 247–8). Mill
always believed that his busy schedule at India House was complementary with his
intellectual work. He would no doubt have embraced Churchill’s saying that
“a change is as good as a rest”. Mill also expressed gratitude for how the experience
had taught him from early adulthood how to compromise and get the best he could
in a group decision-making setting (Schumpeter and Sowell, on the other hand, fl ag
the India House activities as likely adversely impacting the quality of Mill’s primary
life’s work [ cf. Sowell
2006 , 152–4]).
During the early 1850s Mill also “suffered a fi rst attack of the family disease”
(tuberculosis) ( Autobiography , 247), and to recover his health took an extended
trip alone through Italy, Sicily, and Greece in the winter and spring of 1854–1855
(leaving behind fascinating letters to Harriet describing all aspects of these areas at
the time, including Mill’s impressions of the ruins of Ancient Greece’s [see Hayek
1951 , Chaps. 10–11]).
48
In November 1858, just before the fi nal joint editing of On
Liberty was to begin, Harriet Taylor-Mill died of tuberculosis at Avignon, France.
She was buried in the Avignon cemetery. Mill quickly bought a small cottage in
Avignon “as near as possible to the place where she is buried” ( Autobiography ,
251), where he lived during most of the year (given Mill’s own tuberculosis,
some move to a warmer climate was in any case essential to his own health).
He was comforted, and aided in his work by his [step]-daughter Helen Taylor,
who remained constantly by his side until his death. Helen Taylor assumed a
47
This was, interestingly, too much even for Britton, who, writing at mid-twentieth century, could
not resist recording his disapproval: “Mill held that a philosophy is to be judged by its conception
of human nature: and it is somewhat disconcerting to fi nd that his own conception suffered from
this eccentric limitation” (Britton
1953 , 37–8).
48
Mill’s wife was too ill to accompany him on such a long and arduous trip.
265
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
professional interaction with Mill not unlike that which Harriet Taylor had with
him, and Mill praised her with superlatives not unlike those which he had rained
down upon Harriet Taylor. As had been the case with Harriet, some documents
(apparently, only letters, though some for newspaper publication) signed by Mill
were in fact written by Helen ( Autobiography , 286–7).
Mill’s three primary achievements in the last decade of his life were his writing
of the monolithic Examination of William Hamilton’s Philosophy (Mill
1979 [1865]) –
a lengthy critique of the ideas of England’s leading Kantian, the writing of The
Subjection of Women (1984) [1869], and Mill’s surprising stint in Parliament from
1865 through 1868. Approached about running by leading citizens of Westminster
(then a working-class district), Mill made make it clear that he had principles and
that they would not be compromised. He would not help fund his own campaign, he
would not give time if elected to “local interests”, and he would not canvass. He was
free with his own opinions, including his support of women’s suffrage. Moreover,
Mill had written in his Parliamentary Reform that the working classes (i.e. his
would-be constituents!) were quite dishonest but at least were ashamed of their
dishonesty. Challenged on this statement at a public meeting, Mill proudly acknowl-
edged authorship, at which point his working-class audience burst into applause
( Autobiography , 274). He was elected to Parliament and served while there many of
the causes for which he had fought all his life.
It might appear from this story that, as a public servant, Mill begat yet another
miracle to add to his uncanny literary achievements – that he proved that honesty
pays in politics and that good-people-being-good easily get elected when they
simply look exclusively after the public good as Mill himself always did his best
to do. Those drawn to such a conclusion, though, ought fi rst to consult the denoue-
ment. Mill lost his second election three years later due precisely to his extraordi-
nary honesty and principled behaviour, which created too many opportunities for
his opportunistic political competitors. Even during his time in Parliament, Mill
had chosen not to support popular causes merely to court popularity among his
fellow Liberals (he had supported mainly causes of little interest to many of his
party and even some unpopular causes). During his re-election campaign, Mill
also chose to fi nancially support a man whom he saw as a superb candidate but
who was very open about his lack of religious faith. As a result, Mill was painted
with the same [accurate] brush. As Mill himself put it, in his support of a deserving
candidate,
I did what would have been highly imprudent if I had been at liberty to consider only the
interests of my own reelection; and, as might be expected, the utmost possible use, both fair
and unfair, was made of this act of mine to stir up the electors of Westminster against me.
To these various causes, combined with an unscrupulous use of the usual pecuniary and
other infl uences on the side of my Tory competitor, while none were used on my side, it is
to be ascribed that I failed at my second election after having succeeded in the fi rst
( Autobiography , 289–90).
Such principled behaviour is highly laudable, but not that out of which successful
political careers are made. No better argument can be found in favour of those who
would sharply restrict the political power of elected politicians and their sundry
266 M.R. Montgomery
bureaucratic proxies. Mill himself might have learned from his own experience, and
if so, he might have altered or recanted some of his many policy recommendations
(discussed previously at numerous points) the success of which hinged on politicians
having the same politically suicidal commitment to principled behaviour in offi ce
that he himself had exhibited. There was, however, no evidence that he did so.
After failing in his re-election bid, Mill (who after his defeat received several
offers of safe seats) instead chose to return to private life at Avignon. In his last
years he worked on a book on Socialism, several chapters of which were published
in his lifetime (other fragments of the work were published posthumously). The
work in its incomplete form is notable for what might be termed a step back from
his earlier pronounced optimism over likely future socialist developments. Instead,
arguably, there is a notably greater emphasis on the virtues of market forces. It is
interesting, but futile, to speculate on what might have been had Mill lived to com-
plete this work (would he, e.g. have become aware of, and challenged, the budding
Marxist movement?).
49
Mill spent most of the remainder of his days quietly at Avignon, with his [step]
daughter Helen, working on correspondence and on his uncompleted draft on
socialism. On one of his trips to England, he christened his godson, the infant
Bertrand Russell, who in the next century would go on himself to a distinguished
intellectual career. While at home, Mill doubtlessly also lingered in his greenhouses
where he pursued his botanical studies – a lifelong hobby. Mill died, at Avignon, in
May 1873, “the victim of a local fever” (Britton
1953 , 44). At his direction, he is
buried in the same grave as his wife.
Mill’s Legacy
What has been Mill’s infl uence in economics? Mill wrote only two books on politi-
cal economy.
50
First came his Unsettled Questions which he wrote as a young man,
and then the Principles , predominately a textbook rather than an original work of
theory – one which, for better or for worse, was the dominant “voice” of economics
from 1848 through at least 1900 (with gradually moderating infl uence over the fi rst
2 decades of the twentieth century). Mill’s interpretation of Classical economics
quickly became the standard interpretation, universally learned by nearly all who
studied political economy (other texts of Mill’s day tended to “piggyback” on his
[cf. Schumpeter
1954 , 533]). Mill’s book ultimately was supplanted by Marshall’s
Principles (Marshall
1988 [1920]), fi rst published in 1890. But Marshall’s book is
4 9
Schumpeter suggests that Mill’s preliminary fragments on socialism are “perhaps more misleading
than helpful”, since the work’s critiques were merely “exploratory sketches”, and since, doubtless,
the book would have included “a positive complement that might have reversed the impression the
reader of these sketches is likely to get” (Schumpeter
1954 , 532).
50
Of course, he also wrote a number of articles on economic topics.
267
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
heavily indebted to Mill’s (with the most notable exception being value theory),
while [the microeconomic portions of] modern texts in turn have been written
largely in Marshall’s shadow. Mill’s contribution as an expositor of economic prin-
ciples is thus, through effects both direct and refl ective, considerable.
As to the contribution of Mill and his Principles to economic doctrine, it is
convenient to follow the main line of the paper and divide these into “orthodox” and
“heterodox” contributions. Mill’s theoretical achievements in orthodox economics
are not the earth-shaking ones of a Smith (pioneering of modern economics), a
Ricardo (theory of comparative advantage / rent), or a Jevons/Walras/Menger (sub-
jective value theory), but nonetheless they are substantive and signifi cant. Mill’s
cost-of-production value theory did not survive, but his restatement and reshaping
of supply-and-demand analysis, and his explanation of elasticity (though lacking
the term itself), closely anticipates modern treatments. He made indisputably origi-
nal contributions in international fi nance, in joint production processes, in the theory
of public goods, in what is today called growth theory (despite the handicap of his
malthusian doctrine), and in laying out the skeleton of the perfect competition model
with, arguably, greater precision than his great predecessors.
51
His macroeconomic
analysis clarifi ed the causes and limitations of economic “crises” and explained
their origins in a way that clearly paved the way for monetary disequilibrium theory
in all its forms (in addition, some of his macroeconomic statements in the Unsettled
Questions essay on consumption and production clearly anticipate Keynesian
arguments).
We should add to this the many classic statements of core free-market economics
that are to be found in his Principles : the succinct, and very modern, critique of
several common government interventions in Book V, Chap. 10, a powerful defence
of unfettered competition at the end of Book IV, his undisguised enthusiasm for the
entrepreneurial creativity of his “peasant proprietors” in Book II, his still-classic
statement of the neutrality of money in Book III, and other arguments that pepper
the Principles , all come to mind, among others. Mill was, then, in terms of his
orthodox contributions, in many respects more than just an original economic theo-
rist. He was also a good shepherd of the intellectual tradition established by Hume,
Smith, Say, Ricardo, and his own father in orthodox political economy.
Mill’s orthodox legacy, however, includes a darker side. The smothering infl u-
ence of the Principles , not to mention that of Mill himself, almost certainly post-
poned the marginalist revolution. Jevons wrote bitterly of how Mill’s “noxious
infl uence of authority” (Jevons
1957 [1871], 275–7) delayed the arrival of subjectiv-
ist value theory. It was Mill who famously wrote (in one of the most-cited belly
fl ops in intellectual history): “Happily there is nothing in the laws of value which
remains for the present or any future writer to clear up; the theory of the subject is
complete” ( Principles 436; 456). Mill never budged from this position, and the
51
By contrast, says Mitchell, Mill’s “remarks on monopoly are of an exceedingly vague, and, from
the modern viewpoint, unsatisfactory character” (Mitchell
1967 , 581).
268 M.R. Montgomery
towering prestige of his text defi nitely repressed the breakthrough of new insights in
this area. In another example, Mill’s thorough and open-ended analysis in the
Unsettled Questions of the complexities of Say’s Law with storable money was
trimmed down and replaced in the Principles with a discussion that was much less
obviously a deviation from the main line of classical macroeconomic analysis.
Sowell argues that Mill was also excessively protective of “the conceptual peculiari-
ties of the Ricardian system and its assumptions…” (Sowell
2006 , 153), contribut-
ing thereby to the ossifi cation of economic theory around Malthusianism, input-based
value theory, and a narrow rendering of Say’s Law as the fi nal word in aggregate
speculations. Mill’s work thereby repressed “contributions of other schools of
thought that operated within different frameworks and with different assumptions”
( ibid ). Mill was sure of his subject, and at times it caused him to reject too quickly
ideas that confl icted with Ricardian wisdom.
Turning now to Mill’s substantial impact on heterodox economic theory: Here,
Mill and the nature of his infl uence has been noticed (and generally, if not always
explicitly, lauded) by numerous authorities. Wesley Mitchell’s endorsement is per-
haps the most trumpeting, appearing in the very title of his chapter on Mill (“John
Stuart Mill and the Humanization of Classical Economics”). Mitchell writes of
Mill’s “wonderful later chapters” (Mitchell
1967 , 570), and directs the reader’s
attention especially to the voluntarist socialist vision in the “Probable Futurity of the
Labouring Classes” (Book IV, Chap. 7). To Barber, it is more Mill’s anti-materialist
values – so thoroughly on display in Mill’s stationary-state chapter – that are worthy
of emphasis. He highlights Mill’s “challenge to an implicit value premise that had
run through the whole of classical writing: that uninterrupted economic expansion
was a goal of such obvious importance that it required no justifi cation” (Barber
1967 , 101–2). Echoing Barber, Landreth underlines Mill’s hope for “…a new, better
society no longer oriented toward strictly materialistic pursuits” (Landreth
1976 ,
141). Landreth is impressed also by Mill’s attempt “to combine the hardheadedness
of classical liberalism with the humanism of social reform to bring about a society
and economy less concerned with the business of business and more concerned with
the art of individual improvement and self-fulfi lment” (Landreth
1976 , 150). Further,
Mill, “[m]uch more than Smith and Ricardo … recognized that the working of mar-
ket forces did not necessarily bring about a harmonious economic and social
order…” ( op. cit. , 140).
Other authors might well be cited on these and other points. But the upshot of it
all is fairly clear, and it has little to do with economics. Mill is being lauded as a
great spiritual apostle of altruism and anti-materialism – a man raised to glorify
capitalism and laissez-faire but who one day woke up, turned on his intellectual cap-
tors, and chose instead heroically to advocate “people over profi ts”, egalitarianism
over individualism, “self-fulfi lment” over “mere” material gain, and enlightened
government intervention over the “unjust distribution” of the market system. Mill is,
above all else, a great story : the tale of his “turning” is the account of one of the
greatest triumphs in the entire history of the Left. It is natural to lavish praise upon
those whose personal story validates one’s own strivings, and one may forgive
the occasional [free-market] apostasy of one whose heart is, in the end, so utterly
269
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
“in the right place”. Such was Mill, and such is the source of the power of his legend
to advocates of “democratic socialism” everywhere.
52
,
53
Mill, of course, did not advocate [voluntarist] socialism in the “here and now”.
Instead, he endorsed it as the ultimate future system of humankind, toward which
an “enlightened” future [world?] citizenry would naturally evolve over time.
“Properly educated” humans would sooner or later voluntarily reject once and for
all the contradiction between altruism and capitalism. Society (and economic pros-
perity) would at last be built on proper, altruistic foundations. Capitalism was both
a moral and a practical dead end anyway: “We’re all headed for the stationary state”
and this single society-wide market failure was in itself suffi cient to mark capital-
ism’s apparent ability to create material progress as, ultimately, a false promise.
Better to live within the confi nes of a permanent stationary state (or something like
it) rather than fi ght the inevitable. We must have “sustainable” economic policies.
It takes a village! … Save the Earth!… Social Justice Now! etc. (Those who fi nd
Mill’s heterodox ideas dry, dull, old, and irrelevant, have just not been reading the
newspapers.)
The Mill of the Principles is often perceived as being comfortably distant from
these more apocalyptic visions. Despite Mill’s hopes for the distant future, his vision
for his here-and-now was decidedly free-market oriented. And, to be sure, the bulk
of the book is Mill’s best rendering of the generally laissez faire beliefs of the clas-
sical school. Anyone, even today, can read Mill and come away with understanding
of free-market principles and why these principles promote economic prosperity –
an understanding that then can be directly applied to the modern era. That the book
can still speak to our own times and troubles are one of its most impressive
characteristics.
Against that background, the Principles’ heterodox suggestions for the improve-
ment of the economy and the society of which it is a part, aided and abetted by
Mill’s separation of the laws of production from those of distribution, seem almost
soothingly modest. Of course, bequests and legacies should be regulated to prevent
“excessive” concentrations of wealth among the “upper classes” (Book II, Chap. 2).
52
Revolutionary socialists despised Mill. Mill’s arguments, says Schumpeter, “were gall and
wormwood not only to Marxists but to all socialists who base their argument on the thesis of inevi-
tably increasing misery and for whom the revolution is an essential article of faith” (Schumpeter
1954 , 532).
53
There is, however, an important difference between Mill’s vision and that of his twentieth- (and
twenty-fi rst) century admirers on the Left. Mill thought that Malthusian forces and the inevitable
stationary state closed off the possibility of market economies expanding indefi nitely to ever-
greater wealth and material success. He did not imagine market societies a century-and-a-half after
his death in which, in very many respects, people really did not have material worries in the sense
that they had them a century earlier. His admirers today, still lauding his socialist stance, have
watched precisely such an explosion of material well-being occur wherever capitalist institutions
have been given even moderately free reign. Is it the distribution of wealth, or the average standard
of living , that matters in the end? If the latter, then history gives a poor grade to those who would
seek some version of Mill’s democratic socialism in the early twenty-fi rst century.
270 M.R. Montgomery
Certainly, “unearned” income from the great landed estates, from which the elite
“grow richer, as it were in their sleep, without working, risking, or economizing”
( Principles , 818; 819–20), should be appropriated and applied to the greater “public
good” (Book. V, Chap. 2).
And also of course – as Mill explains in his fi nal chapter on “limitations” to non-
interventionism – while recognising that free-market principles must always be the
rule, there must also be proper public action to combat the negative impact of the
exceptions to the rule. Naturally, education of the masses should be in the hands of
a cultured elite rather than parents themselves; after all, “[t]he uncultivated cannot
be competent judges of cultivation” ( op. cit. , 953; 947) ( Principles , Book V, Chap. 11,
Sctn. 8). Doubtless, the rise of “delegated agency” in the form of limited-
liability corporations has its advantages, but the democratic processes that monitor
public agency (i.e. elections) are indubitably more effective at reigning in public
corruption than are the corresponding private monitoring processes seeking to
control corporate corruption, so that, at the end of the day, on economic grounds,
large nationalized fi rms are preferred to large corporate fi rms, and the remaining
private corporations require constant close scrutiny by [wise, benevolent] govern-
ment (Book V, Chap. 11, Sctn. 11). And obviously, private agents seeking to create
various types of “public goods” are often, due to “who goes fi rst”? problems, clearly
incapable of effectively organizing themselves into appropriate bodies for pursuing
their objectives, so that government involvement (and, if need be, government coer-
cion) is required to allow these deserving individuals to reap these gains (Book V,
Chap. 11, Sctns. 12, 15).
Manifestly, colonial governments (and home governments too) have a crucial
role to play in controlling and containing land markets, by making sure colonists do
not buy too much land or live too far from each other, so that the colony might reap
full gains from cooperation and the benefi ts of “smart growth” might be fully gar-
nered (Book V, Chap. 11, Sctn. 14). And self-evidently, those who give charity to
others will be more cavalier about their actions than they would be if spending their
own money on themselves, so that government-granted charity (and regulation of
private charity, one may presume) will always be needed (Book V, Chap. 11, Sctn. 13).
In fact (judging from certain passages in On Liberty ), government also is needed to
ensure that a suffi ciently “charitable” attitude is displayed by “mainstream” citizens
towards the deviant behaviours of their fellow citizens.
After penning these “exceptions” to his market principles, Mill rested, and surely
he did so too soon, if he truly wished societies based on free-market principles to
survive intact instead of being evolved into some form of Big State collectivism.
Mill himself, just after triumphantly completing his litany of “exceptions” to market
principles, admits candidly that “the intervention of government cannot always
practically stop short at the limit which defi nes the cases intrinsically suitable for it”
( Principles , 978; 970). What shall constrain these “exceptions” to market princi-
ples? Mill envisioned them as insignifi cant little fi efdoms within a vast domain of
laissez faire . But what is to prevent them, once solidly entrenched and sure of them-
selves, from mushrooming outwards, extending their dominions of control over suc-
cessively more and more areas once reserved for free market forces, until laissez
271
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
faire is effectively overthrown and government power reigns supreme throughout
the society’s economic sector?
Will the public educator, armed with government power, stand by indefi nitely as
“side-by-side” private schools compete with the bureaucrat-blessed public schools?
With Mill’s fi rm assertion of the economic superiority of public agency over private
agency, how long will the public sector tolerate unfettered private agency – or, per-
haps, any private agency? With more and more legislators and lobbyists strategi-
cally twisting their personal agendas into some version of the “who goes fi rst”?/
public-good coordination problem, how long before such problems will be “found”
behind every tree, and how long until government takes it upon itself to address
these problems with its powers of “persuasion”? How long before charges of “unsta-
ble” patterns of land usage (either in colonies, or in the home country) beget wide-
spread regulation and control of all land, in the name of “economic effi ciency”?
How long before “proper” charitable behaviour, towards both the poor and those
who are “diverse”, are fi rst suggested, then strongly recommended, then mandated
by the one-time little fi efdoms now grown strong and supreme?
It is not that Mill did not discover legitimate issues. He did: imperfect knowledge
by private decision-makers and its consequences, public goods and the “who goes
fi rst”? coordination problems, externalities (in land use and elsewhere), corporate vs.
private governance – all these are fundamental issues of our time, and one of the earli-
est major fi gures to fully appreciate their potential signifi cance to the argument for or
against laissez faire , was John Stuart Mill. The problem is not with the arguments
themselves; rather, it is with how those arguments, inevitably, are strategically used
in democratic societies by those seeking various types of privileges from the public
sector. Once such “exceptions” to market principles are enshrined, all who seek their
bread from government power know that, if they can only fi gure out a way to present
their petition in the guise of one of these pre-approved templates for government
intervention, then their chances of success rise dramatically. A rent-seeker, like water,
seeks the path of least resistance. Mill provided one – in fact, he provided several.
Mill erred tragically in another way when he foisted his “exceptions” to laissez
faire upon society without at the same contemplating whether there were ways in
which free-market institutions might not themselves prove capable of overcoming
the various problems to which he pointed. Mill thought hard about voluntary coor-
dination on the part of fi rms organized around the socialist principle, and he reported
on these fi rms glowingly and in detail in Book IV, Chap. 7. Why then was he unwill-
ing to contemplate the possibility of free-market cooperation in the face of his
“exceptions”, aided by market incentives in subtle ways? Had he done so, he might
have anticipated the “private supply of public goods” literature by over a century.
Since we know private citizens solve coordination problems, and we know also that
they can do so in a market context, it would have been a natural progression for Mill
to explore such a line of thought. But Mill, apparently satisfi ed with the qualifi ed
indictment of capitalist institutions he had found, chose instead to end his inquiry at
the point where he identifi ed an “exception” (what we today call a “market failure”).
By ending his inquiry at that point, he encouraged others to conclude that demon-
strating a “market failure” is more or less the same as demonstrating a need for
272 M.R. Montgomery
government intervention. Such a bias, now deeply imbedded in economic policy, is
one that can now only be escaped gradually, if at all.
But perhaps the most serious mistake Mill made (if he really was trying to protect
his vision of a dominant private sector with a few government-infl uenced “excep-
tions” to market principles) was in his failure to see the manner in which real-world
political competition plays out among those who rent-seek. Imagine a society-
sponsored game where everyone must jump over a bar in order to win a coveted
prize. Assuming the bar is not set too high, there will be a lot of people winning
prizes (and thus a lot of expensive prize-giving by society). Now change the game:
the height of everyone’s jump is recorded, and only the three highest jumpers win a
prize. The number of winners is now strictly limited; regardless of how many others
fi nish close to the top three, they get nothing. If society is paying for the prizes, then
society spends a lot less money in the second game than in the fi rst. If each “winner”
increases government’s power at the expense of the free market, then society is
going to lose its economic freedom a lot faster in the fi rst game than in the second.
Democratic-government rent-seeking works on the same principle as the fi rst
variety of our game. You have a “pitch”. You bring it before the political authorities.
If the pitch is judged good enough, you get society’s money to make your pitch a
reality. There is no strong limit on how many people get to win; everyone whose
pitch is “reasonable” gets “over the bar” (“reasonable” in practice coming to include
things like, what are your political connections? etc.) The only constraints are how
much money there is to give away and how subtle are the tongues of the petitioners.
Now compare that to the rules of the second game: there are only three winners, no
matter what. Society’s tight budget thereby limits the losses suffered in the “rent-
seeking game”. But this is precisely what does not happen in the real-world relation-
ship between a petitioner and his government.
Mill introduced a number of very broad rationales for bigger government into a
society whose government plays the fi rst variety of our game. Very many proposals
are therefore accepted (virtually all of them expanding government authority at the
expense of the principle of laissez faire ). The game has no end, and no ultimate
limits to the winnings it dishes out – it is simply a question of budgets and how many
acceptable proposals come across the authorities’ desks. Recall that such winnings
are directly correlated with the loss of economic freedom. Mill failed to see that, if
his “exceptions” were not to have the ultimate effect of crowding out free enterprise,
then it was crucial that society play some version of the second variety of our game.
In this way, society would no longer be held hostage to the persuasiveness of the
rent-seekers and the gullibility of the fund-givers. Such issues, however, did not
seem to occur to Mill; or, if they did, then Mill imagined that wise, honest, integrity-
fi lled elected offi cials would, in essence, force upon society the second game, when
in fact it was far more likely that the kind of offi cials able to reach and hold power
would very much prefer to play the fi rst variety of the game (more happy petitioners,
more people owe you favours, more goodies for you down the pipe).
By all contemporary accounts, Mill was a thoroughly honest man; in fact, he is
probably one of the most honest and decent men who ever lived. As such, he himself
would never have used a legitimate economic issue to make an illegitimate argument
273
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
for some kind of government intervention that benefi ted him personally. But Mill, a
man of great honesty and principle, had a tendency to, too often, attribute similar
honesty and principle to others. Mill did not see the problem of good government
as had the Framers of the American constitution (see Section “Digression: Mill as a
Mild ‘Constitutionalist’”, above). He did not see, as one of the key challenges of
government, the creation of a system of checks and balances that would make it
diffi cult for those who sought prosperity through government power to succeed. He
did not see good government in terms of creating a system that frustrates those who
seek to use government power as just another weapon to harness in pursuing their
narrow self-interest.
Mill, instead, to a signifi cant degree, saw the key problem of government as that
of crafting voting systems and rules that would give democracy full and fair play
– rules that differed from one-person-one-vote in ways that he thought preserved
the due infl uence of the better-educated (his own scheme) and otherwise-disenfran-
chised minorities (Thomas Hare’s scheme). The framers of the American constitu-
tion tried to combat the problem of evil in government by imagining evil in power
and creating a system of government that would sharply limit the power and author-
ity of that evil. Mill, by contrast, seems to have imagined a perfect voting system
that would not have allowed the evil to ever win offi ce. Arguably, the Framers were
wiser.
54
Mill’s Road to Leviathan
There is little doubt that Mill thought of himself as a true friend of liberty and
liberalism. And in many respects there is no doubt that he was. His passionate
defence in On Liberty of diversity of thought and of dissident actors in society, his
pioneering advocacy of equality among the sexes and his abhorrence of the institu-
tion of slavery ( Mill
1984 [1850, 1851, 1869]), his powerful defence of economic
competition ( Principles , Book IV, Chap. 7, Sctn. 7), his thoughtful advocacy of
sound money and free-market macroeconomic forces (Book III, Chaps. 7, 13 and
14), his paean to the material progress achieved by the rapidly developing Western
economies due in large part to market forces (Bk. IV, Chap. 1), his undisguised
enthusiasm for the entrepreneurial creativity of Europe’s “peasant proprietors” (Bk.
II, Chaps. 6 and 7), his thorough exposure of numerous interventionist fallacies
many of which still dog economic policy today (Bk. V, Chap. 10), and his other
free-market positions expressed in the Principles and many places elsewhere – all
these and much more testify to Mill’s considerable classical liberal values. His
longstanding fl irtations with alternative socialist schemes notwithstanding, he never
54
The framers had no defence against the willful misinterpretation of their words by activist schol-
ars and judges who saw those words (correctly) as bulwarks against the type of society they
preferred.
274 M.R. Montgomery
reached the point where he repudiated market principles, in practice . He thought
capitalism had an important place in the world of his day, and for some time to
come. He (and his wife) hoped that the world of tomorrow would learn to live with-
out it, but the path to that future was voluntarist and evolutionary, not authoritarian
and revolutionary.
Mill embraced the capitalist present in large part because he thought it would
ultimately stimulate society’s evolution into the much-hoped-for socialist utopia of
the future. Thus was Mill the great advocate and the great critic of capitalism. Mill
was also the great theoretical compromiser, proud of his ability to take apparently
antagonistic doctrines, separate out the good and the bad from each, and then com-
bine these into a synthesis that captured the strongest points of them both. He
writes: “…I had always a humble opinion of my own powers as an original thinker,
except in abstract science … but thought myself much superior to most of my con-
temporaries in willingness and ability to learn from everybody…” ( Autobiography ,
251–2). Such open-mindedness is in very many respects laudable, but it also carries
within it the signifi cant risks that one may be tempted to try to synthesize opposing
systems into amalgamations that are unstable and unsound.
Mill summarized his and his wife’s aspirations for the democratic societies as
follows: “The social problem of the future we considered to be, how to unite the
greatest individual liberty of action, with a common ownership in the raw material of
the globe, and an equal participation of all in the benefi ts of combined labour”
( Autobiography , 239). How is an “individual liberty of action” to be amalgamated with
“a common ownership in the raw material of the globe”? Mill and his wife thought
that such a mixture would be brought into being by the voluntary decisions of millions
of individuals who, once educated into becoming beings of “character”, would each
voluntarily seek out socialist modes of economic and societal organization – thus
allowing a squaring of the circle captured in the question several lines above.
While no one can forecast the future, to date either the education or else its
impact has failed to bring about those core changes in human nature and values for
which the Mills hoped and strived. Humankind remains, at the core, what it always
has been – self-interested, materialistic, greedy for individual joys and pleasures,
happy to be charitable on its own terms (but not so much on terms defi ned for them
by others), focussed on self and family rather than on “the greater good”, on occa-
sion even spiritual and capable of looking up to something bigger than itself. In their
quest to improve their lives, humans remain practical, calculating, and generally
opposed to the notion that one – or one’s government – is one’s brother’s keeper. At
the core, there seems little difference between the preferences of the most “culti-
vated” and the most lowly. One drinks a fi ne Chablis and talks about the fi ne arts (or,
increasingly these days, of goings-on in political capitals); the other swills a beer
and talks about the local sports franchise. Adam Smith would look at humankind in
the early twenty-fi rst century and would have said, “what else”? Mill, by contrast,
would probably be appalled.
The Mills failed in their attempt to bring voluntary socialism into the nine-
teenth century. But they may very well have helped greatly in bringing in volun-
tary socialism into the twentieth and now, twenty-fi rst centuries. The moral case
275
9 John Stuart Mill’s Road to Leviathan II: The Principles of Political Economy
for socialism that Mill felt and advocated so passionately, arguably inspired many
to believe that utopia was “just around the corner” – if only suffi cient coercion
could be added to passion, forcing “change”. As is not uncommonly the case,
the voluntarist passion of the dreamer was turned, by his successors, into the
coercive orders and 5-year-plans of the apparatchik.
Mill’s infl uential attempts to alter the economic policies of his day for the better
have arguably also failed to build a better society. Certainly, versions of many of his
social policies have been adopted, with some good effects (though what might have
grown up in their place without them through private cooperation remains an inter-
esting, but little-discussed, topic). Perusing the major democratic nations late in the
fi rst decade of the twenty-fi rst century, it is hard for the student of Mill not to see
Mill’s quest for “social justice” as one of several forces powering much of the nox-
ious gain in government infl uence that can be seen in the day’s news. What would
Mill likely think of this particular trend?
If we could bring Mill into the present, no doubt he would, most of all, be
astounded at the astonishing material progress the world has achieved in the long
era now [it appears] ending of relatively unfettered capitalism. He would probably
notice next the declining trend of free market economics’ infl uence (most notably in
the United States) and the corresponding upward trend in government power. The
opinions of various commentators on the Left notwithstanding, he would likely
deplore everywhere the rise of government fi at to levels far above anything he would
ever have recommended (after, of course, fi rst verifying that there was no sign on
the horizon of the long-hoped-for convergence of the world into a voluntarist social-
ist nirvana).
Mill would no doubt pronounce humankind not yet ready for voluntary social-
ism, and he would no doubt be right (as he would probably be equally right if return-
ing at any time well into the distant future). Mill would likely also wonder how the
world’s economies ever came to backtrack into what he would see as the kind of
blatant mercantilism he no doubt thought was dispatched long ago by Adam Smith.
Learning how some of his ideas and suggestions probably helped bring about the
marked decline he observed in free-market institutions, and the corresponding rise
in government ones, he would no doubt want very badly to do whatever he could to
set things once again onto a proper path.
Alas, too late!
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279
JG B kh ( d) HdbkfhHi fE iTh h
C. P. Baloglou (*)
Hellenic Telecommunications Organization, S.A.
Messenias 14 & Gr. Lamprakis, 143 42 Nea Philadelphia , Attikis , Greece
e-mail: [email protected]
Chapter 10
Jeremy Bentham (1748–1832)
Christos P. Baloglou
Jeremy Bentham
Introduction
The English moral philosopher, jurist, social reformer, political economist, and
founding father of modern utilitarianism, Jeremy Bentham, casts a long shadow
over the development of modern jurisprudence and the social sciences. Both defenders
280 C.P. Baloglou
and critics of legal primitivism, public administration, and modern welfare economics
credit Bentham’s infl uence in the development of these fi elds of inquiry.
1
Born in London on the February 15th, 1748 as the son of the lawyer Jeremiah
Bentham and Alicia Grove, Bentham
2
was a strangely precocious and a morbidly
sensitive child, when it was decided in 1755 to send him to Westminster. He learned
the catechism by heart and was good in Greek and Latin verses, which he composed
for his companions as well as himself. He had also the rarer accomplishment,
acquired from his early tutor, of writing more easily in French than English. Some
of his writings were originally composed in French. He was, according to Bowring,
elected to one of the King’s scholarships when between nine and ten, but as “ill-usage
was apprehended” the appointment was declined.
3
In 1760, his father took him to
Oxford and entered him as a commoner at Queen’s College. He came into residence
in the following October, when only 12 years old. As schoolboy, he continued his
schoolboy course. He wrote Latin verses, and one of his experiments, an ode upon
the death of George II, was sent to Johnson, who called it “a very pretty performance
for a young man”. He also had to go through the form of disputation in the schools.
Queen’s College had some reputation at this time for teaching logic.
4
Bentham was
set to read Watt’s “ Logic ” (1725), Sanderson’s “ Compendium artis Logicae ” (1615)
and Rowning’s compendious “ System of Natural Philosophy ” (1735–1742). Some
traces of these studies remained in his mind.
5
In 1763, Bentham took his B.A. degree and returned to his home. He returned to
Oxford in December 1763 to hear Blackstone’s lectures. In 1758, William Blackstone
(1723–1780), barrister of the Inner Temple and fellow of All Souls, was appointed as
the fi rst Vinerian Professor of English Law at Oxford. Between 1765 and 1769, he
published the fi rst of many editions of the work which was to make his name perhaps
more celebrated than that of any other English jurist. The “ Commentaries on the
Laws of England ”, based on Blackstone’s Oxford lectures, rapidly established an
unrivalled reputation and authority. In 1770, the author (an M.P. since 1761 and
solicitor-general to the Queen since 1763) declined the post of solicitor-general in
North’s administration, but accepted knighthood and became a justice in the court of
Common Pleas. This offi ce he fi lled for the remaining 10 years of his life.
6
Bentham attended the last courses given by Blackstone before his resignation of the
Vinerian chair. Bentham has been infl uenced by Blackstone’s matter and manner and it
seems to have impressed him in the writing of the “ Commentaries ”. It is clear from his
own early manuscripts that the direction of Bentham’s own thought at the outset of his
career owed much to his critical but constant reading and re-reading of Blackstone.
1
Kelly 1987 p. 156.
2
The main authority for Bentham’s life is Bowring’s 1838 – 1843 account in the two last volumes of
the “ Works ”. See also Stephen
1900 [1968] vol. I, Chap. V; Atkinson 1905 [1969]. See also the
interesting articles by Kelly
1987 pp. 156–161. Mack IESS, vol. I, pp. 55–58. Pins 2006 .
3
Bowring, 1843 , vol. X, p. 38.
4
Bowring, vol. VIII, pp. 113, 217.
5
Stephen 1900 [1968], vol. I, p. 173.
6
Burns and Hart 1977 p. xix.
281
10 Jeremy Bentham (1748–1832)
Bentham, after leaving Oxford, took chambers in Lincoln’s Inn. He visited Paris
in 1770, but made few acquaintances, though he was already regarded as a “philoso-
pher”. In 1778, he was in correspondence with d’ Alembert, the abbé Morellet, and
other philanthropic philosophers, but it does not appear at what time this connection
began.
7
He translated Voltaire’s “ Taureu-Blanc ” – a story which used to “convulse
him with laughter”. His fi rst publication was s defence of Lord Mansfi eld in 1770
against attacks arising out of the prosecution of Woodfall for publishing Junius’s
letter to the king. This defence, contained in two letters, signed Irenaeus was pub-
lished in the Gazetteer .
8
At this time, Bentham says that his was “truly a miserable
life”.
9
Yet he was getting to work upon his grand project. He tells his father on
October 1st, 1776 that he is writing his “ Critical Elements of Jurisprudence ”, the
book of which a part was afterwards published as the “ Introduction to the Principles
of Morals and Legislation ”.
10
In the same year, he published his fi rst important
work, the “ Fragment on Government ”. The year was in many ways memorable.
The Declaration of Independence marked the opening of a new political era.
Adam Smith’s “ Wealth of Nations ” and Ed. Gibbon’s “ Decline and Fall ” formed
landmarks in speculation and in history; and Bentham’s volume, though it made no
such impression, announced a serious attempt to apply scientifi c methods to prob-
lems of legislation.
A turning point on Bentham’s life was his absence from England during the
years 1785–1788. His brother Samuel (1757–1831), whose education he had partly
superintended,
11
had been apprenticed to a shipwright at Woolwich, and in 1780,
had gone to Russia in search of employment. Three years later, he was sent by
Prince Potemkin to superintend a great industrial establishment at Kritchev on a
tributary of the Dnieper. There he was to be “Jack-of-all-trades – building ships, like
Harlequin, of odds and ends – a rope-maker, a sail-maker, a distiller, brewer, mal-
ster, tenner, glass-man, glass-grinder, potter, hemp-spinner, smith, and copper-
smith”.
12
He was, that is, to transplant a fragment of ready-made Western civilization
into Russia. Bentham left England in August 1785 and stayed some time at
Constantinople, where he met Maria James (1770–1836), the wife successively of
W. Reveley and John Gisborne, and the friend of Shelley. Thence he travelled by
land to Kritchev and settled with his brother at the neighbouring estate of Zabobras.
Bentham was interested in his brother’s occupations and mechanical inventions and
at the same time keeping up his own intellectual labours. The most remarkable
result was the “ Defence of Usury ”, written in the beginning of 1787. At the begin-
ning of February 1788, he reached London, travelled through Poland, Germany, and
Holland. He lived until his death in London writing and propagating his ideas.
7
Bowring, 1843 , vol. X, pp. 87–88, 193–194.
8
Stephen 1900 [1968] vol. I, p. 180.
9
Bowring, 1843 , vol. X, p. 84.
1 0
Bowring, 1843 , vol. X, p. 77.
1 1
Bowring, 1843 , vol. X, p. 77.
1 2
Bowring, 1843 , vol. X, p. 147.
282 C.P. Baloglou
Bentham met in 1788 the Swiss pastor and author Pierre Étienne Lois Dumont,
who studied enthusiastically Bentham’s work.
13
Dumont, born at Geneva in 1759,
had become a Protestant minister; he was afterwards tutor to Shelbrune’s son, and
in 1788, visited Paris with Romilly and made acquaintance with Mirabeau. Romilly
showed Dumont some of Bentham’s papers written in French. Dumont offered to
rewrite and to superintend their publication. Dumont became Bentham’s most
devoted disciple and laboured unweariedly upon the translation and condensation of
his master’s treatise. After long and tedious labours and multiplied communications
between the master and the disciple, Dumont in the spring of 1802 brought out his
“ Traités de legislation civile et pénale ”. The book was partly a translation from
Bentham’s published and unpublished works – Bentham had himself written some
of his papers in French, and partly a statement of the pith of the new doctrine in
Dumont’s own language. It had the great merit of putting Bentham’s meaning vigor-
ously and compactly, and free from many of the digressions, minute discussions of
minor points and arguments requiring a special knowledge of English law, which
had impeded the popularity of Bentham’s previous works.
14
Bentham’s mind was attracted to various other schemes by the disciples who
came to sit at his feet, and professed, with more or less sincerity, to regard him as a
Solon. Foreigners had been resorting to him from all parts of the world and gave
him hopes of new fi elds for codifying. As early as 1808, he had been visited at
Barrow Green by the strange adventurer, politician, lawyer, and fi libuster, Aaron
Burr, famous for the duel in which he killed Alexander Hamilton and now framing
wild schemes for an empire in Mexico. Burr’s conversation suggested to Bentham a
singular scheme for emigrating to Mexico. He applied seriously for introductions to
Lord Holland, who had passed some time in Spain, and to Holland’s friend,
Jovellanos (1749–1812), a member of the Spanish Junta, who had written treatises
upon legislation (1785), of which Bentham approved.
15
The dream of Mexico was
succeeded by a dream of Venezuela. General Miranda spent some years in England
and had become well known to James Mill. He was now about to start upon an
unfortunate expedition to Venezuela, his native country. He took with him a draft of
a law for the freedom of the press, which Bentham drew up, and he proposed that
when his new state was founded, Bentham should be its legislator.
16
Miranda was
betrayed to the Spanish government in 1812 and died (1816) in the hands of the
Inquisition. Bolivar, who was also in London in 1810 and took some notice of
Joseph Lancaster, applied in fl attering terms to Bentham. Long afterwards, when
dictator of Columbia, he forbade the use of Bentham’s works in the schools, to
which, however, the privilege of reading him was restored, and let us hope, duly
valued, in 1835.
17
Santander, another South America hero, was also a disciple and
1 3
Kitromilides 1998 pp. 144–145; Bowring, 1843 , vol. X, p. 186.
1 4
Stephen 1900 [1968] vol. I, pp. 207–208. Kitromilides 1998 pp. 144–145. Guidi 2009 p. 375.
1 5
Bowring, 1843 , vol. X, p. 443, 448.
1 6
Bowring, 1843 , vol. X, pp. 457–458; Stephen 1900 [1968] vol. I, p. 220.
1 7
Bowring, 1843 , vol. XI, pp. 553–54, 565.
283
10 Jeremy Bentham (1748–1832)
encouraged the study of Bentham. Bentham says in 1830 that 40,000 copies of
Dumont’s “ Traités ” had been sold in Paris for the South American trade.
18
In the
United States, he had many disciples of a more creditable kind than Burr. He
appealed in 1811 to Madison, then President, for permission to construct a
“Pannomion” or complete body of law, for the use of United States and urged his
claims both upon Madison and the Governor of Pennsylvania in 1817, when peace
had been restored. He had many conversations upon this project with John Quincy
Adams, who was then American minister in England.
19
This, of course, came to
nothing, but an eminent American disciple, Edward Livingston (1764–1836),
between 1820 and 1830 prepared codes for the State of Louisiana and warmly
acknowledged his obligations to Bentham.
20
In 1830, Bentham also acknowledged
a notice of his labours, probably resulting from this, which had been made in one of
General Jackson’s presidential messages.
21
In 1820 and 1821, Bentham was consulted by the Constitutional party in Spain
and Portugal and wrote elaborate tracts for their enlightenment. Bentham even endea-
voured in 1822–1823 to administer some sound advice to the government of Tripolis,
but his suggestions for “remedies against misrule” seem never to have been commu-
nicated.
22
In 1823 and 1824, he was a member of the Greek Committee; he corre-
sponded with Alexander Mavrocordatos, Theodore Negris, Adamantios Corais in
Paris and Odysseus Androutsos.
23
He begged Parr to turn some of his admonitions
into “Parrian” Greek for the benefi t of the moderns.
24
Blanquière and Stanhope, two
ardent members of the committee, were disciples; and Stanhope carried with him to
Greece Bentham’s “ Table of the Springs of Action ”, with which he tried to indoctri-
nate Byron. Bentham’s disciples hoped to establish the teacher’s ideas and reforms in
the New State, and for this reason, Bentham commented the “Provisory Constitution
of Epidaurus” and he proposed Corais to translate his works into Greek. There has
been published the two-volume edition of the Dumont’s edition into Greek by
G. Athanassiou: vol. I: On the legislation of private and penial, Aegina 1834; vol. II:
On the legislation of the rights and the criminal laws, Athens 1842 [= On legislation
private and penal; vol. II: On legislation on duties and criminal laws].
The last years of his life brought Bentham into closer connection with more remark-
able men. It was at Hendon, with George Grote (1794–1871), the historian of Greece,
who had been introduced to his guest by Ricardo. In 1825, he visited Paris to consult
some physicians. He was received with the respect which the French can always pay
to intellectual eminence.
25
All the lawyers in a court of justice rose to receive him, and
1 8
Bowring, vol. XI, p. 53.
1 9
Bentham’s letter to Adams in Bowring, 1843 , vol. X, p. 554.
2 0
Bowring, vol. XI, p. 23.
2 1
Bowring, vol. XI, p. 40.
2 2
Bowring, vol. VIII, pp. 555–600.
2 3
Kitromilides 1998 , p. 145.
2 4
Kitromilides 1984 , vol. II, pp. 285–308.
2 5
Bowring, 1843 , vol. X, p. 551.
284 C.P. Baloglou
he was placed at the president’s right hand.
26
In the early part of February 1832, less
than 4 months before his death, Bentham received a renowned statesman, Talleyrand.
On the May 18th, 1832, he had his last bit of his lifelong labour, upon the “Constitutional
Code”. The great reform agitation was reaching the land of promise, but Bentham was
to die in the wilderness. Bentham still able to write and capable of sustained thought,
calmly awaited death, which took place on the June 6th, 1832.
It is worth to note that Bentham directed that his body should be dissected. This
injunction was obeyed. The skeleton, covered with the clothes he commonly wore,
and supporting a waxen effi gy of his head, is carefully preserved in the Anatomical
Museum of University College, London. Across one knee rests his favourite stick,
“Dapple”, and at the foot of the fi gure lies the skull, with the white hairs of the old
man still clinging to its surface.
27
‘He never knew prosperity and adversity, passion
nor satiety’, wrote John Mill: ‘he never had even the
experience which sickness gives; he lived from child-
hood to the age of eighty-fi ve in boyish health. He knew
no dejection, no heaviness of heart. He never felt life
a sore and weary burthen. He was a boy to the last’.
28
The Works of Bentham
Bentham translated in 1744 Voltaire’s “ Taureau Blanc ”. He told his father on
October 1st, 1776 that he was writing his “Critical Elements of Jurisprudence”, the
book of which a part was afterwards published as the “ Introduction to the Principles
of Morals and Legislation ”.
29
In the same year, he published his fi rst important
work, the “ Fragment on Government ”.
In the beginning of 1787, when Bentham was in Russia, near his brother, he
wrote the “ Defence of Usury ”. Bentham appended to it a respectful letter to Adam
Smith, who had supported the laws against usury inconsistently with his own gen-
eral principles. It is worth to note that Smith defended the State intervention by the
legal determination of interest in the “ Wealth of Nations ”.
30
Later he was the defender
of the idea of the absolute freedom by the composition of the interest, probably
infl uenced by Bentham’s work, if we believe a conversation which took place in
1789 between Smith and Bentham’s friend, who referred to a letter of G. Wilson, a
close friend of Bentham to him.
31
Bentham’s major work entitled “ Introduction to the Principles of Morals and
Legislation ” appeared in 1789. The preface apologized for imperfections due to the
2 6
Stephen 1900 [1968] vol. I, p. 229; Atkinson 1905 [1969] p. 206.
2 7
Richardson and Hurwitz 1987 , pp. 195–198; Harris 2005 , pp. 38–42.
2 8
Mill 1833, in Parekh, ed., 1974 , pp. 2–5.
2 9
Bowring, 1843 , vol. X, p. 77. Cf. Guidi 2002 .
3 0
Smith 1776 [1937], Book II, Chap. II.
3 1
Rae 1895 p. 423; Gide et Rist 1930 , vol. I, p. 122, not. (1).
285
10 Jeremy Bentham (1748–1832)
plan of his work. The book, he explained, laid down the principles of all his future
labours and was to stand to him in the relation of a treatise upon pure mathematics
to a treatise upon the applied sciences. He indicated ten separate departments of
legislation, each of which would require a treatise in order to the complete execu-
tion of his scheme.
An interesting work, written by Bentham, which belongs to the Utopias, is the
“Panopticon”. The “ Panopticon ”, as defi ned by its inventor to Brissot, was a “mill
for grinding rogues honest, and idle men industrious”.
32
It was suggested by a plan
designed by his brother in Russia for a large house to be occupied by workmen and
to be so arranged that they could be under constant inspection. Bentham was work-
ing on the old lines of philanthropic reform. He had long been interested in the
schemes of prison reform, to which Howard’s labours had given the impetus.
Blackstone, with the help of William Eden, afterwards Lord Auckland, had pre-
pared the “Hard Labour Bill”, which Bentham had carefully criticised in 1778. The
measure was passed in 1779 and provided for the management of convicts, who
were becoming troublesome, as transportation to America had ceased to be possi-
ble. The project to construct new prisons in the country was allowed to drop.
Bentham hoped to solve the problem with his “ Panopticon ”. He printed an account
of it in 1791.
33
He wrote to his old antagonist, George III, describing it, together
with another invention of Samuel’s for enabling armies to cross rivers, which might
be more to his Majesty’s taste.
34
After delays, suspicious in the eyes of Bentham, an
act of parliament was obtained in 1794 to adopt his schemes. The “Panopticon
Correspondence”, in the eleventh volume of Bentham’s “ Works ”, gives fragments
from a “history of the war between Jeremy Bentham and George III”, written by
Bentham in 1830–1831, and selections from a voluminous correspondence.
35
Economic Writings
All of Bentham’s economic writings are concerned with extending the realm of
individual initiative in commerce, trade and industry as a means of increasing social
welfare. Despite this unity of purpose, these writings fall into two broad categories.
First, there are those which advocate the theory of economic liberalism, such as
“ Defense of Usury ”, “ Emancipate Your Colonies ”,
36
“ Manual of Political
Economy ”,
37
“ Institute of Political Economy ”
38
and “ Observations on the Restrictive
3 2
Bowring, 1843 , vol. X, p. 226.
3 3
Stephen 1900 [1968] vol. I, p. 201.
3 4
Bowring, 1843 , vol. X, p. 260.
3 5
Stephen 1900 [1968] vol. I, p. 202, n.2. For a detailed analysis of the function of Panopticon see
Brunon-Ernst
2007 . Cf. Guidi 2004 pp. 405–431, Sigot 2009 pp. 380–384.
3 6
Bentham 1793a in Bowring [1838–1843], vol. 4.
3 7
Bentham 1793b in Stark, ed., 1952–1954, vol. 2.
3 8
Bentham 1801 –1804 in Stark, ed., 1952–1954, vol. 3.
286 C.P. Baloglou
and Prohibitory Commercial System ”.
39
All of these works call for the restriction of
government action in the realm of commerce, trade and industry because such action
is self-defeating or detrimental to overall social welfare. Bentham considered these
works as contributions to the science of political economy as they draw out specifi c
implications from the basic principles of economic liberalism that he inferred from
his utilitarian science of legislation. They develop specifi c policy proposals designed
to implement the principles of economic liberalism in the face of mercantilist poli-
cies still being pursued by government, such as the subsidy or protection of various
trades, monopolistic trading relations with colonies and the funding of government
activities through public debt.
The second category of writings on the art of political economy is concerned
with developing alternative policies which serve social welfare but which do not
violate the principles of economic liberalism. A work such as “ Supply without
Burthen ; or Escheat vice Taxation ”
40
advocates the replacement of direct taxation
as a means of fi nancing government, and others such as “ Abstract or Compressed
View of a Tract Intituled Circulating Annuities ”
41
develop schemes for repaying the
national debt without resource to direct taxation or further borrowing. Also falling
under the category of the art of political economy are works such as “ The True
Alarm ”
42
and “ Defense of a Maximum ”,
43
which developed as attempts to resolve
theoretical diffi culties that arose from some of his practical proposals, and it is here
that Bentham comes close to pre-empting developments in modern macroeconomic
theory.
44
In “ The True Alarm ”, Bentham challenges Adam Smith’s and David
Ricardo’s arguments against the utility theory of value which led them to posit a
labour or production theory of value. Similarly in the “ Annuity Note Plan ”,
45
Bentham advocated monetary expansion as a means of securing full employment,
and in this he used a number of ideas such as hoarding which bear striking resem-
blance to Keynesian concepts such as private over-saving. When Bentham came to
write “ The True Alarm ”, he nevertheless exhibited a strikingly modern awareness
of the infl ationary dangers of monetary expansion as a means of addressing prob-
lems of underemployed resources. He failed, however, to develop these insights
adequately in theoretical works and it was left to later generations to develop them.
In Bentham’s own time, it was Smith and Ricardo who set the agenda for economic
debate, and consequently Bentham’s ideas and his utilitarian version of economic
liberalism were overshadowed by the Smithian and Ricardian orthodoxy. Indeed,
one reason why “The True Alarm” was not published was because Etienne Dumont,
3 9
Bentham 1821 [1995].
4 0
Bentham 1795 in Stark, ed., 1952–1954, vol. 1.
4 1
Bentham 1801a in Stark, ed., 1952–1954, vol. 2.
4 2
Bentham 1801b in Stark, ed., 1952–1954, vol.3.
4 3
Bentham 1801c in Stark, ed., 1952–1954, vol. 3.
4 4
Kelly 1987 p. 161.
4 5
Bentham 1801d in Stark, ed., 1952–1954, vol. 2.
287
10 Jeremy Bentham (1748–1832)
Bentham’s Genevan editor, sought the advice of James Mill and David Ricardo and
both advised against its publication. Though Ricardo’s long commentary still
exists, the original Bentham manuscript has been lost; all we have is Dumont’s
translation.
46
Bentham’s Economic Thought
In a letter to John Stuart Mill written in 1841, Auguste Comte expressed the con-
viction that Bentham must be regarded as “the main origin of what is called politi-
cal economy”.
47
This may sound a very odd and amazing assertion, as most books
on the history of economic thought do not so much as mention Bentham’s name.
48
Yet there is a great deal of truth in Comte’s statement, and Bentham himself would
have heartily approved of it. “I was the spiritual father of Mill” said Bentham, “and
Mill was the spiritual father of Ricardo, so that Ricardo was my spiritual
grandson”.
49
It was not Bentham’s technical economics but his utilitarianism that exerted the
greater stimulation on the thought of his time, and it was through the notions embed-
ded in his utilitarianism that he affected the future development of economics. Here
he broke new paths leading away from laissez-faire, and here he also, by making
utility a central concept in his plea for reform, signifi cantly expanded an area of
speculation that was to become a great concern of later generations of economists.
50
Bentham had become the revered head of the “philosophical radicals”,
51
a move-
ment which promoted inside and outside of the British public administration issues
of social policies into the praxis.
52
Bentham’s method may be shortly described as the method of detail; of treating
wholes by separating them into their parts, abstractions by resolving them into
Things, classes and generalities by distinguishing them into the individuals of which
they are made up; and breaking every question into pieces before attempting to
solve it.
53
This section gives an account on Bentham’s thought in utility theory, his proposals
for social policy and state intervention and property.
4 6
Kelly 1987 p. 161.
4 7
Lettres d’ Auguste Comte à John Stuart Mill 1877, p. 4.
4 8
Stark 1941 p. 60–61. Stark 1946 p. 583.
4 9
Bowring 1843 , vol. X, p. 498.
5 0
Spiegel 1983 p. 341.
5 1
So the title of Halévy’s book; Halévy 1928 .
5 2
Psalidopoulos 1997 p. 68.
5 3
Mill 1838 , in Parekh, ed., 1974, pp. 2–5.
288 C.P. Baloglou
The Utility Theory
Bentham is usually regarded as the father of utilitarianism. Although Francis
Hutcheson (1694–1746) and David Hume (1711–1776) had ideas similar to
Bentham’s, Bentham used the word “utilitarian” for the fi rst time and developed the
idea systematically in “ An Introduction to the Principles of Morals and Legislation ”
published in 1789. Bentham’s major aim in this publication was a reform of the
British penal code, which was still based on the medieval idea that criminals should
be punished for punishment’s sake. Bentham argued that the penalty should be
determined so as to maximize the utility or happiness of society. He states,
“all punishment in itself is evil”.
54
In his humanist approach, Bentham was a part of
the philosophy of the European Enlightenment.
55
Bentham starts his book with the remark: “Nature has placed mankind under the
governance of two sovereign matters, pain and pleasure. It is for them alone to point
out what we ought to do, as well as to determine what we shall do”.
56
The same idea
had been espoused by Democritus (460–390 b.c .).
57
These two concepts provide the
basis for Bentham’s theory of value and his theory of motivation. The sole effi cient
cause of action is the desire for pleasure and the avoidance of pain. Pleasures can
take as many forms as possible actions, and Bentham does not assume simple uni-
formity of human nature such that all humans desire the same objects of pleasure,
nor does he assume that all objects of pleasure are easily substitutable.
58
Bentham teaches, pleasure and pain appear and act as defi nite magnitudes: “To
a certain person, considered by himself”, he says,
59
“ the value of a pleasure or pain,
considered by itself, will be greater or less, according to the four following circum-
stances: (1) Its intensity. (2) Its duration. (3) Its certainty or uncertainty. (4) Its
propinquity or remoteness”. Present feelings, therefore, have two dimensions:
The magnitude of a pleasure is composed
of its intensity and its duration: to obtain it,
supposing its intensity represented by a
certain number of degrees, you multiply that
number by number expressive of the moments
or atoms of time contained in its duration. Suppose
two pleasures at the same degree of intensity – give
to the second twice the duration of the fi rst, the
second is twice as great as the fi rst.
60
This is a solid basis, on which it is well possible “to apply arithmetical calculations
to the elements of happiness”:
5 4
Bentham 1789 [1970] p. 158.
5 5
Amemiya 2007 p. 158.
5 6
Bentham 1789 [1970] p. 11.
5 7
Karayiannis 1988 .
5 8
Kelly 1987 p. 157.
5 9
Bowring vol. I, p. 16.
6 0
Bowring vol. IV p. 540.
289
10 Jeremy Bentham (1748–1832)
The quantity or degree of well-being experienced
during any given length of time is directly as
the magnitude (i.e., the intensity multiplied
by the duration) of the sum of the pleasures,
and inversely as the magnitude of the sum
of the pains experienced during that same length of time.
61
Bentham described the doctrine of the dimensions of pleasure and pain as an “application
of arithmetic to questions of utility”.
62
Bentham set out his “felicifi c calculus”, which is supposed to provide a way of
measuring the quantity of pleasure derived from an action or object. Bentham used
certain language that suggests the possibility of a “political arithmetic”, but he was
acutely aware of the diffi culties of providing any common metric for measuring the
intensity or quantity of a psychological state.
The second half of the two sovereign passages from “ The Introduction to the
Principles of Morals and Legislation ” identifi es pleasure and pain as the basis for a
utilitarian account of value; actions have value or can be described as good insofar
as they produce pleasure and minimize pain and bad insofar as they produce pain
and minimize pleasure. Most strongly manifest is Bentham’s subjectivism in his
concept of value “Value is suberviency to well-being – Value is suberviency to
use”.
63
With these defi nitions, Bentham from the very beginning takes a course
different from that of Smith and Ricardo.
64
He makes the traditional distinction
between value-in-use and value-in-exchange, but it is the value-in-use which he
regards as the more important:
Value may be distinguished into (1) General,
or say value in the way of exchange, and (2)
Special, or say idiosyncratical –value in the way
of use in his own individual instance…The value of
a thing in the way of exchange arises out of,
and depends altogether upon, and is proportioned
to its value in the way of use: - for no man would
fi ve anything that had a value in the way of use in
exchange for anything that had no such value.
65
Bentham’s doctrine of the factors of production is worth noting. “For the develop-
ment of industry”, he says,
66
“the union of power and will is required”. In another
place, he makes a more elaborate distinction: he divides power in the wider sense of
the word into knowledge, i.e. “power so far as it depends upon the mental condition
of the party whose power is in question”, and power in the narrower sense, which
“depends upon the state and condition of external objects”. “Power, knowledge, or
intelligence, and inclination: where these requisites concur on the part of him on
whom the production of the desirable effect in question depends, it is produced;
6 1
Bowring vol. VIII p. 82.
6 2
Bowring vol. IV p. 542.
6 3
Bowring vol. III p. 36,39.
6 4
Stark 1946 p. 599.
6 5
Stark ed., vol. III p. 226.
6 6
Stark ed., vol. I
p
. 310.
290 C.P. Baloglou
when any one of them is wanting, it is not produced”.
67
Compared with Smith’s
doctrine of the factors of production, this conception is the purest subjectivism: not
the objective categories land, labour and capital are distinguished, but subjective
categories: the power of man over the forces of nature (in soil and capital goods),
the knowledge how to use this power and the will to do it.
Bentham and the Marginal Utility
Jeremy Bentham rediscovered marginal utility. He discovered it as a by-product of
his reform projects. His central proposition, the balancing of pain and pleasure or the
felicifi c calculus, was already known to Thomas Hobbes, Maupertuis, C. Beccaria,
Hartley and M. Helvetius.
68
The felicifi c calculus means: in the pursuit of pleasure
man ought to watch that additional pleasure prevails over additional pain.
69
Marginal
utility is an aspect of the pain and pleasure man ought to watch that additional
pleasure prevails over additional pain. Marginal utility is an aspect of the pain and
pleasure comparison. For striking a balance between these two emotions, Bentham
splits up pain and pleasure into small parts. The division of pleasure reveals the law
of diminishing utility: “…the quantity of happiness produced by a particle of wealth
(each particle being of the same magnitude) will be less and less at every particle; the
second will produce less than the fi rst, the third less than the second and so on”.
70
Like D. Bernoulli (1700–1780), his forerunner, Bentham was also interested in
the possibility of measuring utility.
71
Bentham attempted several times to measure
utility. Interpersonal measuring, Bentham wrote, is needed for purposes of practical
legislation, for spreading happiness throughout society, but “the particular sensibil-
ity of individuals” and “diversity of circumstances” hinder the construction of a
suitable yardstick.
72
Inspite of these obstacles, Bentham searched for the unity of
measuring. He gave the number one to the smallest utility which can be felt. “Such
a degree of intensity is an every day’s experience; according as any pleasures are
perceived to be more and more intense, they may be represented by higher and
higher numbers”.
73
Baumgardt published Bentham’s paper in which the British philosopher mea-
sured utility in money.
74
Bentham is aware of the essential obstacle, the law of
diminishing utility. “One guinea, suppose, gives a man one degree of pleasure;[…]
6 7
Stark ed., vol. III p. 34.
6 8
Halévy 1928 p. 33. Viner 1949 p. 365. Kauder 1965 p. 35. Baujard 2009 p. 440.
6 9
Bentham 1789 [1970] p.11. As Halévy 1928 p. 26 mentions, the pain-pleasure calculus is taken
almost word for word from Helvetius.
7 0
Bowring ed. 1843 , vol. 3, Pannomial Fragments, Chap. IV, p. 229. See also Kraus 1902 p. 59.
7 1
Stigler 1950 pp. 307ff.
7 2
Stigler 1950 p. 309.
7 3
Stigler 1950 p. 310.
7 4
Baumgardt 1952 p. 554.
291
10 Jeremy Bentham (1748–1832)
it is not true by any means that a million of guineas given to the same man at the
same time would give him a million of such degrees of pleasure”.
75
But the law of
diminishing utility is only effi cient if great changes in the amount of money occur.
It does not work with relatively small increases and decreases of income. Bentham
is of the opinion that the marginal utility of money falls very slowly. If we deal with
small quantities, “the proportion between pleasure and pain” will be very near the
relation between corresponding sums of money. For all practical purposes, money
is capable of measuring pleasure.
Would it have helped better understanding of measuring if Bentham had pub-
lished these subtle refl ections? It is very doubtful.
76
Many economists of his time
knew Bentham and no one saw that some of the theories of the great utilitarian can
be applied in economics. David Ricardo, James Mill, and John Stuart Mill were
Bentham’s friends and devoted followers, but all three of them had their blind spot;
it did not occur to them to apply the felicifi c calculus to economic value.
77
Proposals on Social Policy
Bentham’s reforms, which were grounded in his utilitarianism and which he
tirelessly promoted during his long and active life, changed the face of nine-
teenth-century England. They covered a large variety of programmes stretching
from parliamentary to prison reform and prepared the ground for the adoption of
such important social inventions as the civil service and statistical fact-fi nding.
Bentham was, fi rst of all, a student of law. He considered as his foremost task the
reform of the law and the development of a science of legislation. This science,
in turn, he attempted to derive from the principle of utilitarianism, which in the
version he gave to it makes the happiness, not of an individual but of society, the
“summum bonum” or “highest good”. “Nature”, he wrote in a famous passage,
“has placed mankind under the governance of two sovereign masters, ‘pain’ and
‘pleasure’. It is for them alone to point out what we ought to do, as well as to
determine what we shall do […] They govern us in all we do”.
78
Central to his
thought is not the individual’s happiness but the “principle of utility” or greatest
happiness principle, which considers as the highest good the greatest happiness
of the greatest number. To Bentham, it was the function of legislation and of the
science treating of it to establish a system of punishments and rewards that would
induce individuals to pursue actions leading to the greatest happiness of the
greatest number.
7 5
Baumgardt 1952 p. 559.
7 6
Kauder 1965 p. 37.
7 7
Stephen 1950, vol. 2 p. 7ff; Halévy 1928 p. 107.
7 8
Bentham 1789 [1970] p.11.
292 C.P. Baloglou
The maximum happiness principle did not commit him to laissez-faire, but rather
to the recognition of a substantial range of legitimate activities of the government. As
derived from and “immediately subordinate” to the maximum happiness principle,
he listed four great objectives of public policy, which he ranked in the order of sub-
sistence, security, abundance, and equality, and which, he pointed out, may be “some-
times in a state of rivalry”.
79
When he elevated equality to an objective of economic
policy, even though to one ranking last, he broke a path on which J. St. Mill, who
developed new views about distribution, was to follow him.
80
When he, in spite of his
opposition to a ceiling on the rate of interest,
81
proposed to place a similar ceiling on
the price of corn,
82
he demonstrated his unwillingness to rely always and invariably
on the forces of the market. When he suggested that the government take over the life
insurance business, he stated the germ of the idea of social insurance.
83
He stressed
monetary expansion as a means to full employment,
84
and his discussion of this problem
shows his awareness of the relevance of hoarding, forced saving, the saving–investment
relationship, the propensity to consume, and other matters which form the content of
modern income and employment analysis.
85
Bentham on Property
For Bentham, property was the offspring of desire, as basic to man as the exercise
of his own will. The “logic of the will” which Bentham expounded over many years,
contrasting it emphatically with Locke’s logic of the understanding, was a logic of
desire, of possession, and implicitly of property.
86
“Necessity [or nature] begat property” would do nicely for Bentham. And there
can be no doubt that he saw it as one of civil society’s primary objectives to protect
this child of necessity by protecting the socio-economic status – quo:
…where the distribution of property and
power is concerned, to keep things in the pro-
portion in which they actually are, ought to be,
and in general is, the aim of the legislator. His
great purpose is to preserve the total mass of
expectations as far as is possible from all
that may interfere with their course.
87
7 9
Spiegel 1983 p. 342.
8 0
Landreth & Colander 1989 p. 143–144.
8 1
Stark ed., 1952 vol. 1, pp. 129–207.
8 2
Stark ed., 1952 vol. 3, p. 48.
8 3
Psalidopoulos 1997 . Englander 1998 .
8 4
Stark ed., 1952 vol. 2, p. 310.
8 5
Spiegel 1983 p. 342.
8 6
Long 1977 p. x, 25, 39–40.
8 7
Stark ed., 1952 vol. 3, p. 198.
293
10 Jeremy Bentham (1748–1832)
Bentham virtually identifi ed property with human feelings – pleasure, security and
expectation. He viewed the ideas of a revolutionary change in the distribution of
property with “horror”:
A revolution in property! It is an idea big with
horror, a horror which can not be felt in a stronger
degree by any man than it is by me…it involves the
idea of possessions disturbed, of expectations thwarted:
of estates forcibly ravished from the living owners, of
opulence reduced to beggary, of the fruits of industry
made the prey of rapacity and dissipation- of the
levelling of all distinctions, of the confusion of all
order and the destruction of all security
88
Bentham’s manuscript fragments of the 1770s and 1780s reproduce faithfully the
priorities established in Blackstone’s treatment of the “rights of Englishmen”.
89
An
Englishman’s fundamental rights are three: “personal security, personal liberty and
private property”.
90
Yet Bentham and Blackstone do hold divergent views on prop-
erty and their divergence arises from a consideration clearly raised by Blackstone.
The basic function and importance of property in civil society having been estab-
lished, he asserts, “The only question remaining is, how this property became actually
vested…”.
91
Bentham wished to clarify the language and procedure of the law in rela-
tion to property. The vesting of title, the forms of conveyance, these and other aspects
on the law of real – “immovable” – property were the initial focus of his attention.
92
In the 1770s and 1780s, Bentham attended primarily to the pursuit of theoretical
niceties. The four major works of this period, the “ Fragment on Government ”, the
“ Comment on the Commentaries ”, the “ Introduction to the Principles of Morals and
Legislation ”, and “ Of Laws in General ”, showed an increasing abstraction and intri-
cacy in his theoretical treatment of property as time passed. Around the year 1790,
a change occurred. The French Revolution (1789) fi lled Bentham (and many others)
with an unprecedented sense of urgency: practical proposals for the protection of
order and well-being in English society had to be promulgated without delay. Before
1790, Bentham’s continuing obsession had been with the requirements of scientifi c
social theory. After 1790, he was immersed instead in the gathering of the hard facts
of social life. “Political economy, fi nance, [and] the administration of justice” now
occupied him. In the 1770s, he had seen the analysis of criminal law as his primary
goal. In the late 1780s and the 1790s, he devoted immense energy to problems of a
civil nature. By civil, he meant simply “distributive”. His writings in the 1780s show
a steady rise to prominence and fi nal ascendancy in his mind of the concept of dis-
tributive law, specifi cally “private distributive” (civil) law and “public distributive”
(constitutional) law.
93
His earlier interest in the classifi cation of punishable offences
8 8
Supply Without Burthen: Or Escheat Vice Taxation, in Stark ed., 1952 vol. 3, p. 318.
8 9
Long 1979 p. 228.
9 0
Jones ed., 1973 p. 62; I Comm.1.
9 1
Jones, Selections, 124; II Comm.1.
9 2
Long 1979 p. 228.
9 3
Burns and Hart 1970 .
294 C.P. Baloglou
against property is superseded by a preoccupation with the principles of distribution
of both corporeal and incorporeal objects of property. Bentham the censorial jurist
becomes Bentham the political economist.
94
Reception: Infl uence
As have been mentioned above, three major economists of Bentham’s time did
know Bentham’s theories, but they were not satisfi ed with his theory.
The majority of later economists did not pay any more attention to Bentham than
his contemporaries did. William Stanley Jevons was an exception. It is very unlikely
that H. H. Gossen knew the British hedonist. Neither Walras nor Menger had any
contact with this discoverer of marginal utility.
The following unkind but apt characterization of Bentham was given by Karl Marx
in his Das Kapital :
95
Bentham is a purely English phenomenon. Not even
excepting our philosopher Christian Wolff, in no time
and in no country has the most homespun common-
place ever strutted about in so self-satisfi ed a way.
The principle of utility was no discovery of Bentham.
He simply reproduced in his dull way what Helvetius
and other Frenchmen said with esprit in the 18th
century. To know what is useful for a dog, one must
study dog-nature. This nature itself is not to be
deduced from the principle of utility. Applying this to
men, he that would criticize all human acts,
movements, relations, etc., by the principle of utility,
must fi rst deal with human nature in general, and
then with human nature as modifi ed in
historical epoch. Bentham makes short work of it.
With the driest naivete he takes the modern
shopkeeper, especially the English shopkeeper,
as the normal man. Whatever is useful to this
queer normal man and to his world is absolutely useful.
John Stuart Mill (1806–1873) had a strong utilitarian bias because James Mill was
a close friend of Bentham and was himself a staunch utilitarian. As he reached
adulthood, he was disillusioned by Bentham and revolted against his father. In his
essay entitled “ Remark on Bentham ’ s philosophy ” published in 1833, Mill “fi rmly
dismissed Bentham’s claims to contribute anything of importance to ethical theory”.
96
In his essay entitled “ Bentham ” published in 1838, Mill wrote
9 4
Long 1979 p. 241.
9 5
Marx 1867 [1953] vol. I., p. 571.
9 6
Scarre 1996 p. 88.
295
10 Jeremy Bentham (1748–1832)
Man is never recognized by him as a being
capable of pursuing spiritual perfection as an end;
of desiring, for its own sake, the conformity of his
own character to his standard of excellence, without
hope of good or fear of evil from other sources
than his own consciousness.
97
In the 1840s and 1850s, however, Mill softened his criticism of Bentham under the
infl uence of the feminist Harriet Taylor, whom he married in 1851 after a friendship
lasting 20 years. In the autobiography published in 1873, Mill wrote
In this period (as it may be termed) of my mental
progress, which now went hand in hand with hers,
my opinions gained equally in breadth and depth,
I understood more things, and those which I
had understood before, I now understood more
thoroughly… I had now completely turned back
from what there had been of excess in my
reaction against Benthanism.
98
It was in these changed circumstances that Mill wrote Utilitarianism , published
in 1861.
Bentham found little response in Germany, where hostility both to utilitarianism
and to the rival natural-law philosophy stifl ed economic theorizing. There was only
one contemporary philosopher of name in Germany who expressed admiration for
Bentham, and him Hegel had expelled from his position at the University of Berlin.
Even a “liberal” such as Goethe referred Bentham as a “highly radical fool”.
99
A relative
lack of response to Bentham was also in America.
100
The main factor was the more
deeply entrenched natural-law philosophy.
101
For the most known Bentham’s theory, the greatest happiness principle, let us
call Lord Lionel Robbins’ (1898–1983) words:
If we consider it, not as the ultimate solution
to all problems of ethics and valuation…but
rather as a working rule by which to judge
legislative and administrative projects affecting
large masses of people, it still seems to me better,
more sensible, more humane, more agreeable
to the moral conscience if you like, than any other
I can think of
102
9 7
Mill 1838 in Parekh ed., 1974 pp. 1–40.
9 8
Scarre 1996 p. 90–91; Amemiya 2007 p. 160.
9 9
Baumgardt 1952 pp. 4ff.
100
Palmer 1941 pp. 855–871.
101
Spiegel 1983 p. 747.
102
Robbins 1965 p. 12.
296 C.P. Baloglou
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299JG B kh ( d) HdbkfhHi fE iTh h
B iographical Sketch
Johann Heinrich von Thünen was born on June 24th, 1783 on his father’s estate in
Kanarienhausen, a small town in the region of Jever near the German North Sea coast.
In February 1802, after serving an apprenticeship in agriculture, he visited the
agricultural college of Lucas Andreas Staudinger, a friend of the famous writer
Klopstock, in Groß-Flottbeck near Hamburg. In Flottbeck, von Thünen became
acquainted with the Baron von Voght, a rich nobleman and patron of Staudinger. As
Gerhard Lüpkes, an excellent expert in Thünen-research, points out, the meeting with
von Voght was of great impact on the development of von Thünens’ social attitude.
Baron von Voght did experiments with beggars on his estate in Flottbeck: instead of
living on charity he gave the beggars the opportunity to work (Lüpkes
1992 , pp. 9–10).
In 1802, von Thünen already started writing some literature concerning the shape
of agriculture, taking into consideration transport costs from the locations of agri-
cultural production to the centres of consumption, the cities (Engelhardt
1993a ,
p. 462; Passow
1901 , pp. 36–38). Prompted by the writings of Albrecht von Thaer
and his “Einleitung zur Kenntnis der englischen Landwirtschaft” (Introduction to
English agriculture) in particular, von Thünen enrolled in a course at von Thaer’s
Institute of Agriculture in Celle in Summer 1803. Although von Thaer was criti-
cized by von Thünen in some fundamental points, he called von Thaer his real
teacher in agricultural science (von Bismarck
1933 , p. 16; Petersen 1944 , p. 4).
In October 1803, he registered at the University of Göttingen to study until the
summer semester 1804. At this place, he had some experiences and meetings with
people and works shaping his liberal and social ideas.
H. Frambach ()
Department of Economics , Schumpeter School of Business & Economics,
University of Wuppertal , Gaußstraße 20 , 42097 Wuppertal , Germany
e-mail: [email protected]
Chapter 11
Johann Heinrich von Thünen: A Founder
of Modern Economics
Hans Frambach
300 H. Frambach
From 1802 on, von Thünen wrote treatises and carried out calculations about
agriculture. In 1810, he bought the estate Tellow, district Teterow, in Mecklenburg
and lived there with his family until the end of his life. Between 1810 and 1820, he
did a lot of experiments and calculations at Tellow and devoted himself to a very
detailed accountancy.
1
The result of this meticulous venture provided the groundwork
for his famous discoveries. The main result of these years of practical experience
and theoretical research efforts was that, in 1826 von Thünen published his master-
piece in his major important work “The Isolated State” (only the fi rst volume was
published in 1826 containing among other things the location theory),
2
as Walter
Braeuer (
1951 , pp. XXXIV–XXXVIII), the famous von Thünen researcher and editor
of the “1966a-edition” of the “Isolated State”, pointed out. Because of the new insights
and the following success of the book, the philosophical faculty of the University of
Rostock conferred the title of an honorary doctor on von Thünen in 1830. In the same
year, the city of Teterow declared him a freeman. He declined a seat in the National
Assembly of Frankfurt am Main (Frankfurter Nationalversammlung) in 1848
because of his bad state of health.
After fi nishing the second part of “The Isolated State” in 1850, which contains the
wage, interest and capital theory, von Thünen died on September 22nd, 1850 at the
age of 67 on his estate Tellow as a result of an apoplectic stroke (Schneider
1934 , p. 7).
1
For further reading concerning the “Tellow accountancy”, see Eberhardt E.A. Gerhardt (1964),
“Thünens Tellower Buchführung”, 2 Vols., Meisenheim a. Glan.
2
Original edition 1826: “Der isolierte Staat in Beziehung auf Landwirtschaft und Nationalökonomie”,
known as “The Isolated State”, Part I (Hamburg, Perthes). A second revised and improved edition
of this Part I appeared 1842 (facsimile edition, among others, in 1986 edited by Horst C.
Recktenwald, Düsseldorf, Verlag Wirtschaft und Finanzen). Part II, section 1 “Der naturgemäße
Arbeitslohn und dessen Verhältnis zum Zinsfuß und zur Landrente” appeared 1850 (Rostock). The
second edition of Part I (1842) together with Part II/1 (1850) is known as the “real” second edition
of “The Isolated State”, the last edition personally supervised by the author. This second edition
was newly edited by Heinrich Waentig in 1910 (1. Repr.), 1921 (2. Repr.), 1930 (3. Repr., Jena,
Fischer), 1966 (4. Repr., Stuttgart, Fischer; in this paper referred as “von Thünen
1966a ”), von
Thünen (
1990 ) (5. Repr., Aalen, Scientia). Section 2 of Part II and Part III “Grundsätze zur
Bestimmung der Bodenrente, der vorteilhaftesten Umstriebszeit und des Wertes der Holzbestände
von verschiedenem Alter für Kieferwaldungen” were published in 1863 (Rostock). The fi rst time
that all the three parts were published together in one book was in 1875, the so-called third edition
of “The Isolated State” (Berlin: Wiegandt, Hempel & Parey; this third edition corresponds to the
fi rst complete edition). It contains 1276 pages und was prepared by Hermann Schumacher-Zarchlin,
the Thünen-biographer, who had been instructed by von Thünen’s family. This third edition was
reprinted in 1966 (Darmstadt, Wissenschaftliche Buchgesellschaft), edited by Walter Braeuer and
Eberhard E.A. Gerhardt (in this paper referred as “von Thünen
1966b ”). A shortened English
translation of extracts of “The Isolated State” was edited by Peter Hall (referred as von Thünen
1966c ) , and another translation of the text of the second part can be found 1960, in Bernard
Dempsey’s “The frontier wage; the economic organization of free agents. With the text of the
second part of The isolated state by Johann Heinrich von Thunen” (Chicago, ILL, Loyola University
Press, pp. 187–367). There is also a French translation of Part I, “Recherches sur l’infl uence que le
prix des grains, la richesse du sol et les impôts exercent sur les systèmes de culture”, by Jules
Laverrière (Paris 1851), and of Part II, sections 1 and 2, “Le salaire naturel et son rapport au taux
de l’intérêt”, by Mathieu Wolkoff (Paris 1857).
301
11 Johann Heinrich von Thünen: A Founder of Modern Economics
Context in Theory and History
Facts to the Historical Background
After Prussias defeat against France in the battle of Jena and Auerstedt on October
14th, 1806, a time of humiliation began in the east and north of Germany. Prussia
lost all its territories on the west side of the river Elbe, as a result of the peace terms
fi xed between France and Russia in Tilsit in 1807. After Napoleon’s abdictation,
Europe got reorganized following the old borders from before 1792; the relevant
resolution was passed at the congress of Vienna in 1815. Parts of Saxony and wide
areas of the upper-Rhine region were given to Prussia and it also took Habsburg’s
place as the direct neighbour and main enemy of France on the river Rhine. Prussia
and Austria formed the main body of Central Europe.
In the individual states of Germany, nationalism became widespread and a unifi ed,
free and independent Germany was declared. However, these efforts of people
vanished increasingly the more Prussia and Austria returned to absolutism, accom-
panied by censorship and political persecution. But at least it was a period of peace,
and Germany entered into a phase which later was named the “Biedermeier period”
characterized by attributes like pernickety, small-mindedness, well-ordered structures,
thriftiness, liking for neatness and tidiness. But the appearances of peace and calm
were deceptive and became interrupted by rebellious movements caused by an
under-supply of food in the face of a rapid increase in population. Many individuals
of the rural population found no work and moved to the cities, enhancing the num-
ber of slum inhabitants. Through reforms in agriculture, trade and taxes were
intended to modernize the economy; they were too costly and so the tension between
people and the Prussian offi cial state came to a critical point.
Being afraid of a “French revolution on German soil” the Prussian government
reinforced censorship and other devices of a police state. For an open revolt, the
political and social unrest had only to be completed by an economic crisis – state
crises had already taken place in 1813, 1817 and 1830, where problems in foreign
affairs met economic under-supply – which was followed promptly in 1847/1848 by
a severe famine and business crisis owing to a crop failure and a collapse in the
consumer goods industry. On February 24th, 1848, King Louis Philippe was ousted
from offi ce in Paris and his throne was burnt on the place of the Bastille. In face of
the political tensions in Germany, these occurances in Paris triggered off a wave of
unrest and disturbances (Nipperdey
1998 , p. 595). In Germany, on March 24th,
1848, the Schleswig-Holstein estates proclaimed their independency from Denmark
and formed a provisional government; British warships demonstrated on the German
North Sea coast; Russian armed forces marched to the border of East Prussia; there
were revolts in Berlin, Munich and Vienna. On May 18th, 1848, 585 representatives
of the German people met to form the German National Assembly in the Paulus-
church, Frankfurt am Main. As already mentioned, von Thünen declined a seat in
this National Assembly for reasons of health.
302 H. Frambach
In those times, nearly half of the estates changed their proprietors (from the
1820s till 1850; by the 1870s it was more than two thirds; Nipperdey (
1998 ) , p. 162)
von Thünen extended his property to a model-estate.
Theoretical Context
There are many theoretical infl uences which had an impact on von Thünen’s think-
ing and writings. First of all, von Thünen can be perceived as a classical economist,
who was strongly infl uenced by the works of Adam Smith. von Thünen was intro-
duced to Smith’s writings through the lectures he took at Georg Sartorius Freiherr
von Waltershausen in Göttingen. Sartorius von Waltershausen held a chair for con-
stitutional economics and politics (Staatswissenschaften und Politik) and stood
completely in the tradition of Adam Smith in his economic writings. Another impor-
tant teacher of von Thünens’ was Albrecht von Thaer (1752–1870) in Celle, the
intellelectual ancestor and famous representative of agricultural sciences, an advo-
cate of English classical economy who based some of his economic concepts on
Smith. von Thünen was also familiar with other classical writers like David Ricardo
(1772–1823) or Jean Baptiste Say (1767–1832). Of course, von Thünen knew the
German members of classical economy Friedrich Julius Heinrich Reichsgraf von
Soden (1754–1831), Ludwig Heinrich von Jakob (1759–1827), Karl Heinrich Rau
(1792–1870), Friedrich Benedikt Wilhelm von Hermann (1795–1868) and Hans
Karl Emil von Mangoldt (1824–1868) who were, in essence, shaped by Smith, but
had not managed to add their own original ideas to classical economy. The funda-
mental classical idea that the action of each individual increases both the individu-
al’s utility and the welfare of the whole, was shared by all of these authors.
Although von Thünen absorbed the writings of especially the French and English
classical economists, he also adopted a critical position to these. von Thünen criticizes
Smith, for example, in equating the interests of capital with the profi t of an entrepre-
neur, in the insuffi cient treatment of the connection of wages and interest rates, and in
the unsatisfying estimation of the nature of the right and natural wage (von Thünen
1966a , pp. 459–62, 478–80). von Thaer was criticized by von Thünen’s empirical
agricultural studies in showing that under certain conditions, the three-course system
can be of economic advantage over the crop-rotation system (von Thünen
1966a ,
pp. 362–6). Above all, von Thünen showed that the market prices of agricultural
products were independent of the cultivation form. He also argued against Ricardo
and other classical economists in justifying wages on subsistence level. Like Thomas
Malthus, von Thünen warned against unrestrained increase in population, but at the
same time he saw hope for a solution in a better school education and the curbing of
the human passions (causes which, by the way, prevent making economics absolute)
(Engelhardt
1993a , pp. 465–6; von Thünen 1966a , pp. 441–4).
Liberalism, in its version of classical economy, rigorously trusts in the autonomous
and independent acting of individuals, whereas the role of society and government
is secondary. von Thünen differed strictly on this point. Since his apprenticeship in
303
11 Johann Heinrich von Thünen: A Founder of Modern Economics
farming he had been involved in the “social question” and this in a practical and
theoretical sense. In dealing with the social question, he could not deny the infl u-
ences of German education and the spirit of the age. As theoretical background
information we have to recognize the distinction of two main philosophical schools
of thought within the continental countries, decisive for the further development of
economics: On the one hand, the direction thinking that the economic life of a soci-
ety follows some kind of natural law. Following this line, individuals are governed
by egoism as the only relevant motive for their economic activities. The economic
representative is classical economics based on the doctrine of natural law, especially
the Scottish moral philosophy. On the other hand, we fi nd the opinion that economy
is not only guided through egoistically motivated individuals. Far from it, laws
which base human action solely on egoism are evaluated as one-sided and wrong.
This direction corresponds to the romantic-ethical school of economics coming out of
the ethics of Immanuel Kant (1724–1804) and its successors, the (German) idealistic
philosophy with representatives such as Johann Gottlieb Fichte (1762–1814) and
Georg Friedrich Wilhelm Hegel (1770–1831), followed by economists like Adam Müller
(1779–1854), Franz von Baader (1765–1841), and Friedrich List (1789–1846).
The romantic–ethical direction stresses the importance of cultural and moral
aspects, even for economic life. von Thünen undoubtedly combined both directions
and took up a position somewhere in between, and in this respect we can follow
Hesse (
1933 , p. 172) in pointing out that von Thünen was neither a romanticist nor a
rationalist, he was rather of the opinion that people reach freedom if they renounce
following their own egoistic interests and pursue the welfare of society. People have
to set voluntary limitations to come to deeper insights of their higher fate. The restric-
tion of egoism as a kind of a benevolent egoism is a frequently emerging idea in von
Thünen’s “Isolated State” (von Thünen
1966a , pp. 193 ( 1966c , p. 119), 252, 435–50,
471–2, 513;
1966b , [Part II, sec. 2] pp. 1–14). Of course, the infl uence of the reading
of Kant in particular is undeniable. Kant’s “Critique of Pure Reason” (Kritik der
reinen Vernunft), studied by von Thünen during his time in Göttingen, have had a
lasting impact on his thinking (Lüpkes
1992 , p. 13). von Thünen’s idea of such
benevolent egoism appeared in the several social actions he put into practice at
Tellow, to support people to act frankly and liberally. For this, he made many attempts
to bring people to be diligent, sparing, and to help them to help themselves.
In von Thünen’s thinking, we discern the optimistic metaphor of Gottfried
Wilhelm Leibniz’s (1646–1716) “prästabilierter” harmony as used by Adam Smith
combined with Kant’s categorical imperative: The interests of the individual are
associated with the welfare of the whole. The single individual suffers because of
the incorrect action of others. Therefore, it is of great importance for each individual
and the society as a whole to come to an understanding of what is right and honest
(von Thünen
1966b , [Part II, sec. 2] p. 8).
The happiness of one person is combined with the happiness of all, and for that
reason it turns to one’s life’s work:
to develop and study the own strength in contributing to the enlightening and delight of the
others.
304 H. Frambach
By sacrifi cing one’s subjective interest for the interest of mankind the miraculously
resulting increase in welfare will lead to a benefi cial reciprocal effect on the
individual, and there is no need for another moral principle than this:
Behave in the way, which will be of benefi t for you if all the others would behave in exactly
the same way, and be willing to sacrifi ce in the performance of this principle even when the
others disobey.
(von Thünen
1966b , [Part II, sec 2] p. 13 [transl. H.F.; indents as in the original])
3
A third direction of infl uence can be recognized in von Thünen’s engagement in the
thinking and writings of socialists. Because of the aggravating social situation of
workers and rural population, socialist ideas became more and more widespread.
Simonde de Sismondi (1773–1842) played a special role. Coming from classical
economy and the economics of Adam Smith in particular, Sismondi developed a
class theory containing the thesis that competition does not lead to harmony but to
the concentration of industrial power. The French movement of cooperative social-
ism reached its peak. Charles Fourier (1772–1837) developed the idea of the “phal-
anstères”, of the productive-cooperatives, and of the “right of labour”. Fourier’s
pupils Victor Considérant (1808–1893) and Louis Blanc (1811–1882) continued his
ideas. Blanc, incidentally, was the founder of a socialist party in France and also
member of the revolutionary government of 1848. Another socialist determining the
character of socialist contemporary thinking in the fi rst half of nineteenth century
was Pierre Joseph Proudhon (1809–1865). In the competition principle, he saw the
causes of all the societal confl icts and contradictions. Proudhon wanted to stop the
exploitation of the workers and to improve their material situation.
The improvement of workers’ material conditions as an aim of theoretical and
practical activities was shared by von Thünen as well. In addition to that, von Thünen
considered it a moral commitment of the rich to relieve the poverty and hardship of
the poor (von Thünen
1966a , p. 578). Since his youth von Thünen was interested in
such problems and the central question of “The Isolated State” is to ask for a law
under which the return of labour is distributed between workers, capitalists, and land-
owners (von Thünen
1966a , e.g. p. 435). The appearance of “Der Sozialismus und
Kommunismus des heutigen Frankreichs” in 1842 had a lasting infl uence on von
Thünen’s social convictions. This infl uential book by Lorenz von Stein (1815–1890)
led von Thünen to do an intensive examination of the so-called “social question”,
3
Das Glück des Einzelnen ist also an das Glück Aller geknüpft, und dadurch wird es zur Aufgabe
des Lebens:
an der Aufklärung und Beglückung Anderer seine eigenen Kräfte zu entwickeln und auszu-
bilden. Indem der Mensch sein persönliches Interesse dem Interesse der Menschheit zum
Opfer bringt, fällt durch eine wunderbare Verkettung die Erhöhung des Wohls der Gesammtheit
wohlthätig auf ihn zurück, und er bedarf keines anderen Moralprincips als dieses:
Thue das, was dir, wenn alle Anderen ebenso handeln, zum Heil gereichen würde, und
bringe willig die Opfer, die dies Princip fordert, wenn Andere dasselbe nicht befolgen.
(von Thünen
1966b , [Part II, sec. 2] p. 13; indents as in the original)
305
11 Johann Heinrich von Thünen: A Founder of Modern Economics
the misery and poverty of many of the working people (Vleugels 1941 , p. 344).
4
von Thünen had active correspondence about political ideas and problems of farming
with Karl Rodbertus-Jagetzow (1805–1875), who was a pomeranian landowner,
temporarily Prussian minister for education and cultural affairs, and alongside
Wilhelm Weitling (1808–1871) and Ferdinand Lasalle (1825–1864) the most famous
German utopian socialist. Rodbertus drew up the thesis that the relative part of the
returns which the worker is entitled to, the wage rate, decreases with increasing
returns. As a result of this and because of the compulsion to accept every wage rate,
the worker will only receive the subsistence level.
To be sure, von Thünen was neither a socialist nor an utopian dreamer. He was a
pragmatist, sympathetic towards socialist ideas and ideals, conceiving them as an
expression of a rather respectable conviction than plans suitable to be brought into
action in real life (von Thünen
1951 , pp. 205–13; 1966a , pp. 577–8, 582–4).
Another scientifi c direction having an impact on von Thünen has to be mentioned:
the German variant of mercantilism, the cameralistic sciences (“Kameralismus”).
Especially the economic historians Hoffmann (
1950 ) , Henning ( 1972 ) and Pruns
(
1995 ) are concerned with some aspects reconciling cameralistic sciences with von
Thünens approach (for a survey, see Engelhardt
1999 , pp. 104 – 9). von Thünen took
a look at the thinking of mercantilism probably at Johann Beckmann, a professor for
agricultural sciences and “Kameralistik” in Göttingen.
Even though representatives of cameralistic sciences are not to be found in von
Thünen’s writings, some overlappings of a general methodological kind are remark-
able: Neither cameralistic scientists nor von Thünen raised the development of theo-
ries excessively; scientifi c discoveries come out of experience. Agreement with von
Thünen can also be seen in the registration of statistical data the way, for example,
Wilhelm von Schröder (1640 – 1688) claimed in 1686 in his book “Fürstliche Schatz-
und Rentenkammer”. Georg Heinrich Zincke (1692 – 1769), known as the founder of
business management, emphasized in his “Grundriß einer Einleitung in die
Kameralwissenschaften” (1742) the problem of profi tability for accountancy, a
topic which also was of great importance to von Thünen. Further on, a parallel can
be drawn between von Thünen and Johann Heinrich Gottlob von Justi (1720 – 1771).
They both made statements on the problem of the arrangements of agricultural pro-
duction under consideration of distances and transport costs. von Justi mainly pur-
sued the supply of the town and the formation of prices, whereas it was the
profi tability of agricultural production under the viewpoint of profi t maximization
and also the application of mathematic tools that mattered to von Thünen (Hoffmann
1950 , pp. 32 – 22). Finally, von Thünen was fully aware of the time he lived in. This
includes the awareness of states, the economic policy of which had already passed
through the period of late mercantilism. Even until the mid-nineteenth century,
many European states and in particular Mecklenburg were infl uenced by traces of
absolutist and mercantilist principles (Pruns
1995 , p. 205).
4
Von Thünen about von Stein’s book: “I hardly know another book which I have read with a greater
interest and from which I have learnt more than from this one”. [Ich kenne fast kein Buch, das ich
mit solchem Interesse gelesen, und aus dem ich soviel gelernt hätte, wie aus diesem.] (Schumacher-
Zarchlin 1883, p. 219).
306 H. Frambach
Summary of Main Contributions
In the fi eld of economics, two salient points have to be especially mentioned, which
are irrevocably intertwined with the name of Johann Heinrich von Thünen: the
“Thünen-rings” and the wage and capital theory, including the famous natural wage
formula and the application of differential calculus to economics.
The “Thünen Rings”
Von Thünen starts unfolding the assumptions of his model: Only one town situated
in the centre of a fertile plain with no navigable river or canal to transport goods. At
a great distance from this “central-city”, the isolated state, the plain ends in an uncul-
tivated wilderness. All the manufactured articles are produced only in this centre and
the urban population is provided with food by the agricultural production occurring
in the non-urban part of the plain. Ore mines and salt works are assumed to be
situated right next to the central city (von Thünen
1966c , p. 7). In microeconomics
and the location theory especially these assumptions are described as homogeneity
of land, which means uniform fertility and uniform transport plain, uniform production
costs, infi nite elasticity of demand, a single market centre at which all crops are sold
and to which they must be transported, the yield per acre of a certain crop depends
on its demand price at the market, the production costs, the distance, respectively, the
transport costs between market and place of cultivation (Stevens
1995 , p. 17).
The general question is, what form of agricultural production will have the best
results under these conditions, and especially, what is the impact on effi ciently driven
agriculture, when changing the distance to the centre (von Thünen
1966c , p. 8)? von
Thünen explains that around the central town, agricultural production will take place
in the form of concentric rings.
5
Close to the city, crops will be grown which are very
expensive to transport, which are highly perishable or – taking the high price of land
near the town into account – which can be cultivated very intensively, that is, cost-
saving. That means, within the fi rst ring, “the market will be preempted by crops that
are capable of achieving the greatest reductions in total costs per unit of output as a
result of intensive cultivation, and which therefore produce the highest ground rent by
virtue of their particular location” (Blaug
1996 , p. 598). Within the most distant ring,
cattle breeding is dominant because here, far away from the central town, the cultiva-
tion of crops like rye, even when using the three-course system, will be too costly
under consideration of the transport costs. Thus, von Thünen derives the general rule
that with increasing distance from the central town (movement to the remote rings),
5
In “The Isolated State” six rings are expounded (square brackets indicate Peter Hall’s translation, see
glossary, pp. xlix–liv): (1) the central city, called as “free economy” with horticulture and dairying
[free cash cropping], (2) forestry, (3) advanced crop rotation sytem, perhaps best described as intensive
arable rotation [crop alternation system], von Thünen (
1966c ), (4) a less advanced crop rotation system
including pastoral farming [improved system], (5) three-fi eld system, (6) cattle breeding [stock farm-
ing]; beyond the margin of cultivation is a wilderness inhabited only by hunters.
307
11 Johann Heinrich von Thünen: A Founder of Modern Economics
the intensity of agricultural production declines, which means a movement from
different forms of the crop rotation system
6
to the three-course system to cattle breed-
ing (von Thünen
1966c , e.g. pp. 157 – 8).
To be sure, out of the isolated state model and under certain conditions, every
agricultural production method has its own advantages which makes it impossible
to say that von Thünen has favoured the crop rotation system in general, on the
contrary, he neglected von Thaer’s general principle of the absolute superiority of
the English crop rotation system over the three-fi eld system by his “proof of the
relative excellence of agricultural production systems” (Nachweis der relativen
Vorzüglichkeit der Wirtschaftssysteme) (Hesse
1933 , p. 173).
However, back to the isolated state and considering the transport costs as the deci-
sive variable determining the value, the price, of an agricultural product, von Thünen
states that transport costs will increase with greater distance from the central town and
for that reason the product value will decrease (von Thünen
1966c , pp. 24, 31).
7
Following the fundamental principle that higher transport costs can be offset by lower
rents (Morrill and Symons
1977 , p. 218), the impact of a change in the price of grain in
the form of agricultural production can be expressed in terms of land rent (the land rent
equals the income from the sale of a product minus the costs of planting, cultivating,
bringing in harvest (von Thünen
1966a , e.g. pp. 36, 41 – 3 ( 1966c , pp. 27 – 30)).
8
Starting
with a high price of grain, its reduction will cause a fall in the land rent, and from a
certain point the crop alternation system with a high intensity, for example, an eleven-
or seven-period rotation, becomes unprofi table and has to be substituted by an alterna-
tion system of perhaps seven or six periods. Another change of production form –
to the three-fi eld system – takes place as the result of an additional price reduction.
If the price of grain falls further, a level will be reached where even the three-course
6
Von Thünen discussed the crop rotation system, or more exactly speaking: the improved
English system of crop rotation, in many variations, from a six-period to the twelve-period
alternation system. In comparism to the three-course system von Thünen favoured the seven-
period alternation system, containing the rotation of cereal crops, root crops and short grasses
(von Thünen
1966a , pp. 169–75). The three-course system was most widespread in Mecklenburg.
In October, rye and wheat were planted, in the following year the winter grain was brought to
harvest and the land was ploughed. Then oats and barley were cultivated and brought to harvest
in August. From this time the land lay fallow until the next June. In the advancing nineteenth
century the “Holstein paddock system”, a special variant of the crop rotation system, was often
to be seen in Mecklenburg. The number of rotations in the crop rotation system depends on an
economy’s size and the quality of land. For example, the eleven-period alternation system:
(1) fallow land (fertilized), (2) winter grain, (3) summer grain, (4) winter grain, (5) summer grain,
(6) winter grain (fertilized), (7–11) pastureland (Honcamp
1933 , pp. 66–9).
7
“The essence of von Thünen’s complaint against Ricardo, in modern language, is that Ricardo
developed his theory of rent in terms of an undifferentiated agricultural product. Von Thünen’s
great achievement was to point out that transport costs were the cause, and the rents the conse-
quence, of important differentiations of agricultural, dairy, and forest production, according to
distance from the market” (Clark
1967 , pp. 370–1).
8
In other words and referring to Ricardo: “the land rent is the amount of money the land-owner
receives for using the original and indestructible forces of his land” (von Thünen
1966a , p. 28;
transl. H.F.). Referring to the translation in Peter Hall’s edition: “Rent is that portion of the produce
of the earth, which is paid the landlord for the use of the original and indestructible powers of the
soil”. (von Thünen
1966c , p. 22).
308 H. Frambach
system is too expensive. And thus we come to a price level too high to use the land for
grain production (von Thünen
1966c , pp. 226 – 7). As a general result, it can be sum-
marized that the form of agricultural production depends on the product prices and on
the production costs (including the transport costs).
Holding the price of grain constant, the transportation costs (or, depending on the
model, the price of labour or capital) are very low within the fi rst ring and extremely
high in the remotest ring; conversely, the land rent is maximum in the fi rst ring and
converging to zero at the outermost frontier of the isolated state (because costs are
too high to transport the grain to the city and thus no sale and no income can be
achived: the land rent is zero).
With regard to its practical application, many of the discoveries von Thünen made
have become outdated as a result of secular change. The fundamental concept of the
“Thünen-rings” has lost its practical meaning for agriculture. His theory of locality
for urban areas, for example, can hardly be taken into account in contemporary eco-
nomics (Stamer
1995 , p. 50). Forestry, the second of the rings, is of no interest
because the demand for fi rewood has vanished and the yields of wood remained on a
comparatively low level (p. 53). The three-course system has absolutely no impor-
tance for modern agriculture after the use of fertilizers, and contemporary systems of
crop rotation are completely different from those of von Thünen’s days (pp. 54–5).
Wage and Capital Theory
Von Thünens theory is perceived as one of general equilibrium (Samuelson 1983 ,
p. 1482) because after Cournot, von Thünen was the fi rst who realized the interde-
pendency of all economic variables and the necessity of its representation in a sys-
tem of equations (Schumpeter
1967 , p. 467). He also developed marginal productivity
theory explaining the relationship between capital and labour, rents and wages.
Capital is described as dead and as incapable of producing anything without the
forces of labour; but on the other hand, it is impossible to provide people with
clothes, food, tools, etc. without using capital. Consequently, “the product of labour
p is (defi ned as; H.F.) the joint product of capital and labour” (von Thünen
1966a ,
584).
9
The central question is: How can the contribution of every single factor to the
joint production be evaluated (varying labour while capital and land is kept con-
stant; varying capital while keeping the other factors constant)? von Thünen answers
using the instruments of differential calculus:
The signifi cance of capital we have measured by the increase in the product of the labor of
a man which results from an increase in the capital with which he works. Here labor is a
constant, capital a varying magnitude.
When, on the other hand, we consider capital as remaining constant and the number of
workers as varying, we realize in a large business that the signifi cance of labor and the share
of labor in the product are determined by the increase in the product which results from the
addition of another laborer.
9
“The capital is the product of labour” (von Thünen 1966a , p. 591).
309
11 Johann Heinrich von Thünen: A Founder of Modern Economics
(von Thünen
1966a , p. 584, cit. from Samuelson 1983 , p. 1469, who refers to an transl.
in Paul H. Douglas, 1934, Theory of wages, New York: Macmillan)
By the way, Paul Samuelson states that if von Thünen had only written these lines
he “would merit fi rst-rank name in the annals of economic theory” (Samuelson
1983 , p. 1469).
Von Thünen (
1966a , pp. 544–52) goes on deriving his famous formula of natural
wage rate. I am following Schumpeter’s often cited short-version interpretion
(Schumpeter
1967 , p. 467) deviating only in some aspects:
Considering only one period
p Denotes the labour product of the workers (dollar value of the national
net product)
w Wage sum workers receive (total pay roll); w = a + y , a is that part of the
wage sum the workers need for consumption. In a broad interpretation, it
corresponds to a subsistence wage at a rate where labour will be rewarded
in accordance with its marginal productivity. y denotes that part of the wage
sum exceeding the subsistence level (y = w − a) . Assuming that production
costs are only represented by the wages, y can be interpreted as the amount
being invested in the period assuming that a is constant
p-w Total profi t of employing the workers
(p-w)/w Profi t rate (or interest rate)
It follows that the investment of (w-a) will bear (p-w)/w interest. Maximizing the
investments of the period means to maximize (w-a)(p-w)/w referring to w . The fi rst
order condition is fulfi lled when
= ,wap
this is the famous von Thünen formula of “natural wage” (e.g. von Thünen
1966a ,
p. 596;
1966c , pp. 251–3).
10
The formula expresses the identity of the natural wage rate to the geometric
mean of subsistence level (a) and the product of labour (p) . In accordance with the
formula, the worker does not receive the full amount of his labour product, but a part
which exceeds the subsistence level in any case.
11
Because the natural wage rate (w)
exceeds the subsistence level (a) in the same way as the product of labour (p) exceeds
the wage (w) ,
12
von Thünen interpreted the wage rate (w) as natural and just, and
concluded that studying this question of natural wage intensively, one is lead
1 0
The term “natural wage” or “natural wage rate” should not be confused with the same term of
classical economists. Natural wage in classical economy corresponds roughly to von Thünen’s part
of the wage rate the worker needs for consumption, the subsistence level (a) .
1 1
ap
> a , accepting that only p > a is of economic sense. If we consider only the worker (and not his
family) and perceiving the subsistence level (a) as the marginal product of labour, the formula shows the
natural wage rate as the geometric mean of marginal product (a) and average product of labour (p) .
1 2
w > a ⇔ p > w ( w =
ap
⇔ p = w
2
/a ; w
2
/a > w ⇔ w > a ).
310 H. Frambach
“directly to the question about human fate” (von Thünen 1966a , p. 583). Therefore,
the natural wage rate should not only follow the interplay of supply and demand, or
the subsistence level, but should be taken as the expression of “free self-determination”
of workers. von Thünen could not agree to calling the bare means of subsistence
natural wage. It seemed inconceivable to him to explain wages solely upon Ricardo’s
thesis of subsistence level (Moore 1992b , p. 35; Winkel 1983 , p. 554). He spoke of
a degrading situation of the worker and rejected the determination of natural wage
at the subsistence level as a result of competition (von Thünen
1966a , pp. 435–7,
450, 522–3, 582–3).
A wage rate below
ap
is regarded as unjust to the workers, and a rate above
as unjust to the capital owners (von Thünen
1966a , pp. 594–6 ( 1966c , p. 252);
Diehl and Mombert
1911a , pp. 2–3). In this respect, von Thünen contradicted clas-
sical wage theory which assumed wages were a result of demand and supply. He
considered competition between demand and supply of labour nothing more than
a manifestation of a real situation, a certain wage rate, but not as an explanation
(von Thünen
1966a , pp. 435–6). Even beyond the marginal productivity theory
of the following neoclassical economics, von Thünen stated a realization of
joining the interests of capital owners and workers when paying wages in accor-
dance with the natural wage formula. In doing so the workers automatically receive
a share of the labour product, and in so far it agrees with Moore (
1992b , p. 35), that
the “The fundamental idea in the formula
ap
is that wages must vary with the
product”.
More generally, von Thünen differed from classical economic theory in some
fundamental points (although sharing many of its essential features such as, for
instance, Ricardo’s theory of land rent).
13
The characteristic features of the clas-
sical theory of natural wages can be summarized as “(1) labour was treated
throughout as a mere commodity; (2) natural wages were defi ned without refer-
ence to equity, the operation of natural law being the main fact considered; (3)
natural wages were defi ned without reference to the product of labour. The
requirements of the labourer as limited by his surroundings were regarded as
determining his natural earnings” (Moore
1992a , pp. 2–3). “He was profoundly
convinced of the evils resulting for the labouring class in consequence of the pre-
vailing theory” (p. 3).
The formula is subject to strict assumptions, for example, p and a being treated as
constants, but about which von Thünen was aware. Because of these assumptions, he
was criticized by Samuelson speaking of “Thünen’s major felony … a crime against
normative economics, and against the positivistic economics of competitive
behaviour under laissez faire. He compounded this felony by a major misdemeanour,
which is a crime against logic” (Samuelson
1983 , p. 1483). Already Roscher
1 3
Taking the stock rent into account, von Thünen’s rent theory is much more complete than
Ricardo’s explanation. Furthermore, Ricardo deduces conclusion from axioms without examining
its meaning in reality. von Thünen, on the other hand, underpins his assumptions and discoveries
by self-collected data (Winkel
1983 , p. 550).
311
11 Johann Heinrich von Thünen: A Founder of Modern Economics
criticized the payment arising from a strict relationship between a and p
(Roscher
1874a , pp. 382–3, fn. 10; 1874b , pp. 895–7). Schumpeter was much
more generous, asserting that von Thünen’s unrealistic assumptions should not be
taken as reason to declare his argument as wrong (Schumpeter
1967 , pp. 467–8).
Taking all the imperfections into account, the explanations about natural wages
show many social features.
However, von Thünen’s formula of natural wage gave scientifi c circles cause
for extensive and sometimes excessive discussions (see, e.g. Engelhardt
1993b ,
pp. 27–28; Moore
1992b ) , and von Thünen himself was so convinced about the
formula that it was engraved on his tombstone.
Salient Points Covering the Whole Range of Contributions
Most generally von Thünen’s contributions may be best classifi ed following Asmus
Petersen (
1944 ) , the most important von Thünen researcher of the twentieth century
(Folkers
1951 , p. 74), into technical, economic and social achievements. For our
purpose, distinction in more detail seems advantageous, including, for example, a
short section concerning the contribution to business administration.
Contribution to Economic Method
It must be mentioned that perhaps the most fundamental scientifi c principle of von
Thünen’s thinking was that experience and theory have to go hand-in-hand
absolutely: “…our German scholars consider the study of sciences only for its own
purpose not being interested in its application” (von Thünen, letter to Prof. Röper,
from 25.2.1841, cit. from Schumacher-Zarchlin
1883 , p. 209). von Thünen broke
new ground in methodology, introducing partial analysis into economic theory. He
analysed the impact of a certain variable keeping all other factors constant and this
with regard to both the impact on one fi rm and on the fi rms in total. Thus, von
Thünen is a forerunner of partial analysis, more exactly speaking: using the ceteris
paribus condition, he applied partial analysis as an instrument of economic theory
(e.g. von Thünen
1966a , p. 586). Furthermore, von Thünen formulated the principle
of marginal analysis and he anticipated fundamental parts of the following marginal
productivity theory. For example, using comparative static analysis, von Thünen
gave insights into the allocation process between quantities and prices of outputs
and inputs and how they are infl uenced by technological advances or the change of,
for instance, taxes and fees. The determination of differential rent in dependency of
“marginal land” (rent differs with the distance of the location of production to the
market), the determination of the wage rate following the marginal productivity of
the last employed worker, of the capital rent depending on the last invested unit
of capital, etc. are discoveries which preceded the state of knowledge in economic
312 H. Frambach
theory of the time by a long way (Diehl and Mombert 1911b , pp. 12–3; Winkel
1983 , pp. 550–1).
Analogous to the mathematically abstract way of thinking of modern economists,
he supports the “abstract-isolated method”, a kind of fusion between inductive and
deductive method, which is intended to fi lter-out the essence, the main structures,
from the complexity of the real world’s economic relationships, but always beginning
from an empirically founded data base (Hesse 1933 , p. 179). The famous represen-
tative of the German historical school , Wilhelm Roscher, called von Thünen the
fi rst German economist of an “exact” trend in German economics (Roscher
1874a ,
p. 881), applying mathematics and abstract-deductive method as instruments of
economic theory (pp. 882–6). von Thünen (
1966c , e.g. p. 175) was fully conscious
about the fact that this method is accompanied by a loss of many facts of reality and
thus, he never was subjected to the fallacy that his isolated state becomes a reality.
He also realized the “deterrent effect” on the reader of “Isolated State”, begging him
to keep going, even when the assumptions of the model deviate strongly from reality.
Such assumptions are necessary to explain the effects of certain variables which
themselves are unclear in reality because of their dependency of many other variables
(von Thünen
1966c , pp. 3–4).
von Thünen was one of the fi rst economists who understood the quantitative
character of economic theory and introduced mathematics as an instrumental aid
for economic analysis (“…the application of mathematics must be allowed, where
truth is impossible to fi nd without it” [von Thünen
1966a , 569]); furthermore, he
tested his theoretically derived results on the basis of self-collected data and thus
he can be perceived as an early precursor of econometrics (von Böventer 1985, p. 9;
Krelle
1987 , p. 5). The application of marginal analysis, especially for the determi-
nation of the amount of wages and the amount of the rate of interest under condi-
tions of competition is to be seen as an outstanding contribution to the introduction
of marginal analysis as a fundamental instrument of modern economic theory
(Schneider
1934 , p. 10). But behind von Thünen’s thinking there always stood one
general question: What is the law which naturally determines the distribution of
the return of labour between workers, capitalists and landowners? (von Thünen
1966a , p. 435 ( 1966c , p. 248)).
Contribution to Wage and Capital Theory
Von Thünen began his refl ections on the price of labour, stating it as a problem that
wages are only of very small amount in relation to the incomes of capital and land.
The main reason is that the owners of capital and land appropriate the greatest parts
of the value produced by the labourers. Taking this into consideration, von Thünen
tried to fi nd a law about the natural, that means, just or equitable distribution of the
products of labour between workers, capitalists and land owners. Thus, distribution
is both an economic problem and a problem of categories as ethics, morality and
duty. von Thünen complained about classical economists’ explanation of wages,
313
11 Johann Heinrich von Thünen: A Founder of Modern Economics
which is based solely on the principle of competition, or the forces of demand and
supply. von Thünen referred to
ap
as the fundamental contribution to distribution
and participation. The natural wage rate exceeds the subsistence wage rate and
increases with the product of labour. Consequently, the worker participates in the
changing/augmenting value of his own labour product.
Taking into account von Thünen’s doubts about the rigorousity of the intransi-
gent laws of the market, he nevertheless was one of the most important and brilliant
theoreticians who himself introduced marginal productivity theory to economics.
He stated very clearly the distribution of the product of the factor production between
workers and capital owners, following the laws of the marginal productivity of the
factors (von Thünen
1966a , pp. 594–6 ( 1966c , p. 252)), coming straight to results
which John Bates Clark described almost 50 years later. von Thünen anticipated the
idea of general equilibrium as a paradigm and as an approach paving the way for a
theoretical solution to economic problems using mathematical method even in the
sense of analyzing interdependency of economic factors (Engelhardt
1953 , p. 150;
Krelle
1987 , p. 5).
Social Contribution
The formula of natural wage can be understood as an ethical demand. von Thünen
was conscious that the fate of millions of individuals depends on the question of
determining wages. In Part II, sec. 1, § 2, “About the lot of workers. A dream of
serious content” (Über das Los der Arbeiter. Ein Traum ernsten Inhalts) of “Isolated
State” (von Thünen
1966a , pp. 440–7), he quoted the increase in the level of educa-
tion and culture, and the creation and expansion of people’s consciousness as the
main factors for augmenting the wage level to improve the living conditions of
people. He was impressed with a totally humanitarian attitude, advocating the per-
fecting of mankind and the development of the individual to a free, moral and
responsible personality as the primary goal. Education and material welfare formed
the basic conditions to reach this goal. Opposing forces were the inadequate pay-
ment of workers and they contemptuously held discussion of the wage question
(Engelhardt
1993b , pp. 53–55; von Thünen, letter to Christian von Buttel, 11.
Juli 1843, cit. from Schumacher-Zarchlin
1883 , p. 219; Winkel 1983 , pp. 554–5).
During von Thünen’s lifetime, the “social question” took on huge dimensions
and despite reducing it to a question of wage-level à la classical economist, von
Thünen treaded a path more complex. In addition to his version of natural wage
theory, he embedded his insights into a comprehensive humanitarian world view. In
other words, reducing von Thünen’s answer to the social question to his explana-
tions about natural wage, does not go far enough. Economics and social policy are
interrelated. von Thünen did not pursue the science of l’art pour l’art, he tried to
mediate decision logic with empirical and historical theory. Two thoughts have to be
taken into account (von Thünen
1966a , p. 583): (1) the rigorously demanded
economic acting in “Isolated State”, Part I, becomes relativized in Part II. In the
314 H. Frambach
latter part, we fi nd a lot of critical assertions against economic theory. von Thünen
turned away from a position which made economics absolute. For example, he
declared the training of attitude, mental powers etc. as a value fi n itself; (2) for von
Thünen the question of what the natural wage is had a deeper meaning: In his
opinion, the intensive study of this question must lead undoubtedly to the question
of individual destiny.
Von Thünen absolutely refused to accept a conception of man characterized by
egoism in the sense of classical economics and he claimed to tame egotistical inter-
ests (von Thünen
1966a , pp. 435–40, 513). Following the ideas to which he was
introduced by baron von Voght, von Thünen tried to curb poverty by means of “pro-
ductive care”: Instead of living in charity he offered work to unemployed people.
His social commitment to those affected by poverty, unemployment, or those
expelled from their homeland can be observed by his dedication for 30 Büdner-
families in the area of Tellow (Engelhardt
1993b , p. 60; ( 1999 , p. 111), Schumacher-
Zarchlin
1883 , pp. 124–5).
From the position of an agricultural holding’s owner, von Thünen drafted a kind
of a single-fi rm-social policy, an idea which can absolutely be understood as a
forerunner of social market economy. (Engelhardt
1999 , p. 114) For example, he
introduced the “Tellow profi t sharing model”, a measure for 21 families in Tellow
to create wealth by participation of employees in savings and share-ownership
schemes. On April 15th, 1848, von Thünen introduced the profi t-sharing principle
at Tellow estate with retroactive effect from 1 Juli 1847, based on research done on
his formula and on experiences in profi t-sharing with the governor since 1836
(Petersen
1944 , p. 18). It was the purpose of the “Tellow social model” to come to
an advantageous solution for all persons pursuing the business management objec-
tives of organization and rationalization.
Great progress was made in paying the costs of illness (a precursor of health
insurance) and implementing models of wealth participation to make provision for
estate employees’ old age. In 49 years of practising a share contract, von Thünen
was in a position to put 3,354.30 marks as capital fund at the disposal of every par-
ticipant, and this until the year 1896, which means until 46 years after his death. The
contractual partners were von Thünen on the one hand, and on the other hand agri-
cultural workers and/or their families, other villagers of Tellow such as the shepherd
and the teacher.
In the fi rst change of his will in 1845, von Thünen tried to avoid the sale of the
estate by his sons after his death. He wished to increase the welfare and the morality
of the estate employees. Each worker’s potential existing capital was treated as an
irredeemable savings deposit until his 60th year, paying 4% interest (Engelhardt
1999 , pp. 114–5).
We also have to consider different kinds of payment. Beside time–work rate and
share payment, which were absolutely customary in von Thünen’s time, he also
introduced piecework payment and bonus payment (Braeuer
1951 , p.LV). By estab-
lishing these rewarding systems, von Thünen believed in joining the interests of the
workers to the increase in production. These ideas coincided with socialist views,
but von Thünen never went so far as to demand the transfer of property and assets
315
11 Johann Heinrich von Thünen: A Founder of Modern Economics
to common property. In particular, he rejected suggestions to transfer property on
estate accomadation to day labourers or their settlement at the manor as boarders in
small units. (von Thünen
1966a , 596–602). The lecture of von Stein’s “Socialism
and Communism” (1842) in particular led von Thünen to make extended studies
regarding his wage formula. He took the socialist matter seriously without being a
socialist. Education and enlightenment of people were his proposed solutions to
improve material situation.
Contribution to Business Administration
Besides being a theoretical economist, von Thünen was a theoretical and practical
business manager preferring model-supported decision making and practising
scientifi c bookkeeping. If we recognize modern economic study of fi rm’s reference
numbers and comparism of indices of fi rm’s economic performance as a task of
accountancy, von Thünen has to be realized as a person who did so successfully
(Engelhardt
1983 , pp. 582–3). He marked the state of development in management,
in internal accountancy as well as in cost and performance accounting with respect
to its application to agriculture (Jahnke
1995 , pp. 79–82; Zeddies 1995 , p. 190);
one could call him the “founder of agricultural business management” (Hesse
1933 ,
p. 174).
A principle target of von Thünen’s, later called “Tellow bookkeeping,” was the
achievement of scientifi c knowledge (Aereboe
1933 , p. 195). He took great efforts
to obtain information about the “yields and costs of every fruit and act” as a prereq-
uisite for cost and performance-accounting serving as the basis for calculations and
entrepreneurial decision making. For example, von Thünen put a lot of time and
energy into estimating the efforts and costs of a day labourer doing different activi-
ties, of a team of horses, a team of oxen, the wear and tear of tools, agricultural
implements, maintenance of facilities, amortization of draught animals, etc. He
meticulously collected such diverse data down to the last detail. He arranged and
analysed such information, and derived his scientifi c discoveries from it. (Jahnke
1995 , pp. 180–2). This is of great importance for modern agricultural holdings in
particular, because in most cases the employees do not have the required knowledge
about how to estimate such “yields and costs” with the necessary selectivity, and
what perhaps is more important – in view of the pressure of costs in agricultural
fi rms it is too expensive to employ workers with the relevant skills (most of the fi rms
are organized as a family business).
Even on a more abstract level modern agricultural theory of business manage-
ment which perceives the fi rm as a system can learn from von Thünen that (1) the
processes in a fi rm have always to be integrated into the context of a system as a
whole, taking into account several aims and restrictions on time, energy and costs,
(2) the organization of a company always has to be fl exible with reference to the
structural conditions of a fi rm’s environment, (3) provision with relevant information
about the current situation of a fi rm as a system must be permanently available, and
316 H. Frambach
(4) the most important property is that of structural effi ciency, which means to keep
fi rm’s viability on a high level (Krüger
1995 , p. 189).
von Thünen developed many practical instructions for managing an agricultural
holding and came to fundamental insights into microeconomic principles and mac-
roeconomic processes. The “Isolated State” can be perceived as an “econometric
work in the best sense: theoretically underpined, provided with extensive empirical
data, [and] of mathematical precision” (van Suntum 1989 , p. 211; transl. H.F.).
Contribution to Spatial Economics
“The history of location theory begins with the publication of The Isolated State by
Johann Heinrich von Thünen in 1826”, the “‘father’ of the economics of space”
(Blaug
1996 , p. 597 [emphasis as in the orig]), or the founder of location theory. In
the introduction to Part II of “Isolated State” von Thünen stresses the spatial repre-
sentation of the infl uence of the corn price on farming as the starting point for the
isolated state (1966c, pp. 226–7). That means, distances from the location of pro-
duction to the place of selling, the market, can be understood as transport costs
which, transformed into categories of prices and price structures, lead to different
levels of production, intensity of cultivation and also to certain ways of using the
land considered to be an homogeneous expanse. From these considerations, he came
to the famous “Thünen-rings” which contributed to his good reputation and served
to secure his important position within the History of Economic Thought. The
“Thünen-rings” show very obviously the interrelation between good prices and the
use of production factors (von Böventer
1985 , pp. 12–3).
Contribution to Agriculture
Von Thünen experimented on methods of cultivating different arable crops and on
methods of how to use (natural) fertilizers, he tried to change the condition of the
soil putting mud on dry meadows, sand and marl on bog soil, experimented with
crossing in sheep breeding (Braeuer
1951 , pp.LIV-LVIII; see also, Schumacher-
Zarchlin
1883 , pp. 122–3, 125). Concerning the introduction and improvements of
agricultural machines and implements into Mecklenburg’s agriculture, von Thünen
published seven articles in the “Neue Annales der Mecklenburgischen
Landwirtschafts-Gesellschaft”. He dealt with the improvement of the hook and/or
its substitution for the plough. At Tellow, he tested and compared different kinds of
ploughs and commended the Mecklenburg hook against the ploughs of Small and
Baley even accepting some disadvantages of this “farm implement, only for dig-
ging” (Petersen
1944 , pp. 13–4). In 1834, von Thünen invented the hook-plough
which was named after him. The Thünen-hook-plough made topsoil as well as the
normal Mecklenburg plough and was easier to pull; furthermore, it enabled the
317
11 Johann Heinrich von Thünen: A Founder of Modern Economics
farmer to make a deeper furrow (at Tellow the topsoil was deepened from 4.5 to
6–7 in.). The hook-plough also came into operation at Tellow’s neighbouring estates.
In the end, the hook-plough (as other inventions of von Thünen) had become out-
dated as a result of the technical development of the plough (Petersen
1944 , p. 14).
Contribution from the Point of View of Modern Theory
Von Thünen is regarded as one of the greatest economists. Among other scientists
Edwin von Böventer called him the greatest of all the German economists and one
of the greatest among all nations (von Böventer
1985 , pp. 17); Wilhelm Krelle
speaks of one of the greatest of the economic disciplines who we have to thank for
brillant inventions (Krelle
1987 , p. 5); Paul Samuelson placed him “in the Pantheon
with Léon Walras, John Stuart Mill, and of Adam Smith” (Samuelson
1983 , p. 1482)
and “as one of the great microeconomists of all time” (p. 1487, fn.14). In 1941,
Erich Schneider pointed out that nothing really new had been added to the pioneer-
ing work of von Thünen, Launhardt and Alfred Weber in spacial economics
(Schneider
1941 , p. 727). Schneider recognized von Thünen as “one of the great
pioneers” (Schneider
1934 , p. 8), as a “master of theoretical methods of work”
(p. 9), and as “the ingenious creator of the instrument of marginal analysis” (p. 10),
whose ideas had become either general knowledge or were anticipated in a rele-
vance which was fully understood by a few economists 200 years later (p. 11). Mark
Blaug called von Thünen “the true founder of marginal analysis in the nineteenth
century” (Blaug
1996 , 306).
Undisputably, von Thünen “is the founder of the location theory and pioneered
the use of the concept of marginal productivity” (Negishi
1989 , p. 24), those theo-
ries for which he is most likely to be remembered today (Staley and Charles
1989 ,
p. 134). He also made important contributions to the origins of quantitative empiri-
cal economic research and econometrics. Many current models of modern location
theory are unequivocally combined with the name von Thünen in their fundamental
structures. The so-called “von Thünen economy”, which means that locations differ
only in terms of accessibility and land is homogeneous in quality, is an assumption
often used in modern models of location theory (e.g. Arnott and Stiglitz
1979 ,
p. 488; Bauer and Hummelsheim
1995 , p. 82; Stevens 1995 , p. 17). For instance,
there are advantages to using von Thünen’s theory through progamming models.
14
von Thünen introduced transportation costs as a relevant quantity of economic decision
making and explained their signifi cance for economic pricing. Because transportation
costs are an essential component of transaction costs, von Thünen’s achievements in
1 4
“First, it has an immediate and obvious dualism between location patern and location rent.
Second, both the spatial ordering of crops and existence of nonzero production for any crop are
problems which implicitly involve inequalities. Finally, the extension of the theory to elastic
demand, variations in transport rates, and nonuniform land fertility is relatively easy by program-
ming methods but extremely diffi cult otherwise” (Stevens
1995 , p. 17).
318 H. Frambach
this fi eld can be realized as a contribution to New Institutional Economics and
transaction cost economics , in particular.
Although von Thünen’s achievements in practical agricultural economy have no
meaning for contemporary agriculture, his discoveries in agricultural business
administration and in the agricultural holding as a system are of remarkable impor-
tance. But nothing diminishes the discoveries in the theories of land rent, the mar-
ginal productivity theory, the application of partial analysis and the anticipation of
theory of general equilibrium – they were pathbreaking.
In face of the outstanding theoretical achievements in the fi eld of economics, von
Thünen was far from being a one-sided theoretician working in his ivory tower
without any sense of reality. He took in everything going on around him and real-
ized the social problems in particular. He explained the confl ict of interest between
capital owners and workers by attempts of entrepreneurs to force down the wages
on the substistence level to reduce worker’s share of their product to a minimum but
he recognized, on the other hand, the compulsion of the laws of the market. von
Thünen saw the best measure against the dissatisfaction of workers and the best
protection against poverty and hardship in educating people and in linking the wage
rate to the magnitude of the labour product, of course at natural wage rate level (von
Thünen
1966a , pp. 598–601). To be sure, in contrast to the view of classical econo-
mists, von Thünen’s natural wage rate lies above subsistence level and produces “a
joint interest in augmenting the production” between capital owners and workers
(p. 597). Clearly, one can have great doubts in the deviation of natural wage formula
and von Thünen’s exaggerated hopes concerning its social implications, but the idea
which gives rise to the formula is commendable and pioneering. Although deviating
from the strict course of marginal productivity theory with the natural wage for-
mula, von Thünen combines economic interests with moral and ethical claims.
May be, as Wilhelm Krelle (
1987 , p. 7) points out, von Thünen could not imagine
the enormous increases in marginal products during the centuries which provided a
material situation far beyond poverty to most of the workers. Undoubtedly, at that
time the productivity level was low and a working social security system did not
exist. It is also true that a productivity level is an important prerequisite for suffi cient
economic wealth to a certain degree; but can productivity be the answer to every-
thing? Even today where productivity rates are comparatively high in the developed
countries, poverty is a serious problem not to mention the poverty in the poorer coun-
tries. Can economic problems solely be solved by increasing productivity, and what
pre-conditions have to be fulfi lled so that productivity can increase anyway? All
these questions are questions concerning economic theory. For example, collective
bargaining: As we know, productivity increase is only one relevant factor within the
fi nding process of a wage rate between employers and employees, factors such as
economic power, strategic competence, institutional backing, threatening power, etc.
are of great importance as well. Furthermore, factors such as the cultural level of a
society, the political and institutional stability should not be disregarded.
It is questionable to accuse von Thünen of being wrong in studying the thesis of
natural wages in such an extensive and intensive manner as he himself did, and not
only this, he discussed socialist ideas as well. Paul Samuelson criticized von Thünen,
asking from today’s view “How did so deep and subtle a mind get mired in the
319
11 Johann Heinrich von Thünen: A Founder of Modern Economics
doctrine of the natural wage”? (Samuelson 1983 , p. 1487). One has to take such a
statement as an expression of the biased interpretation of modern economic theory
rather than a weakness in von Thünen’s logical consistency and rigorous theoretical
argumentation. Even today’s marginal productivity theory has trouble with combin-
ing aspects of economy and justice. von Thünen was fully aware of fundamental
principles of economic theory. He realized that “the product of the worker last
employed corresponds to his wage” (von Thünen
1966a , pp. 569, 572, 576 ( 1966c ,
pp. 254, 256)), and that for one and the same work only one wage has to be paid
(p. 577; assumption of homogeneity of labour) but von Thünen was far from accept-
ing these relations as true economic laws referring to a moral commitment of the
rich (p. 578), the duties and responsibility of the state, the presence of religion and
laws of humanity (p. 580). With such an attitude von Thünen showed a forward-
looking idea which probably will be rejected by most of the contemporary represen-
tatives of economic theory, but which none the less is important: The understanding
of dialectics to audit both sides of the coin, the awareness of the confl icting nature
of things, and enduring to the confl ict between economy and society. von Thünen is
a great classical economist who taught us that moral, morality, ethics, thoughtfulnes,
responsibility etc. have to be perceived as essential parts of economic action.
Undoubtedley, von Thünen is one of the most original founders of Political
Economy. Primarily known as the founder of location theory and a researcher who
paved the way for the theories of land rent and wages, his ideas of social treatment
of workers became famous as well. Hardly any other economist can be found who
succeeded in connecting economic modelling and economic experience as much as
von Thünen. Because von Thünen’s economic thinking and modelling was strongly
infl uenced by a distinct social outlook and his experiences as a gentleman farmer,
his scientifi c discoveries are more than ever important for a critical understanding of
contemporary economics. Empirical foundation of economic modelling, applicabil-
ity of economic abstraction, always combined with a social attitude and humanitar-
ian way of thinking, are features which can be studied outstandingly in the person
and the researcher Johann Heinrich von Thünen.
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323JG B kh ( d) HdbkfhHi fE iTh h
Introduction
Marx the economist is alive and relevant today … Marx has been reassessed, revised,
refuted and buried a thousand times but he refuses to be relegated to intellectual history. For
better or for worse, his ideas have become part of the climate of opinion within which we
all think … (I)t is a dull mind that fails to be inspired by Marx’s heroic attempt to project a
systematic general account of the ‘laws of motion’ of capitalism.
(Blaug
1997 , p. 215)
The citation of Blaug’s book, written in the tradition of the Whiggish mainstream,
1
hints at the fact that Marx is still a challenge after the breakdown of the communist
world at the end of the 1980s. Almost all modern sociological (for example Weber)
and economic approaches
2
are to a great extent a reaction to Marx’ (and Engels’)
theory and critique of capitalism as a system of exploitation. Who was this German
intellectual who had such an immense international impact on the history of thought
and policy? Born in Trier in 1818, he enrolled at the University of Bonn at 17 to
study law where he came under the infl uence of the radical Hegelian philosophy. He
continued to study art, history, and philosophy in Berlin and received his PhD in
Jena in 1841. In the same year, he married and went to Paris; in 1843 he met the son
H. Peukert (*)
Faculty of the Sciences of the State/Economics, University of Erfurt ,
Nordhäuser Str. 63 , 99089 Erfurt , Germany
e-mail: [email protected]
Chapter 12
The Legacy of Karl Marx
Helge Peukert
1
Like most present day authors, Blaug severely criticizes Marx’ economic and social theory (for
example 1997, p. 274). In the following we will argue against this tide in the better historian of
economic thought tradition, that is, we will not criticize Marx’ theory from the confi nes of another
“modern” system of economic thought and dominant public preconceptions. Instead, we will fi rst
try to understand Marx from the background of his time, his intentions and theoretical allegations
and measure Marx according to the criteria of his own system.
2
For example the marginal revolution, the Austrian and Historical school, and at least the early
general equilibrium and neo-classical theories.
324 H. Peukert
of a manufacturer, Frederick Engels, his long-time intellectual collaborator
and fi nancial supporter. Expelled from France in 1845, he went to Brussels where
he joined the Communist League. With Engels he published the Communist
Manifesto (1848) which again led to his expulsion. So he went to France and
Germany, but he had to leave for London because he was expelled again. In contrast
to Smith who was professor in Glasgow or D. Ricardo, who was a rich banker in
London, Marx never had an academic post for his radical rhetoric. He lived most of
his lifetime in virtual poverty and only temporarily earned some money, for example
as a correspondent for the New York Tribune . In 1864, he co-founded the First
International. He published the fi rst volume of Capital in 1867 .
3
In 1883, he died in
London of lung disease and general ill health.
Marx was a full-time activist in the European movements for social change,
inspired positively by the values of the French revolution and negatively by the
miseries of his time, the great inequalities of wealth, poor health conditions, average
incomes at the bare minimum of subsistence, child and women labour, bad housing
conditions, high infant mortality, etc.
4
Whereas (neo)classical economists justify
capitalism for its rate of growth, technical dynamism, and productive effi ciencies,
Marx concentrated on the massive human costs of capitalism.
It is obvious, that Marx’ approach deviates substantially from mainstream (economic)
theorizing: (1) His theory is mainly formulated in a non-formalist manner; (2) Against
methodological individualism he sets holism with “classes”
5
and “society” as the
central concepts; (3) Not (individual maximizing) rationality, but historically variant
forms of (collective, traditional, habitual and ideologically based) rule following
prevails; (4) Against the concept of the unavoidable and benefi cial spontaneous
evolution, he points out the oppressive logic of existing social and economic systems
and the futurity of conscious human design; (5) He argues against the effi ciency
(market) point of view and is strongly in favour of social reform (or revolution).
6
It
should be taken into consideration that Marx wrote before the real advent of the
social sciences.
3
The publication of the writings of Marx and Engels has not been fi nished yet; on the publication
history of their works see Honneth (
1999 ) . There are two main series in German, the selected
Marx-Engels-Werke ( MEW ) and the complete edition, the Marx-Engels-Gesamtausgabe ( MEGA ),
both originally published in Russian. The excellent subject index is the best and easiest way to
study what Marx and Engels themselves really said. The Collected Works of Marx and Engels,
begun in 1975, based on MEGA, published by Lawrence and Wishart (London) and International
Publishers (New York) were only partially as not available for us in Germany.
4
See for example Engel’s book on Die Lage der arbeitenden Klassen in England (MEW 2, pp. 228
ff.), fi rst published in 1845. The criticism of the living and working conditions of that time are
apparent in almost every sentence Marx and Engels wrote.
5
See the orthodox reconstruction of Marx’ class theory in Mauke ( 1971 ) .
6
These dichotomies are explained in detail in Rutherford ( 1996 ) who shows that these basic orien-
tations are still in the background of more recent discussions between different schools in econom-
ics, for example between old and new institutionalism.
325
12 The Legacy of Karl Marx
He explained the aforementioned dismal facts primarily with the existence of
private property of the means of production which he rejected. He joined various
organizations that tried to transform capitalism in Europe into a cooperative com-
monwealth of freethinkers without exploitation and under the democratic guidance
of the associated workers as the (only) producers of (surplus) value. Those who
produce goods and services should own them and decide what to do with them. The
respective system was called “socialism” or “communism”. It is not identical with
the structure of the (former) so-called real existing socialist countries in Eastern
Europe, China, etc .
7
In fact, the revolutions in Europe around 1848 did confi rm their
revolutionary hopes in so far as they brought feudalism to a defi nitive end. But
instead of socialism, capitalism was established in Europe and Marx was in exile in
Britain until the end of his life. Marx as the son of comfortable parents (his father
was a middle-level German state bureaucrat
8
and his mother came from an educated
Dutch family) paid a high price for his theoretical and practical political commit-
ment. In exile, always at the brink of poverty (only three out of six children with his
affectionate wife Jenny von Westphalen
9
survived) he studied in an exceptional
furor economic, political, sociological, philosophical but also anthropological and
for example historical literature for many hours in the British library, day in day out.
From his days as a German university student,
10
Marx was an all-round man not
only in the social sciences. There was no fi eld of inquiry which got unnoticed by
him, including the natural sciences and present-day pamphlet literature, journals,
newspapers, etc. From his youth, he read and wrote literature.
11
(Shakespeare and
the classical Greeks were his favourites.)
The ultimate driving force behind his monumental writings was a yearning for
social justice,
12
including an outspoken deliberate value judgement.
13
Marx appre-
ciated capitalism for its technological dynamism, development in human knowl-
edge and also cultural creativity. In so far he was a radical modernist who even
supported colonialism in India for its destruction of stubborn social structures
7
In 1845, Marx and Engels already explained that socialism in one or some countries is an impos-
sibility and could only end up in state capitalism with a new ruling class (see for example Djilas
1996 ) , which lets the old state apparatus unchanged (MEW 3, pp. 34–36).
8
See the critical and kind-hearted letters of the humanistic father to Marx (Ergänzungsband,
pp. 616–640, in the following EB).
9
See the letters from Jenny to Marx (EB, pp. 641–655) which express a lot of sorrow and love from
an educated background.
10
Marx major fi eld was jurisprudence and minor in economics and philosophy.
11
Examples for his romantic over-zealous poetics can be found in the EB (pp. 602–615).
12
For a much more critical understanding of Marx’ personal equation see the bibliography of for
example Raddatz (
1975 ) ; to get a glimpse of the complexity of Marx’ personality compare Raddatz
with Fromm (
1961 ) ; see also McLellan ( 1973 ) and Berlin ( 1939 ) . A fair and readable overview on
the “angry giant’s” live, time and ideas can be found in Heilbroner (
1989 , pp. 136 ff.).
1 3
In Marx’ view, the proponents of a dispassionate value-neutral attitude and analysis usually take the
existing social structure for granted and legitimize it (un)consciously. This insight gave rise to Marx’
ideology critiques, for example in the economic fi eld in his “Theories on surplus value” (MEW 26).
326 H. Peukert
(MEW 8, p. 133). But at the same time he was critical about the unequal distribution
of wealth, the existence of the working poor and the reduction of the worker to
perform primitive routines as the other side of free contracts and private property.
Smith, the main representative of classical political economy, who was also the
classical starting point for Marx’ economic theory, had not really foreseen and
included the negative aspects of capitalism in his evolutionary design. Marx
wanted to liberate the potential of capitalism as a high-productivity economic
system by removing its oppressive components. Marx tried to combine the German
idealist-humanist background of his time in the intellectual sphere, most charac-
teristically expressed in Hegel’s idealist scheme of world history as the self-alienation
and reconciliation of the world spirit, with a somewhat opposing reality in the
economic sphere. In contradistinction to the intellectual atmosphere for example
in Britain (dominated by a more down to earth economics and utilitarianism), an
idealist-religious discussion context dominated the critical discourses in Germany
at Marx’ youth, for example in the circle of the left Hegelians and in the critique
of religion by Feuerbach.
Marx’ “materialism” must be understood from this background as a counterbal-
ance against the prevalent voluntaristic idealism of his time which he held respon-
sible for the 1848 defeat because a thorough analysis of capitalism as an economic
system and its potential realistic transformation was missing. For Marx, most revo-
lutionaries of his time neglected the importance of the production and distribution
of surplus value within the economy. Therefore, Marx put this criterion in the centre
of his analysis of social formations, distinguished by “classes”, that is, contributors
or receivers of surplus labour values. It was his basic intuition, that the specifi c
modes of the appropriation of surplus deeply infl uence the movement of prices,
income and wealth and even shape our constructs of mind (religion, ideological
self-interpretations) and societal institutions (for example family, political system,
etc.). A dialectical method applied to Marxism means to see Marx’ thoughts always
in relation to what he criticizes, to understand for example Capital (MEW 23–25)
in the sense of the subtitle as a “critique of political economy” and his refutation of
Hegel’s philosophy
14
not only as a simple reversion from idealism to materialism
but also as a pronounced counterweight to their one-sidedness.
15
The link between Marx and the idealist–religious–humanist–anthropological
nexus around the 1840s and the question, in how far Marx’ works are one integrated
corpus can be evaluated much better today
16
because essential contributions of Marx
were published posthumously, for example Marx’ Critique of Hegel’s Philosophy of
Right (fi rst published in 1927) (MEW 1, pp. 201 ff.), The German Ideology (MEW
3, pp. 9 ff.) and the Economic-Philosophical Manuscripts (both fi rst published
in 1932) (Ergänzungsband, pp. 465 ff., in the following EB), and the Grundrisse
14
See for example Autorenkollektiv ( 1973 ) , and compare with for example Garaudy ( 1970 ) .
15
A more balanced discussion of Marx comes as part of the peace dividend after the end of the cold war.
16
For the profound impact of Hegel and Feuerbach on Marx see for example Avineri ( 1971 ) .
327
12 The Legacy of Karl Marx
( 1974 , fi rst published in 1939). Especially these writings show the inadequacy of a
deterministic understanding of Marx’ theory, with objective laws in history and a
complete and unchanging world-outlook including nature.
This is not to deny some ambiguity in Marx (as may be found in the writings of
most interesting social scientist). There are some passages in Marx’ writings which
are somewhat dogmatic (for example in his introduction to The Critique of Political
Economy , see MEW 13, pp. 8–9), where Marx stipulates to have found the laws of
motion in society, the insuperable evolution and the necessary phases of historical
social formations, the absolute pauperization of the working class, and for example
the rigid form of the basis-superstructure distinction. The dogmatic non-dialectical
version is predominant in “Marxism-Leninism”. This orthodox determinist inter-
pretation was at least a perfect legitimization ideology in the former state socialist
countries. The writings of Engels are somewhat in-between, at least his later writ-
ings like the Dialectics of Nature and his Anti-Dühring (both MEW 20) are leaning
in the objectivist and non-dialectical direction. But it should also be mentioned that
Engels edited the second and third volume of Capital and contributed the philo-
sophical essay on Ludwig Feuerbach and the End of Classical German Philosophy ,
written in 1888 (MEW 21, 259 ff.) where he states that it was Marx who developed
a materialistic social science concept and that his own contribution was more sec-
ondary (MEW 21, pp. 291–292, fn.).
In Marx’ and Engels’ works, fi ve types of writings can be distinguished. The most
important are their scientifi c contributions in the stricter sense like Capital . But even in
these more abstract works, polemics and criticism are an integral part of the dialectical
exercise. Next come the interpretations of important historical events such as the
coup d’état in France, analyzed in Marx’ Eighteen Brumaire of Louis Bonaparte , writ-
ten in 1852 (MEW 8, pp. 118 ff.). A third category comprises more educational writings
like Wage , Price and Profi t (MEW 16, pp. 101 ff.), an introduction to Capital . Fourth are
the hundreds of articles on recent political occurrences like elections in Germany.
17
Quite another, the fi fth category is formed by the pamphlets where the mission of com-
munism is argued for, like the Communist Manifesto (MEW 4, pp. 459 ff.) to support
and explain the 1848 uprisings in Europe. Evidently, the pamphlets are more straight-
forward and exaggerated in the formulations. The interpretive comments on daily
events are more tentative and preliminary as other more scientifi c contributions.
18
In the following, we will fi rst discuss Marx’ critique of capitalist societies, his
“materialist” approach and the fundamentals of his economic theory. We will then
take neoclassical economics as it is usually presented in the textbooks as an example
of his method of ideology critique. We will ask further how his vision of a good
society looks like, and see in how far a critical discussion on Marxist lines takes
place today and fi nally ask which relevancy Marx may have for us today despite all
shortcomings of the Marxian approach.
17
Marx and Engels ( 1969 ) .
18
This is no excuse of their historical short-term misinterpretations, often guided by the revolution-
ary hope that the proletarian revolution is just around the corner.
328 H. Peukert
The Criticism of Capitalism and the Praxis Approach
Marx’ central ideas, basic value commitments, and the roots of his philosophical–
dialectical materialism can already be found in his fi nal high-school examination
texts. “Nature herself has determined the sphere of activity in which the animal
should move … To man, too, the Deity gave a general aim, that of ennobling man-
kind and himself, but he left it to man to seek the means by which this aim can be
achieved; he left it to him to choose the position in society most suited to him, from
which he can best uplift himself and society … (O)ur relations in society have to
some extent already begun to be established before we are in a position to determine
them. Our physical constitution itself is often a threatening obstacle, and left no one
scoff at its rights … Worth is that which most of all uplifts a man, which imparts a
higher nobility to his actions and all his endeavours … But the chief guide which
must direct us … is the welfare of mankind and our own perfection … (M)an’s
nature is so constituted that he can attain his own perfection only by working for the
perfection, for the good, of his fellow men” (Marx
1975a , pp. 3–4 and 7–8, EB,
pp. 591–594). It is surprising how exactly Marx delineates his research program as
early as 1835. In another examination essay on religion, he states that people should
liberate themselves from the bonds of superstition and try to perfect themselves and
to achieve a harmonious moral attitude and supersede brute egotism (EB, p. 598).
In his doctoral dissertation on Epikur and Demokrit, written in 1840–1841, Marx
tried to show against the prevailing scientifi c opinion that Epikur had a very differ-
ent philosophy of nature compared with Demokrit, the materialist determinist. In
Marx’ view, Epikur was much superior to Demokrit in that he was a sceptical and
non-dogmatic philosopher who did not try to develop an objective philosophy of
nature. For Epikur, knowledge of nature had only the function to improve the atar-
axy of human self-consciousness; against the principle of determination he put
chance and accident, leaving room for human free choice which is infl uenced by
human drives and desires and the so-being of the surrounding nature. The feeling of
repulsion and dependency of something in us and out there leads to a dialectical
insight of our relativity and relatedness and ends positively in a Aufhebung of
the polar concepts and antinomy of human free will vs. objective determination
(EB, pp. 257 ff.).
For Marx – and this is the genuine and simple materialist aspect of his thinking –
the fundamental question confronting all human societies concerns what we
must do to survive as living beings with an energy consuming body. To live, we must
combine our intelligence and our energy (our work) with the basic “materials” of
the world we fi nd ourselves in, its water, soil and air. For Marx, nature is the organic
body of man. We must work with what is at hand in order to make this today into
tomorrow. The economic organization of society, or the “mode of production”, is
therefore for him the most powerful force in determining the structure of human
society. Today this Marxian basic principle sounds more self-evident and insofar we
can say that we are all more or less Marxists now. But at Marx’ time even Feuerbach’s
critique of Hegel’s idealism was only a theological one.
329
12 The Legacy of Karl Marx
In his Economic-Philosophical Manuscripts , written in 1844, Marx develops an
empirical–critical study of economics, including a critique of law, politics and
morals. His starting point is the asymmetry of power and the antagonism between
capital and not only labour but also society at large, which was already an important
point in Smith’s Wealth of Nations.
19
For Marx, it was a scandal that the existence of
the worker is reduced to and treated as any other commodity in the market (EB, p. 471).
The workers produce more and more riches but because they sell their labour power
to the capitalists who own the means of production, make the decisions on the
volume and composition of output and increase their bargaining position with
the increase of their riches, the paradoxical fact results, that the more the workers
produce, these products act like a strange external force against them. The workers are
alienated from their product. They have not the feeling of being the associated producer
of the riches. “Similarly, the division of labour makes him more and more one-sided
and dependent, introducing competition from machines as well as from men …
(T)he worker has been reduced to a machine … (T)he object that labour produces,
its product, stands opposed to it as something alien , as a power independent of the
producer … (I)t is the objectifi cation of labour” (Marx
1975a , pp. 286 and 324,
EB, pp. 474 and 511). In these sentences, Marx develops his thesis of alienation,
isolation, self-estrangement, powerlessness and the commodifi cation of all processes
in society as a result of the alienating effects of a money economy in which all
things are measured in monetary terms and can be bought with money (music,
poetry, sex,
20
etc.).
Like Smith, he sees a basic class antagonism between capital and labour (EB,
p. 505), which has been forcefully described and generalized in the Communist
Manifesto : “The history of all society up to now is the history of class struggles.
Freeman and slave, patrician and plebeian, lord and serf, guild-master and journey-
man, in short, oppressor and oppressed stood in continual confl ict with one another,
conducting on an unbroken, now hidden, now open struggle, a struggle that fi nished
each time with a revolutionary transformation of society as a whole, or with the
common ruin of the contending classes” (Marx
1996 , pp. 1–2; MEW 4, p. 462). In
distinction to Smith, Marx thought that this class antagonism must be superseded
and that it is not an inevitable by-product of the division of labour as such which is
outweighed by its advantages in terms of productivity gains in the interest of the
fi nal consumer. Marx thought that the antagonism is essentially due to the existence
of private property. In his perspective, the early phase of the accumulation of capital
is characterized by colonialism, plunder, piracy, the slave trade, enclosures, and
other forms of exploitation and less by thrifty middle-class bourgeois who save
and invest money.
Work and labour are constituent parts of man and his evolution as a conscious
and civilized being. “The animal is immediately one with its life activity … Man
makes his life activity itself an object of his will and consciousness … It is true that
19
See for example Smith ( 1976 , p. 277).
20
See for example Marx’ ironical but very true remarks in the EB (p. 564).
330 H. Peukert
animals also produce. They build nests … But they produce only their own immediate
needs …, while man freely confronts his own product … man also produces in
accordance with the laws of beauty” (Marx
1975a , p. 329, EB, pp. 516–517).
A constituent part of Marx’ active or dialectical praxis materialism is his view that
the modern class antagonism and the technological innovations due to the profi t
motive have a progressive and ameliorative function for the secular development of
humanity because “movement inevitably triumphs over immobility, open and self-
conscious baseness over hidden and unconscious baseness, greed over self-
indulgence , the avowedly restless and versatile self-interest of enlightenment over
the parochial, worldly-wise, artless lazy and deluded self-interest of superstition ”
(Marx
1975a , p. 340, EB, p. 528). The accumulation of capital realizes what the
humanists dreamt of: the universality of human relationships, in capitalism couched
as a Hegelian List der Vernuft (cunning of reason) by the globalization of production
processes and the realization of the world market. “The need for a constantly
expanding outlet for their products pursues the bourgeoisie over the whole world …
In place of the old local and national self-suffi ciency and isolation we have a univer-
sal commerce, a universal dependence of nations on one another. As in the produc-
tion of material things, so also with intellectual production” (Marx
1996 , pp. 4–5,
MEW 4, pp. 465–466).
Communism is defi ned by Marx as the reintegration and self-realization of man,
to transform social circumstances so that they can conform to man’s nature.
Communism is defi ned as realized naturalism and humanism (EB, p. 536), integrat-
ing man as a social and individual being. Marx’ reasoning necessarily implies an
anthropology. In his theses on Feuerbach, Marx states that man is the ensemble of
his social relationships but this is not to say that any social formation is compatible
with man’s outfi t. Marx’ anthropology and vision of a good society has the three
dimensions
21
of the true, the good and the beautiful. The fi rst is that social life and
economic reproduction should be organized and planned collectively and demo-
cratically. Marx comes very close to the ideal of undistorted discourse (Habermas
1985 ) , that is, the ideal speech community in which all participants can infl uence
the course of events and decisions with good arguments. Hierarchies, ideologies and
ascribed privileges with respect to property rights do not count. Formal labour con-
tracts with a residual claimant are incompatible with this ideal.
Marx’ second ideal or dimension refers to the interaction among individuals
beyond their communicative rationality in everyday life with their feelings, their
hopes and fears, their dependence on a mortal body, etc. We should take our fellow-
beings as rich, multidimensional, complex personalities in their unique totality,
realized in friendship, love, thankfulness, sympathy, compassion and generosity. In
capitalism, the basic social relationship is to see the fellow-being as a potential deper-
sonalized customer who should pay as much as possible for the often-unnecessary
goods we offer him (EB, p. 547). Marx criticizes here what Weber called banalization
( Versachlichung ) of interpersonal relationships in market or commercial societies.
21
They have been elaborated more fully in for example Heller ( 1978 , especially pp. 159 ff.).
331
12 The Legacy of Karl Marx
“The reason for the impersonality of the market is its matter-of-factness, its orientation
to the commodity and only to that. Where the market is allowed to follow its own
autonomous tendencies, its participants do not look toward the persons of each other
but only toward the commodity; there are no obligations of brotherliness …, and
none of those spontaneous human relations that are sustained by personal union”
(Weber 1968 , p. 636). Marx saw in this tendency a dehumanization of society which
is often masked by the imposition of ideology or religion (for example the assump-
tion of some spiritual being beyond the real life-world as a projection of self-
alienation, see EB, p. 575).
The third dimension refers to the “duty” of self-perfection and ability to uncon-
taminated sensual pleasures, that is, the rich development of our capabilities, intel-
lectual, sensual and otherwise. Therefore, Marx describes the communist utopia as
the negation of the division of labour in which it is possible “to hunt in the morning,
fi sh in the afternoon, rear cattle in the evening, criticize after dinner, just as I have a
mind, without ever becoming hunter, fi sherman, shepherd or critic” (Marx and Engels
1940 , p. 22, MEW 3, p. 33). Later, in Capital , Marx explains realistically that the
realm of freedom of self-expression begins where the realm of reproductive neces-
sity ends (MEW 25, p. 828). But his consequence is not to give up his third ideal but
to underline the importance of the productivity increases and technological progress
to reduce the necessary work-hours to the possible minimum. This idea is contrary
to the alleged Marxian productivity or growth mania. Marx points out that most
people are reduced to some specifi c job or professional skills and that compensation
takes place in the form of “mean, capricious, conceited, presumptuous” (Marx
1975a , p. 367, EB, p. 555) consumption and possession of goods.
22
Marx is con-
cerned about “the sensuous appropriation of the human essence and human life …
[this] should not be understood only in the sense of direct, one-sided consumption,
of possession, of having”. Instead, non-possessive “human relations to the world -
seeing, hearing, smelling, tasting, feeling, thinking, contemplating, sensing, want-
ing, acting, loving - in short, all the organs of his individuality” should be developed
(Marx
1975a , p. 351, EB, p. 539). In capitalism, a different character ideal is war-
ranted. “(Y)ou must not only be parsimonious in gratifying your immediate senses,
such as eating, etc. You must also be chary of participating in affairs of general
interest, showing sympathy and trust, etc., if you want to be economical and if you
want to avoid being ruined by illusion” (Marx
1975a , p. 362, EB, p. 550).
Summarizing, we see that Marx tried to transcend the antinomy of idealism and
materialism, that he saw basic antagonisms in all hitherto existing societies. He
criticized capitalism and he had a pluralistic, three-dimensional anthropological
ideal (some trade-offs between the realization of the ideals are conceivable). It
should be noted that his critique of capitalism is absolutely independent of some
hypotheses usually presented in combination with his ideas on commodifi cation or
alienation, notably the alleged law of absolute impoverishment, the law of the
concentration of capital, etc. In the last part, we will ask in how far Marx’ criticism
22
Marx refers here to the distinction between the modes of having and being, see Fromm ( 1976 ) .
332 H. Peukert
is still relevant for today’s globalizing capitalism and in how far Marx’ communist
credo was realist or not in the sense that a modern, complex, productive, world-wide
economic system is conceivable without the bads exclusively ascribed by Marx to
the existence of private property (and not for example from the division of labour,
the extension of markets, the result of millions of exchange activities with unin-
tended consequences).
We will not discuss the validity of Marx’ description of historical formations or
phases in detail because some major assumptions of Marx and Engels have proven
to be very questionable. One problem is their stage theory where feudalism is ante-
dated by slavery which is supposed to have been the dominant production system
for example in classical Greece. It is said that slavery was the basis of the antique
system of production (MEW 3, p. 23); today we know that slavery was much less
important in antiquity than Marx and Engels stipulated.
23
It is also open to doubt if
an Asian mode of production can be disentangled.
24
Theorists in the tradition of
Marx are also sceptical if Marx is right in his description of the development of
early capitalism where a phase with manufactures is followed by a phase with the
factory system.
25
There is also disagreement among Marxists about the exact ways
how the contradictions of an old system work out and let evolve a new system. For
example, the transition from feudalism to capitalism and the accompanying contra-
dictions can be explained by the inner contradictions of feudalism itself. But other
Marxists stress the emergence of the money economy in mediaeval towns as the
main driving force of changes .
26
But leaving all differences aside, the canonical fi nal version of the Marxist theory
of history, economy and society was formulated by Marx in his Preface to the
Critique of Political Economy , written in 1859, where he states that “(i)n the social
production of their lives men enter into relations of production which correspond to
a specifi c stage of development of their material productive forces. The totality of
these relations of production forms the economic structure of society, the real basis
from which rises a legal and political superstructure, and to which correspond
specifi c forms of social consciousness. The mode of production of material life
conditions the social, political and intellectual life-process generally” (Marx
1996 ,
pp. 159–160, MEW 13, pp. 8–9).
Although this sounds more determinist than Marx’ earlier formulations, he never
gave the basis-superstructure model an ultimate mechanical interpretative twist in
his later writings, leaving a certain ambiguity for his interpreters and different
Marxist schools.
27
The basic intuition behind the basis-superstructure distinction
23
Peukert ( 1994 ) .
24
Wittfogel ( 1957 ) and Dutschke ( 1974 ) .
2 5
Capital , vol. 1, Chap. 24 . Sombart ( 1916 , vol. 2, pp. 702 ff.) for example argued that historically
it is more correct to say that manufactures and factories existed side by side from the inception and
for a long time.
26
Dobb ( 1967 ) and Sweezy ( 1957 ) .
27
An impressive, very critical but informed survey on the main Marxist schools and debates can be
found in Kolakowski (
1978 –1979).
333
12 The Legacy of Karl Marx
can hardly be doubted. For example, religious beliefs in hunter and gatherer societies
stress the role of nature and people within it, which refl ects the importance to
survival of the natural environment. It is surprising how predictable elementary
structural symbolic decisions are made in hunter-gatherer societies compared with
those of agriculture (Vivelo
1978 ). He usually took into consideration the overdeter-
mination
28
of all spheres and their relative autonomy, the role of historical accidents
and the unevenness of structures, his favourite example being the difference between
the low level of productivity and development of the productive forces in general in
classical Greek antiquity on the one hand and their impressive and high-level philo-
sophical and literary contributions which Marx admired and which are in some
respects still the norm today
29
on the other hand (see also MEW 13, p. 640).
Overdetermination means, that economic aspects of society infl uence the non-economic
spheres, but the reverse holds true as well. So “society” is infl uenced by three non-
economic forces, the natural (biological and chemical transformations), cultural
(the construction of meaning by language, arts, music, religion, etc.) and the politi-
cal (legislative, administrative and judicial control).
To characterize Marxism, it is more important to identify the conceptual space
than to refer to the base-superstructure model: the central problematic was the
appropriation of surplus value in industrial capitalism. It can be analyzed structur-
ally or historically, and can be traced in the domains (?) of law, ecology, politics,
money theory, etc . (Jameson
1996 , pp. 19–21).
For Marx, a further dimension of alienation as an expression of private property,
markets, money and the class structure in capitalism consists in – speaking
terminology – specifi c, relative autonomous subsystems or value-spheres are dif-
fer entiated (for example the state, the church) form the life world processes. They
are directed by internal rules and normative behavioural codes of their own. In
modern sociology, this relative autonomy is interpreted as a necessary development
in the process of rationalization
30
and adaptive upgrading. For Marx, it is the expres-
sion of insulation against society due to power and class domination.
31
In so far the
base-superstructure distinction is less an affi rmative, general, positive scientifi c concept
and more a critique of existing social structures. “Bourgeois” social scientists could
accuse Marx of trying to eat the cake and have it, that is, – in the terminology of
Tönnies (
1991 ) – to ask for a highly developed Gesellschaft , and at the same time
call for the supposed pleasant characteristics associated with small scale
Gemeinschaften . They can argue that all modern attempts to combine Gemeinschaft
and Gesellschaft (notably communism and national socialism) led to the greatest
catastrophes of our closing century. On the other hand, it cannot be denied that
Marx’ alienation approach deals with real problems of estrangement in our society
today, notwithstanding if they can be overcome or diminished or not.
28
Althusser ( 1969 ) .
29
Grundrisse (1974/1857–1858, pp. 29–31).
30
Weber ( 1968 ) , Parsons ( 1966 ) , and Luhmann ( 1998 ) .
31
See for example EB, p. 551, MEW 3, pp. 32–33.
334 H. Peukert
The Driving Forces of Modern Societies
32
and the Labour
Theory of Value
33
Marx theoretical starting point in economics was the labour theory of value, developed
by the classics, notably Smith and Ricardo (Smith held an ambiguous value the-
ory
34
). According to Marx, the value of any good is determined by the amount of
labour embodied in the productive process, measured in time; more complex, diffi -
cult or hard work can be measured as a multiple of the abstract unit “labour”, defi ned
as the average necessary social time to produce a unit of a specifi c output. This
elementary so-called reduction problem had been analyzed only in passing by Marx.
The exploitation of labour takes place in that the capitalists pay the workers only a
subsistence wage even though the workers produced output that was worth much
more than their wages. In contrast to Ricardo, Marx did not hold an absolute subsis-
tence theory of wages, but a subsistence theory modifi ed by the prevailing cultural
standards and habits (of clothing, housing, etc.). This more realistic approach
implies the problem of indeterminacy of the value determination (Burchardt
1997 ,
pp. 141 ff.) because the exchange value of the commodity labour now depends on
historical, moral and bargaining strength – that is, non-objective and in the strict
sense non-economic – factors.
He also differed from Ricardo in that he made clear that the worker is paid the
equivalent of his exchange value ( Tauschwert , equivalent to the reproduction cost of
the worker); the capitalist uses the use value of labour ( Gebrauchswert ) which may
be much higher, if the worker for example produces his subsistence wage goods in
3 h but has to work 8 h. The exploitation is the difference between the three and the
8 h, between the use and the exchange value of labour. In fact, the regular employ-
ment contract in capitalism is incomplete in that it specifi es the hours of labour but
not the intensity or quality. Further, in the wage contract, workers are free agents in
a legal sense but they more or less lack control over the working conditions and aims.
It is also a fact, that “work” and not for example natural endowments are the basis of
the wealth of nations and the national accounting systems actually split national
income into the two broad categories of wage and profi t incomes and for example in
the US two third of the national income accrues to labour. In addition, the so-called
analytical assessment of places of work ( analytische Arbeitsplatzbewertung ) tries to
make qualitatively different exemptions of labour quantitatively comparable.
The difference between the value of labour and the wage rate is the surplus value
(also defi ned as the excess of gross receipts over fi xed and variable costs, see below)
32
The explanation of the natural economic laws of capitalism was Marx’ explicit aim in his preface
to Capital (MEW 23, p. 15).
33
For the discussion of the labour theory of value and other relevant topics of Marxian economics
see King (
1990 ) .
34
Smith also held a summing-up approach in which the three elements of income (labour, rent and
profi t) were added up; see Dobb (
1973 , Chap. 2 ).
335
12 The Legacy of Karl Marx
which is the source of the capitalist’s profi ts; also interest payments for capital
borrowing are paid out of surplus value. For Marx, this is the exact dividing line in
his defi nition of class between those who produce the surplus (the working class)
and between those who get an income by appropriating the surplus (the capitalist
class). Taking into consideration the fact that among these classes many divisions
and different interest positions exist, and some people may belong to both classes
(for example workers owning bonds or stocks), Marx nevertheless held that each
class is a community united by common interests.
According to Marx, in the labour market an exchange of equivalents takes place.
Surplus value is unpaid labour but it looks as if profi t is paid for total capital outlays,
and seems to come only into existence in the sphere of distribution (change of com-
modities into money). The worker stipulates that he is paid for 8 h work instead of
three. In feudalism, exploitation is more evident because the landlord visibly takes
away a percentage of the peasants annual product. Marx subsumed the aforemen-
tioned misconception under the heading of commodity fetishism. Marx’ (and
Ricardo’s) labour theory of value implies that constant capital in the form of machin-
ery and raw materials only transmit their values to the product and do not create
additional value. They are produced by capitalists and they are sold to capitalists so
that mark-ups cannot explain profi ts because one capitalist’s income is another capi-
talist’s outlay. Surplus value can be only increased by a lengthening of the workday
or by raising the productivity of labour.
The question why competition does not erode any surplus in excess of labour
cost has to do with the increasing organic composition of capital and the accompa-
nying increase or at least reproduction of the industrial reserve army (unemploy-
ment). The organic composition is defi ned as the ratio between capital (machinery)
and labour in the production process. Its increase means that fi rms are displacing
workers with machines. In order for fi rms to compete in the market or to earn extra
profi ts, they have to invest in new, sophisticated machinery. The resulting higher
unemployment (downsizing) will keep wages down. But it also implies that the
number of workers fi rms can exploit will decline. Thus a fall in the rate of profi t will
take place, defi ned as surplus value divided by constant (depreciation charges on
fi xed capital and inputs of raw materials) and variable (wages of production work-
ers) capital. Although the rate of exploitation and the absolute amount of profi ts
may increase, due to the higher organic composition, the rate of profi t may fall
because surplus value can only be generated out of labour, but the percentage of the
variable capital decreases.
Capitalists dig their own graves because they not only produce the revolutionary
reserve army of the unemployed, but they are also motivated to substitute capital for
labour to earn higher profi ts. However, the higher degree of mechanization leads to
a lower rate of profi t. We note in passing that Marx assumed only a tendency of the
falling rate because there exist some countervailing economic forces (MEW 25,
Chap. 14 ). Marx’ general message is that profi ts are not a necessary cost payment
and that they will have no function in a nationalized economy. The capitalist profi t
system has distributive consequences in that it reduces the income of workers, leads
336 H. Peukert
to the concentration of economic power (as a consequence to fi ght the falling rate of
profi t), impedes the infl uence of workers and consumers on management decisions
and endangers the maintenance of full employment by constantly reproducing the
reserve army.
The essential function of Marx’ economic theory is not to develop a new or better
theory of the business cycle, a new monetary theory, or a better theory of the deter-
mination of relative or absolute single prices but to explain the economic long-run
evolution in capitalist societies. Three further problems in Marx’ exposition should
be mentioned.
35
First, it is not really convincing that the fall in the rate of profi t
really takes place due to a changing organic composition because the capital-output
ratios in Western manufacturing branches are sometimes rising and sometimes falling.
This has to do with a fact neglected by Marx, that is, that capital-saving innovations
may outweigh labour-saving innovations and that technical progress is not neutral
in the sense that labour productivity rises as fast in the capital as in the consumer
goods industries. The second critical remark refers to some of Marx’ predictions
like absolute or relative impoverishment, the extinction of the middle classes (see
for example MEW 4, p. 469), the thesis of the increasing severity of the business
cycles, the absolute increase in unemployment, the concentration of capital and
elimination of small- and medium-size fi rms, the dramatic fall in the rate of profi t,
etc. All these elements are mentioned more than once and combine to form a dismal
picture of capitalism. In the fi nal section, we will think about the relevance of Marx’
economic analysis, let us mention here that his picture of the dismal future of capi-
talism has proven to be wrong up till now.
A third elementary problem of Marx’ analysis is the so-called transformation
problem, dealing with the fact that relative prices cannot correspond to relative
labour values if we do not assume arbitrarily that the capital–labour ratio is identical
in every industry. Only if we make this assumption, it follows that the ratio of profi ts
to wage charges is the same for every product and therefore commodity prices will
differ only due to the fact that some employ more direct and indirect labour than
others. The transformation problem arises because competition equalizes the rate of
profi t in all industries despite of the fact of different capital–labour ratios. This nec-
essarily produces different rates of surplus value between industries. When there are
different rates of surplus value, but only one rate of profi t the problem arises how
values are transformed into prices.
In the third volume of Capital (MEW 25, pp. 151 ff.), Marx explains that although
values usually do not correspond to prices of production, the sum total of deviations
of prices from values is equal to zero and total profi ts must equal total surplus value.
He arrives at this conclusion by arguing that capitalists sell products at prices of
production (which is the cost price, that is, outlays for fi xed and variable capital)
plus a uniform mark-up proportional to the total capital invested without regard to
35
We will not discuss other important and controversial aspects of Marx’ economic theory, for
example his theory of absolute and differential rent and his schemes of reproduction; see for exam-
ple Desai (
1979 ) .
337
12 The Legacy of Karl Marx
the specifi c organic composition in different branches. The problem with Marx’
solution is that it is not so easy simply to count the total direct and indirect labour
embodied in commodities by looking because the input of indirect labour by the
application of machines can only be counted as a value compounded over time at
the ruling rate of profi t.
36
The debate shows that we can solve the transformation
problem mathematically but we get an indefi nite number of solutions and the sum
of the values can equal the sum of production prices or the sum of surplus value can
equal the sum of profi ts but not both at the same time. Sraffa (
1972 ) has shown that
a theory of production prices can be developed without any reference to the labour
theory of value (and that neoclassical theory has a comparable problem of logical
inconsistency in that it tries to measure the value of capital without reference to the
rate of profi t).
Despite all this shortcomings and problems, Marx has shown how the transfor-
mation from money to commodities can be understood, how these split up in means
of production and labour, how the production process transforms the inputs and how
more and different commodities are sold and more money results and in how far this
is a never-ending process because the motive for transactions is the constant increase
of money and its transformation into capital. After Marx, a subjective value theory
was developed with at least as much internal problems, so that the value theory was
fi rst dissipated in a superfi cial supply and demand frame and then totally
abandoned.
Economics and Ideology: The Example of Neoclassical
Vulgar Economics
37
Mainly in Capital and Theories on Surplus Value (MEW 26), where Marx analyses
mercantilism, physiocracy and the classics, he argues that mainstream economics
became apologetic after the victory of capitalism around 1830. A major reproach
was that mainstream economics commits what may be called the fallacy of mis-
placed reifi cation. This means that the structure and analytical categories to describe
capitalist societies are disembedded from their historical context; for example the
laws of exchange in capitalism are taken as natural, eternal laws ( Grundrisse , p. 579)
and they are justifi ed and legitimized by mainstream vulgar economists. “Vulgar
economy actually does no more than interpret, systematise and defend in doc-
trinaire fashion the conception of the agents of bourgeois production who are
36
We cannot elaborate this intricate problem further; see the review of the debate in Quaas ( 1992 ) .
The transformation problem has never been solved satisfactorily in the confi nes of a labour theory
of value, but we do not know of any value theory without such central problems (for example how
can we measure utility).
37
See already the critical analysis of Myrdal ( 1953 ) . The following remarks are based on Wolff and
Resnick (
1988 ) who analyze the neoclassical building blocks in detail. See also Roemer ( 1978 ) .
338 H. Peukert
entrapped in bourgeois production relations” (Marx and Engels 1998 , p. 804, MEW
25, p. 825). Transaction cost analysis can be taken as an example because vertical
integration and relaxed anti-trust laws are justifi ed as economically reasonable
38
in
the age of big corporations, and advertisement is rationalized as a means to reduce
transaction costs. Vulgar economics also reproduces the dominant stereotype on
human nature and reifi es a specifi c logic of rational behaviour. Profi t is rationalized
by the idea of the residual claimant in team production, a tight prior equilibrium
is assumed to celebrate the market. In the following part of the chapter, we will
briefl y demonstrate how the dominant neoclassical school looks like through
Marx’ lenses.
39
Neoclassical theory puts owning, buying and selling, the sphere of distribution
and exchange, in the centre of analysis. Goods and services are privately owned by
individuals who seek to maximize their satisfaction by consuming goods and ser-
vices (exchange increases use values). The theory is based on some assumptions
concerning human nature, namely that humans as monads try to maximize their
material self-interest by utilizing their owned resources and the available technol-
ogy. Self-interest-maximizing individuals are the ultimate determining cause of
economic activities and developments. The arena in which transactions occur is the
market where individual private property owners meet voluntarily. They are free to
sell and buy. Markets are the best institutions for economic organization.
In markets, every transaction is mutually benefi cial, otherwise it would not take
place. Ideally, market allocations lead to effi ciency and optimality, so that the
interference with law, custom and tradition is no good advice. Society is the collec-
tion of individuals in it and the aggregate effects of their wants and activities. Market
capitalism and a profi t-seeking society are effi cient and best conform to human nature
in that they best help to maximize overall wealth. The basic intuitions of neoclassical
economics turn out to conform to the dominant ideology in the most developed capi-
talist society today which is the United States with private property and competitive
markets as key institutions. The scientifi c value of neoclassical economics is – in a
Marxist perspective – not the practical application to solve economic problems or to
serve as a toolbox, but to legitimize the major class institutions and behavioural
motivation codes and to constitute a cultural hegemony (Gramsci).
The question of what determines the values and prices of goods is answered with
reference to markets where demand and supply (graphs) intersect. It is usually
framed as a constrained-maximization problem, that is, individuals try to maximize
pleasure under societal constraints. Individual wants and productive capabilities are
the essentials that generate demand, supply, etc. The neoclassical chain of causality
is by no means self-evident. There is for example a chain running from a change of
tastes to a change in the supply of goods, but there is no causality running from a
change in prices or incomes to an (endogenous) change in tastes or preferences.
Other strong assumptions are made, mainly the ability of every individual to rank all
38
See for example Williamson ( 1987 ) .
39
For this exercise we can take any modern mainstream textbook, for example Kreps ( 1990 ) .
339
12 The Legacy of Karl Marx
goods and services in a consistent manner now and in the future and that we always
prefer more rather than less of any good (nonsatiation). Further, we try to take maxi-
mum advantage of our opportunities.
The supply of labour depends on our free will and our preference between real
income and leisure, and the total labour hours demanded and the money wage rate
are fi xed in the labour market. Involuntary unemployment is impossible, a higher
labour demand can be achieved by lower wage demands. The wage pays labour
what it deserves according to its marginal productivity. This means that high incomes
in a market economy depend on individual’s preferences for work instead of leisure
and on the relatively high objective marginal productivity of that labour. So the rich
are rich for good reasons and the poor are poor for good reasons.
Interest on capital depends on capital’s contribution to output, exactly like the
real reward paid to labour depends on labour’s contribution to output. This rules out
the possibility that any owner may receive less or more then his resources added to
produce the outputs. Each individual gets back from society what it contributed. In
market economies fairness rules instead of exploitation. Everybody is free to become
a profi t receiver, it only depends on his ability and willingness to work and to forfeit
consumption instead of saving. The existence of public goods, externalities and
other market imperfections like the inability of human beings to foresee the future
excluded, and well-shaped indifference curves assumed, neoclassical economics
demonstrates with the two Pareto welfare criteria that maximum profi ts are consis-
tent with and even necessary to achieve maximal happiness for individualized
consumers.
For Marx, neoclassical economics would primarily refl ect the dominant self-
understanding of modern capitalist societies to justify for example why 10% of the
population own 90% of all stocks in the United States. He would not have been
surprised that some heroic assumptions are necessary to reach the adequate conclu-
sions. In his perspective, the formalization of economics by mathematics has the
function to disguise ideological content and let it look value-neutral and scientifi c.
For its elementary ideological function, the practical inapplicability of neoclassical
armchair economics is no impediment at all.
Marx’ View of a Good Society
Marx and Engels did not exclude that a communist revolution will fi rst take place in
underdeveloped countries like Russia (MEW 19, pp. 243 and 296). But they thought
that the countries with the most advanced capitalist structures and highest devel-
oped (European) civilizations would very probably undergo the communist revolu-
tion earlier. For example, in1848, they held that the democratic revolution in
Germany is only the prelude to the ultimate revolution of the proletariat (MEW 4,
p. 493). In general, their picture of the desired future society is very fragmentary. This
has to do with Marx’ opinion that the working class has “no ideals to realise, but to
set free the elements of the new society with which old collapsing bourgeois society
340 H. Peukert
itself is pregnant” (Marx 1996 , p. 188, MEW 17, p. 343). Marx also denied describing
the new society in detail because he believed in open historical alternatives which
should not be foreclosed; it was his epistemological premise that history is also
essentially determined by specifi c conditions which cannot be predicted in advance.
He also wanted to distinguish himself from the utopian socialists who depicted
detailed fantasies.
But one constituent element of the new society Marx and Engels talked about is
the abolition and transcendence of the state in the longer run (for example, Bakunin
held that the volitional abolition of the state should be the fi rst and foremost activity
of the more conspirational movement of the anarchists). Their prime positive exam-
ple was the Commune in Paris in 1871, which was doomed to fail because of its
local character and middle-class bias, but it nevertheless foreshadowed some prin-
ciples of the new society like the abolition of the police and army, the direct election
and possibility of permanent dismissal of the public servants and representatives;
their average worker salaries, etc. (MEW 17, p. 596). Marx was in favour of univer-
sal suffrage but he did not support a parliamentarian system because the (hypotheti-
cal) balance of powers would lead to the necessary alienation of the parliamentary
legislative power from the decision-making executive power.
For Marx the transcendence of the state as a separate body was essential because the
state no longer will be “a separate entity, beside and outside civil society; … it is noth-
ing more than the form of organization which the bourgeois necessarily adopt both for
internal and external purposes, for the mutual guarantee of their property and interests”
(Marx and Engels
1940 , p. 59, MEW 3, p. 62). In Marx’ view, society should call back
the differentiated state organs. But in the transition period between capitalism and com-
munism the so-called “revolutionary dictatorship of the proletariat” was held necessary
(MEW 19, p. 28). Although Marx always expressed this phrase in writings which were
not primarily planned to be published, this was undoubtedly a formulation which legiti-
mized the authoritarian and totalitarian concepts of the role of the revolutionary party
and the structure of state and society by Lenin and Stalin in the Soviet Union.
40
Even if we grant that a social structure which resembled more a military camp
than a free society was necessary due to external pressures (this was also Trotsky’s
argument for the military as a model for the society in transition), it cannot be
denied that the brutal extinction of the wealthier peasants and the concentration
camps of the Gulag (Solzenicyn
1974 ) could be legitimized by the phrase of the
dictatorship and the change from dialectical materialism to a more dogmatic, mas-
terminded total world-view.
41
4 0
In his detailed and fair analysis of Marx’ thought, White shows in how far “the ground [for orthodox
dialectical materialism in theory and praxis] had been prepared by Marx himself” (
1996 , p. 366).
In Chap. 2 , he highlights the romantic heritage in Marx which may explain much of his vision of
society in the future.
41
Take the following sentence of the Communist Manifesto as an example: “The law, morality,
religion, are for him so many bourgeois prejudices that hide just as many bourgeois interests”
(Marx
1996 , p. 11, MEW 4, p. 472). It may also be mentioned that the dialectical method was
conducive as a diabolic instrument to justify inhuman activities. Unfortunately, Marx never wrote
his promised book on method.
341
12 The Legacy of Karl Marx
But it may also be noticed that even Engels who is to a certain degree responsible
for the dogmatic materialist version noticed in his critique of the party program of
the social democrats that the democratic republic with universal suffrage is the
specifi c form of the dictatorship (MEW 22, p. 235). On the other hand, in the
Communist Manifesto the fi ght for democracy is described as follows: “The prole-
tariat will use its political power to strip all capital from the bourgeoisie piece by
piece, to centralise all instruments of production in the hands of the state, that is, the
proletariat organised as ruling class … Political power in its true sense is the
organised power of one class for oppressing another” (Marx
1996 , pp. 19–20, MEW 4,
p. 481–482). This sounds exactly like the authoritarian absolutist state type social-
ism in Russia after 1918. In their program for the transition period, Marx and Engels
proclaimed as practical immediate policies strong progressive taxes, the national-
ization of credit and transport, the abolition of all rights of inheritance, the abolition
of child labour and free education. In this context, it is remarkable that they also
mention a general coercion for everybody to work and the implementation of
“industrial armies”, especially in agriculture (MEW 4, p. 481). Their sophisticated
plan for action and legislation did not include the nationalization of industry as
such. In their program of the communist party in Germany, they added that every
German over 21 years should be eligible and elect the representative body of the
democratic republic (MEW 5, pp. 3–5).
After the transition phase, all production will be in the hands of the “associated
producers” (MEW 4, p. 482), and public power will loose its political character. In
the fi rst (socialist) phase, every worker gets a wage exactly equal to the product of
his labour (plus the necessary deductions, see MEW 19, p. 20). The principle is “to
each according to his work”. This is unjust insofar as one worker has to invest more
effort to produce the social average product, or he has a family to feed, etc. In the
later phase, after the overcoming of the “birth-marks of the old society”, in the
higher phase of communism, “society can inscribe on its banner: from each accord-
ing to his abilities, to each according to his needs” (Marx
1996 , p. 215, MEW 19, p. 21).
In this later phase, the state will be transformed from an institution superimposed on
society to one which is subordinated to society (MEW 19, p. 27), as Marx reiterates
further in his critique of the Gotha program of the social-democrats in 1875. He
often criticized the reformism of social-democracy. One point of disagreement
refers to the question evolution or revolution and the necessity of the use of physical
power, because in Marx’ view the working class has to fi ght for its right of emancipation
on the battlefi eld (MEW 17, p. 433).
It should be noted, however, that he did not proclaim a “law” that the transition
from capitalism to socialism could not be achieved without physical power and
some violence, especially where the working-class power through universal suf-
frage in England and the use of the collectivist Mir in Russia as an institution capa-
ble of a direct socialist transformation are concerned. He stated for example that “it
is possible that the struggle between the workers and the capitalists will be less ter-
rible and less bloody than the struggle between the feudal lords and the bourgeoisie
in England and France. Let us hope so” (MEW 16, p. 204). For Marx, joint stock
companies are the negation and transformation of the capitalist mode of production
342 H. Peukert
and a partial socialization of investment which breaks out of the control of private
property (see for example MEW 25, pp. 454–456). Engels seems to have adopted a
wholly evolutionary orientation in his later years. In his remarks to the Erfurt pro-
gram of the social-democrats, he sees the possibility of a peaceful evolution in dem-
ocratic republics like France and the USA and monarchies like England (MEW 22,
pp. 235–236). But it is interesting to note that he did not mention Germany. For
Marx and Engels, the most important conditions of success were that the objective
conditions were ripe for a basic transformation and that the consciousness of the
involved population undergoes a revolutionary qualitative change.
But let us return to their description of communism. We can observe a strong
eschatological tendency in Marx’ description of communism which is at odds with
his more open dialectical reasoning. This can be interpreted as a secularized experi-
ence of the Judeo-Christian tradition. This eschatological current is already obvious
in his early writings.
42
We already mentioned that Marx hoped that the division of
labour and its alienation would disappear in communism. The power of the eco-
nomic forces of supply and demand will be annulled because of reasonable associa-
tive planning, in harmony with nature or at least as its master, with an affl uence of
goods and a reduced or least fi xed working day,
43
working conditions which let
human’s capabilities fl ourish, and all this on a global scale (for example MEW 3,
pp. 33–35, and MEW 25, p. 828).
Besides its vagueness, a central problem with Marx’ vision is the utopian char-
acter and the hypothesis that the dimensions of alienation have only to do with the
private ownership of the means of production and are not, as mentioned, to a certain
degree necessary side-effects of the hierarchical organization of labour (not only) in
factories and of industrialization and urbanization; and that they depend also on the
simple fact that numbers matter. The larger the involved number of persons, the
higher is necessarily the impotence of the single individual even if a democratic
decision-making process is envisioned. The long-lasting debate on self-owned fi rms
also shows that the incentive and control problems do not easily disappear. Nove
(
1995 ) has demonstrated how chaotic the planning process in Russia really was and
the Austrian argument, that in the planning process elementary informations get
necessarily lost because they are bound to space and time, cannot easily be dis-
missed. It is also questionable if policy failures and rent-seeking activities will sim-
ply vanish with the abolition of the central classes.
At the moment, it seems that human beings in large-scale societies do not identify
with Aristotle’s anthropological dictum of man as a zoon politicon , but very often
come surprisingly close to the self-interested consumer of neoclassical theory with a
high degree of disinterest in politics. We can also ask if the problem of power,
defi ned here as the peaceful distribution of scarce resources by the institutional–legal
42
See for example the passages on private property and communism in the Economic-Philosophical
Manuscripts (EB, pp. 533 ff.).
43
Marx was relatively sure that the increase in future wants could be compensated by technological
innovations.
343
12 The Legacy of Karl Marx
nexus will disappear with the abolition of classes. There are also many more cleav-
ages between humans (local, race, national) which may nurture a qualifi ed social
identity but not a universal feeling of belonging and sameness. A prime example is
the quick change of opinion and support of the German social-democracy to the
credits to pay the costs of World War I in 1914 and the nationalist enthusiasm of the
working class to go to war after the rhetoric of international solidarity within the
frame of the second International. Marx and Engels seem to have underestimated
the strong forces which impede the solidarity of people who are situated in the same
living or class conditions and some deep-seated psychological-anthropological con-
stants. It seems as if the Veblenian diagnosis of emulation and status rivalry
44
based
on envy corresponds much more to the real behavioural traits of the present day and
yesterday Johnes’s than Marx’ class-conscious revolutionaries who have nothing to
lose but their (now more golden?) chains.
History shows that human beings “as men and women, as father and mother,
that is, as holders of specifi c sexual and familial roles very often behave less ratio-
nal and global, future minded and open to experiments … as Marx and Engels
assumed and hoped. … [It] is conspicuous, that they [human beings] have acted
and act more traditional, and oriented to the past, more emotional, irrational and
aggressive, but also more servile … [It is a fact] that the dependent always turns
against his master and exploiter. The frustration he experiences topples over the
outsider or also in the oppression of the even more weak … History is full of
examples where the aggression is directed against the foreigner and the national
enemy, against the ideological or religious enemy, but also against neighbours, col-
leagues, and equals, but fi nally also against outsiders and ‘outcasts’ [in German] as
ideal scapegoats. In so far they help to stabilize power relationships” (Flechtheim
1978 , pp. 43–44, and 70; our translation).
As mentioned, we can also question if Marx did not want too much in that he
disregarded trade-offs, for example between the social integrity of society and the
full development of every individual on the one hand and a high standard of techni-
cal effi ciency and productivity on the other hand. The latter may necessitate affec-
tive neutrality, patent monopoly rents and the dangers of unemployment and
disappearance from the market to keep the system running at pace. We can also ask
if it is not an illusion to demand a fi rst centralized stage called socialism with the
dictatorship of the proletariat and then assume that this is a good precondition for
the disappearance of all power and the dissolution in the friendly global community
of the associated producers in the second phase. It is hard to see how we can recon-
cile a rationally planned international socialist or communist economic system with
millions of people in the loosely organized, non-hierarchical social community of
the associated producers. There is a tension in Marx between his urge for economic
planning on the one hand and his sympathy with a decentralized-democratic political
polis like process on the other hand.
44
See Veblen ( 1995 ) and Frank ( 1985 ) .
344 H. Peukert
As we saw, Marx was also against a parliamentarian division of powers in the
tradition of Montesquieu. Today we know a little bit more about the problems of
direct unmediated democracy. One problem of a Commune or council system is the
high fragility of such a system. If a minority coordinates its voting behaviour it can
easily happen that the minority enforces decisions which do not represent the will
of the majority, like the Bolsheviks in 1918 in Russia. If there exists only one social
political hierarchy pillar, the seduction of unlimited power is immense as the history
of the former communist countries demonstrates; not the abolition of classes but the
reproduction of an emerging new class nurtured by state power as in the former
German Democratic Republic was the natural drift of history. In a certain sense, this
proves Marx’ assumptions on the role and importance of class interests, be this in
feudalism, capitalism and we have to add: socialism.
We have learned all these lessons in the short twentieth century
45
and we march
somewhat disillusioned into the next century. The utopian idealism and totalitarian-
ism is overcome, but the question remains if our present disenchantment is the last
word after overconfi dence. Let us ask therefore in a more balanced mood in how far
Marx could still be relevant today. What’s left?
Conclusion: Recent Contributions and Relevance
of Marxist Thought Today
One line of development of Marxist thought naturally depended on the Russian
revolution in 1917 and the transition from the civil war to a superpower. Lenin
(1870–1924) was the main theorist in this period. This more dogmatic-deterministic
interpretation of Marx found its culmination in Stalin’s (and in China in Mao Tse
Tung’s) writings. Besides the codifi cation of dogmatic Marxism,
46
there were also
relevant debates on how to organize the society and economy in a new socialist
country, how should for example the fi nancial, human and natural resources be
invested and divided among consumption and investment, etc.
47
Another debate took place in the confi nes and strategies of European social
democracy. In Germany, it was a long way from voluntaristic Marxism under prohi-
bition to Kautsky’s and later Bernstein’s revisionism,
48
to the Godesberger program
in the 1950s and diverse third ways at present.
45
See the “century report” by the realistically enlightened Marxist Hobsbawm ( 1995 ) .
46
As mentioned, the dogmatic aspect is already an undercurrent in Marx himself. It cannot be
denied that dogmatic Marxism – besides the underdevelopment of Russia and the hostile environ-
ment after the revolution – is essentially responsible for the atrocities in the former communist
countries. See Amalrik (
1970 ) and Courtois ( 1998 ) , the literary account by Köstler ( 1941 ) , and the
recent description of life under and after state communism by Bednarz (
1998 ) .
47
See the reconstruction of the debates and practical policies pursued in Elleinstein ( 1975 ) , for the
mostly unknown internal communist but heterodox debates see Wolter (
1976 ) .
48
As one of the examples for a further theoretical development see Hilderding ( 1947 ) .
345
12 The Legacy of Karl Marx
There was a strong infl uence of Marxism on the decolonization policies in the
1960s and 1970s in Asia, Africa, and Latin America where for example the
peaceful socialist policy by Allende in Chile was suppressed by national and
American military forces. The infl uence of Marxism on Christian thought was
felt in for example South Africa and Roman Catholicism in South America (the
theology of liberation by archbishop Camarra). Marxism infl uenced the student’s
uprisings in 1968 and the feminist, antiracism, the peace and the environmental
movements.
49
Out of these movements and the experience with the state communist countries
(which amounted to at least one third of the world population in the 1970s and
1980s) developed what may be called intellectual Marxism which went beyond the
classical critique of capitalism. It includes the reception of Freudian psychoanaly-
sis,
50
the changing role of the state in capitalism,
51
the history of the worker’s move-
ment,
52
a critical analysis of law,
53
the critique of the commodity aesthetics and
ideology in capitalism,
54
the reception of Marxism in critical American institution-
alism in the tradition of Veblen and Commons,
55
etc.
One major strand of critical Marxism is the negative dialectics of the Frankfurt
critical school, originally developed by Horkheimer and Adorno,
56
where all escha-
tological dreams have been abandoned. Their most relevant disciple today is
Habermas who after the linguistic turn supplemented the Marxian concept of labour
as an elementary category of human self-expression by the autonomous dimension
of communicative interaction
57
which should not be distorted.
It is not possible to review critical-intellectual Marxism in detail here.
58
Instead,
let us ask briefl y if a reformulated Marxism should have a place in the universe of
science and public discourse today. Paradoxically, with the demise of socialism and
the rise of capitalism as the dominating universal and globalizing system,
59
the
Marx’ way of looking at economy and society from an economic interest and
49
It is a fact that almost all leading members of the German green party who have offi cial posts now
are former members of diverse Marxist groups.
50
Reich ( 1945 ) and Marcuse ( 1966 ) .
51
Offe ( 1996 ) .
52
Thompson ( 1997 ) , Hobsbawm and to a certain degree the research of the French “Annales”
school.
53
Abendroth ( 1967 ) .
54
Haug ( 1993 ) .
55
Knoedler et al. ( 1999 ) .
56
Horkheimer and Adorno ( 1999 ) ; see also Jay ( 1996 ) and Demirovic ( 1999 ) .
57
Habermas ( 1985 ) .
58
See for example Castoriades ( 1997 ) .
59
We can briefl y defi ne globalization by the emergence of supertrader nations, the slicing up of the
value chains and the internationalization of capital fl ows. For a comprehensive analysis see Axelrod
(
1995 ) and Dicken ( 1992 ) .
346 H. Peukert
contradiction of interests and exploitation/alienation paradigm
60
may play a role in
emphasizing the global and never-ending character of capital accumulation and
direct our attention to the price of its normless dynamism in the economic, political,
social, cultural, ecological,
61
and anthropological dimensions.
62
In the economic dimension, let us only briefl y mention the constant reproduction
of a rising international reserve army,
63
the problem of increasing inequality between
nations
64
and in the confi nes of nations,
65
the dysfunctional aspects of speculation
over enterprise and the public policy in favour not of Main but of Wall Street,
66
the
feeling of many people to life in an unjust and irrational society where the increase
of unemployment is greeted with an increase in stock prices. Further, an economic
system in which the link between effort and reward became relatively loose (winner-
takes-all problem). The increase of internationally operating few oligopolies in major
branches of industry,
67
the increasing practice of fi rms to lengthen the work-day
without a monetary compensation due to the dangers to become unemployed in the
age of downsizing,
68
and the international discrepancy between supply and demand
and the resulting overaccumulation of capital for example in the car industry, may be
taken as negative examples of global capitalism today from a Marxian perspective.
In the political sphere, the more and more subordinate role of the state to short-
run business interests and the state’s inability to confi scate suffi cient taxes due to the
mobility of capital deserves critical recognition.
69
The subjugation of all life
60
An account of globalism in a non-dogmatic Marxian perspective, emphasizing the economic,
cultural, social and ecological limits of globalization is given by Altvater and Mahnkopf (
1997 ) ;
see also Hirst and Thompson (
1996 ) with a Marxist bias. For a more general critical perspective
see Mander and Goldsmith (
1997 ). Bourdieu et al. ( 1998 ) offer many life histories on the negative
impacts of globalization on individual destinies.
61
On Marx’ concept of nature see Schmidt ( 1993 ) .
62
The broad reception of books like the globalization trap by Martin and Schumann ( 1989 ) and
Forrester’s (
1997 ) terror of the economy demonstrate that many people in Europe are very scepti-
cal about the fundamental changes taking place.
63
In Europe, unemployment is high and wage deterioration is not so strong. In the US unemploy-
ment is much lower but wages are stagnating or sinking.
64
See the yearly United Nations Development Reports ; in the three composite dimensions of
income, health and education one third of all countries are falling behind, some of them also in
absolute terms.
65
Reich ( 1991 ) argues that a cleavage in income and living chances between the 20% working in
the symbolic-analytical realm and the 80% performing routine activities will take place and lead to
major social disruptions if not counterbalanced by public policy.
66
See the intricate analysis of Henwood ( 1997 ) , who shows how Marxist ideas can inspire research
if applied in a non-dogmatic way.
67
Like the car, oil, banking, and insurance industries, see the data collection by Sherman ( 1996 ) .
68
In for example Germany behind the offi cial social market regulative institutions like collective
agreements there is a silent revolution to erode classical labour contracts and insurance. Among
these innovations, part time labour without insurance, fi ctitious working independence, the length-
ening of the time of probation etc. become usual.
69
See the profound essay by Narr and Schubert ( 1994 ) who argue that the reconciliation between
freedom, solidarity and material well-being becomes more and more problematic.
347
12 The Legacy of Karl Marx
processes to the profi t motive and commodifi cation, the dissolution of social bonds,
70
the downgrading or international McDonaldization of culture,
71
the visible shrink-
ing of high culture (literature, theatres, cultural foreign self-presentation like the
Goethe-Institutes in Germany), and the commercialization and banalization of the
mass media (especially TV),
72
can be interpreted as the increase in the three dimen-
sions of alienation worked out by Marx.
73
It is the fi nal price of commercialized
capitalism in which the logic of profi t-maximization and commodifi cation invades
all spheres of society
74
and transforms the individual character
75
into what intellec-
tual-critical Marxists in the Hegelian tradition called an unhappy consciousness.
All this is not to say that Marx’ predictions of the future of capitalism were cor-
rect. He often thought that socialism is a simple necessity in the not too distant
future, and that the class struggle will lead to revolution and not to an integration of
the working class into the capitalist system. He underrated the innovative dynamism
of capitalist innovations to counteract the presumed fall in the rate of profi t. He
thought that the population in the capitalist centre would continue to increase.
He did not see the population explosion in the so-called underdeveloped countries
and he did (and maybe could) not foresee the dramatic global degradation of
the environment.
The most radical consequence of the present situation is drawn in a Marxist
perspective by Sarkar (
1999 ) who argues that humanity’s basic choices are universal
capitalism and ecological disaster or what he calls eco-socialism, characterized by
the values of equality, co-operation and solidarity. For him, the former socialist
countries (which primarily tried to catch up economically) and capitalism are vari-
ants of industrialism and “economism”, that is, continuous growth is considered
possible and desirable and material affl uence is held necessary for a good life. An
opinion, we also found in Marx. For Sarkar, socialism today is more a question of
human relations and moral growth and less of economic development. Sarkar argues
that today the human specie has to take care of its survival facing the degradation of
nature and the biosphere. Therefore, a sustainable socialism has to be combined
with a limit to growth paradigm. Presently, the forces of production are not developed
70
See the critical report on the disappearance of the civil spirit in America due to the increase in the
pursuit of egoistic material self-interest by Bellah et al. (
1996 ) .
71
The dialectical relationship between a commercial world culture and reacting defensive funda-
mentalism is shown in Barber (
1996 ).
72
The infl uence and policies of the internationally operating dream factories in the entertainment
sector are discussed in Barnet (
1994 ) .
73
The (self-)alienating character of modern life and behaviour is for example demonstrated in
Reheis (
1996 ) .
74
In the debate on ethics this has been worked out by Walzer ( 1989 ) .
75
Sennett ( 1998 ) argues that a socially dysfunctional corrosion of character and not the ascent of
the children of freedom (U. Beck) takes place in the modern, fl exible, networking economies
because what is good behaviour in the economy (“fl exibility”) turns out to be a catastrophe in
social relationships (“unreliability”). This makes people unhappy and they try to play multiple
roles as a behavioural response. But this provokes behavioural and motivational double standards
Marx already castigated in his Economic-Philosophical Manuscripts 150 years ago.
348 H. Peukert
enough but due to ecological restraints they are too developed. An ecological policy
in capitalism is doomed to fail because Marx was right that capitalism is essentially
combined with the accumulation and extension of capital and the motivational
forces of greed, status emulation and profi t.
Eco-socialism means fi rst contraction of the level of production and then a low-level
steady state economy with a policy of simplifi ed needs, the ecological regulation by a
world economic trade council, de-centralized production structures (also due to the
increased prices for transportation), and labour-intensive technologies. A one-world
perspective, the active creation of a new vision of global civilization which may include
a non-theistic spirituality is warranted in Sarkar’s view in which socialism means fi rst
of all a change in values. Practically it means the planned and ordered retreat of the
overdeveloped forces of production, the contraction of the industrial economies, in
terms of GDP, energy consumption, etc. per head in the developed countries and a stop
of population growth in countries with a growing population. In contrast to Marx’
vision which depended on the much lower development of the means of production at
his time, this vision would entail the acceptance of a lower standard of living (but not
necessarily of happiness) than today which can be better accepted if the sacrifi ces are
borne proportionately, which means a policy of radical equality.
The eschatological component of Marx and his promise to ameliorate all dimen-
sions of human life
76
which disregards some societal trade-offs are less apparent in
Sarkar’s reformulation. The problem we face today may be that if we are honest and
accept what we all know about world-wide ecological degradation and the catastro-
phe ahead in the presence of the rapid development in the newly industrializing
countries like China with billions of ambitious consumers we understand the pos-
sible urgency of Sarkar’s position. On the other hand, we know today that the
attempt to plan an economy on a large scale may lead to an ultra-authoritarian politi-
cal system, in this case an eco-dictatorship.
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351
JG B kh ( d) HdbkfhHi fE iTh h
Introduction
Modern history of economic thought applies diverse methods of analysis and
interpretation of historical data and economic works. The following contribution
turns to Friedrich List (1789–1846), the multi-talented author of numerous writings
on economic integration and development during the fi rst half of the nineteenth
century in Europe and the USA. This chapter contains fi ve sections dealing with
(1) biographical notes, (2) historical data and notes covering the context of the
author’s works in political economy, (3) a summary of List’s major contributions,
(4) a survey on present views of List’s works and (5) an evaluation of List’s contribu-
tions from the point of view of modern economic theory and political economy.
The biographical data and notes expose three phases of List’s life and activities:
in the Kingdom of Württemberg and other German states (up to 1825), in Pennsylvania
and the USA (1825–1832), again in Germany and other European countries
(1832–1846).
The historical data and notes concern the structure and reforms of public admin-
istration and public fi nance, and the indicators of economic development in
Württemberg, Pennsylvania and Germany during the phases of List’s life.
List’s major contributions are summarized as to three main fi elds of his activities:
(1) public administration, (2) economic development and (3) infrastructure policy,
especially concerning education and transportation. The result is that there is more
continuity in List’s visions and writings than it was presumed.
This statement turns out to be valid also for the evaluation on the grounds of present
views of List’s writings and of modern economic theory and political economy.
Mainly List’s theory of productive powers, his arguments concerning educative
K.-H. Schmidt (*)
Department of Economics, University Paderborn, Warburger Street 100 ,
33098 Paderborn, Germany
e-mail: [email protected]
Chapter 13
Friedrich List’s Striving for Economic
Integration and Development
Karl-Heinz Schmidt
352 K.-H. Schmidt
tariffs, his endeavours regarding innovations of new technologies and his contributions
in the fi eld of public administration and public fi nance are acknowledged.
Summarizing, List is understood as an author of the early nineteenth century
who looked forward to the future of Europe and the USA even to a world-wide
economic system and a “world-state”. We should read his articles, pamphlets and
books again in order “to go back to the roots” and to conclude from List’s arguments
and results on behalf of our future.
Biographical Notes on Friedrich List (1789–1846)
From the point of view of modern history of economic thought, it is interesting to
learn how differently authors of diverse time periods, scientifi c origin, schools or
methodologies have interpreted the biographical data of Friedrich List. This German
clerk, bureaucrat, autodidact economist, professor, manager, politician and journalist
lived during a pre-revolutionary time period (Brinkmann
1959 , p 634). He was
tremendously creative as to proposals for reforms of bureaucracies, politics and
infrastructure, but as to the majority of his proposals and projects he failed, resigned,
was opposed to the political institutions and even had to emigrate for several years
of his life. He ended his life by suicide. But his numerous published works were
discussed and translated world-wide. He became the most popular and well-known
German author of political economy of the nineteenth century – apart from Karl Marx.
To enumerate the main important biographical data of Friedrich List, the following
informations are listed (Henderson
1983 , pp 1 ff; Häuser 1989 , pp 227 ff; Seidenfus
1987 , p 926): He was born in 1789 in the Swabian city of Reutlingen, located in the
former Kingdom of Württemberg. His father was a well-known artisan and politician
in that city, and the young Friedrich List entered his father’s business after having
quitted high school. But he disliked that job and started a career as a clerk in the
small city of Blaubeuren. After exams, he worked in Ulm and Tübingen. Here,
he participated in lectures at the University and practised self-instruction and private
studies. After several exams he became a secretary and high-ranked bureaucrat –
“Rechnungsrat” – of the public administration (1816). As long as liberal ideas were
tolerated in Württemberg after the wars against Napoleon, List was allowed to expose
his liberal ideas. He even was promoted to teach public administration (“Staatspraxis”)
as a professor at the University of Tübingen. But the political reaction by the conser-
vative politician Metternich and his adherents brought List in a confl ict with the
political system. Moreover, he became involved in the foundation of an organization
of tradesmen and manufacturers in Frankfurt, in a foreign country. This event was too
much of a burden for the political system of Württemberg; to avoid further confl icts,
List decided to quit his activities in the University of Tübingen (1819). Having returned
to his native town of Reutlingen he was elected to act as a deputy in the Chamber of
Württemberg. But again he failed, this time because of his provocative writings on
public administration and on publicity of court proceedings. The Government imme-
diately ordered his exclusion from the Chamber and his condemnation to 10 months
353
13 Friedrich List’s Striving for Economic Integration and Development
of jail. List escaped. Since then his life was determined by unrest and trouble. He
tried to live in France, in Switzerland and in the German state of Baden, but he was
not allowed to stay. Therefore, he returned to Württemberg in order to ask the King
to forgive him. But again he was put to jail (1825). Only under the condition of emi-
grating to the USA he was allowed to leave the prison (1825).
In America List settled for 5 years in Pennsylvania (1825–1830). Being always
active, creative and fl exible, he became a successful journalist, adviser of politi-
cians, farmer and entrepreneur. As vice-president of the “Little Schuylkill Navigation
Rail Road and Coal Company”, he contributed to the development of one of the
fi rst American railroad networks. In Reading (PA) he founded a German-language
newspaper, the “Adler;” it turned out to be an effective instrument of a movement
for protective tariff policy. His creative ideas and proposals even infl uenced the
concept and measures of American economic policy. On behalf of his reputation
and infl uence, he was appointed to act as a consul in Hamburg (1830), but because
of political opposition he could only start this career in Baden (1832) and Leipzig,
Saxonia (1834).
Back in Germany, List became a moving force aiming at unifi cation, reforms
of tariff systems and acceleration of the development of roads and railroad
networks. He worked on projects of German railroad companies and tracks, especially
in Saxonia, but he could not get a long-term contract as a company manager.
He failed again.
Therefore List left Germany again. He went to Paris (1837), there he wrote two
essays, which he sent to the French Academy of Moral and Political Sciences, yet, with-
out any success. But he developed the concept of these essays furthermore, and (early in
1840) he fi nished his book on the “National System of Political Economy”. His pub-
lisher Cotta, Stuttgart and Tübingen, accepted and published it (List
1841 , 1927–1936 ,
1971 ). The book was a great success, and List had in mind to write additional volumes.
But neither in Württemberg nor in Bavaria or elsewhere he could get a long-term
appointment. He refused the position of chief-editor of a new journal, the “Rheinische
Zeitung”, a job which then was offered to Karl Marx. List instead established a new
journal by Cotta since 1843, when List moved to Augsburg. Here he published more
than 600 articles. He had success and earned money rather continuously. But he failed
again, because he fell into serious confl icts with his publisher, the younger Cotta.
List again preferred to travel and to advise bureaucrats and politicians. He trav-
elled to Vienna, Preßburg and Budapest (1844), in order to advertise his ideas on a
customs union and on railroad networks in Europe. He also tried to convince the states
of Northern Germany, especially Hannover, Hamburg and Bremen, to enter the customs
union. List therefore travelled to England in order to advertise his idea of educative
tariffs (1846). But he came back to Germany without success. He decided to recover
for a few weeks in Meran. Being underway, in Kufstein, Austria, he fi nished his last
travel (November 30th, 1846), after having suffered from heavy pain in his head,
depression and unrest. Edgar Salin, the former president of the List Society and
author of famous books and articles on Political Economy, called List’s life “the
tragedy of a political visionary”, a man who relied on the strength of the future,
but who was broken by the strength of his present time ( Salin
1960 , p. 5 f).
354 K.-H. Schmidt
Historical Data and Notes
List was born in 1789, the year of the French Revolution, and his life ended in 1846,
2 years prior to the German Revolution. During the fi rst half of the nineteenth century
he survived the wars against Napoleon, followed by the policies of restoration and
reconstruction in Europe, the agricultural crises after 1815 and the social and economic
effects of the industrialization lagging behind the technological changes and
economic development of England since the 1820s (Häuser 1989 , pp 227–230;
Recktenwald (ed)
1989 ). List recognized that the Kingdom of Württemberg had to
carry out reforms of the public administration, public policy, trade and industrial
policy. The state had to bear high amounts of costs of adaptation to new conditions
of production and trade.
The following historical data are important indicators of the structural disruptions,
social confl icts and barriers of economic development in List’s environment; herewith
three levels of analysis have to be distinguished (Kiesewetter, Fremdling (eds) (
1985 ):
(1) The regional level, especially the Kingdom of Württemberg, (2) the national
level, especially the German states and (3) the international level, especially the
USA, moreover the state of Pennsylvania.
Though the wars against Napoleon, the English continental barrier policy and the
French continental system of trade barriers seem to have been less harmful as to the
majority of the German states than these policies were evaluated by earlier studies,
the Kingdom of Württemberg had to solve three main problems of economic devel-
opment (Cipolla and Borchardt (
1976 – 1980 ); vol. 4; pp 146 ff):
(1a) the pre-industrial population pressure, (1b) the crises of agricultural production, and
(1c) the reorganization of trade policy and economic policy.
List’s early analyses of the economic situation of the German states were based on
three groups of causes: societal, internal economic and international economic causes.
His diagnosis exposed the agricultural sector as the basic pillar of any industrial pro-
duction system, but it also demonstrated a general economic depression. In order to
push the economic development, List recommended a German trade system. It should
apply two measures: abolishment of internal tariffs in Germany and the introduction
of a general tariff level to be applied by the whole Federation of the German States.
The latter, yet, should be applied only defensively, until all nations would practise free
trade everywhere. These defensive and restricted tariffs were understood by List to
practise three functions: external protection, internal protection and external self-
defence of a country, the latter including his demand for a retaliatory measure.
The crises of the agricultural production strongly infl uenced the development of
population. Bad harvest (1816/1817) and good harvest (1817 and later) brought
about rough changes in corn prices. The population was pressed to the minimum of
subsistence. Mortality and emigration were increased, birth-rates were decreased.
During the 1840s again agricultural crises and emigration of parts of the popula-
tion characterized the economic development in Germany. At a growing extent
social confl icts were exposed, but mainly because the industrialization process
began to infl uence the manufacturing production in various German states, to some
extent also in the Kin
g
dom of Württember
g
(
Müssi
gg
an
g
1968 ; Strösslin 1968
)
.
355
13 Friedrich List’s Striving for Economic Integration and Development
The political changes and the instability of the economic development in Europe
also infl uenced the political and economic development in the USA at the beginning
of the nineteenth century. The expanding cotton production in the southern states
and the decrease of manufacturing and industrial production in the Northeast
brought about the fi rst depression in the USA (Schafmeister
1995 , p. 177). When
List arrived in Pennsylvania, the country was involved in heavy structural changes
and political reorganization. Consequently, List found environmental – political and
economic – conditions, which may have been nearly familiar to him, as there was
also a great need of adaptation in Pennsylvania, a problem well known to him from
his home nation Germany.
List’s Major Contributions to Political Economy
Friedrich List’s contributions to political economy can be arranged in three groups,
covering three different fi elds: (1) articles and pamphlets on public administration
and public fi nance (2) economic development policy and (3) infrastructure policy,
especially transportation, education and integration systems. His life-time includes
three phases, the fi rst and third of which he spent in Europe, mainly in German states,
while during the second phase he worked in the USA. The topics of his contributions
to political economy differed during those phases. The fi rst phase – the time prior to
his enforced emigration to the USA (1825) – starts with lectures on political economy
and writings on public administration and public fi nance. The second phase – his stay
in the USA (1825–1832) – is dominated by publications on economic development,
especially on protective (educative) tariffs and customs unions and on railroads
and additional transportation networks. The third phase – covering List’s return to
Europe and his diverse activities in diverse German states and neighbour countries
(1832–1846) – is characterized by publications on economic integration, especially
on industrialization and trade and on the development of railroads and transportation
systems in Germany and Central Europe (Table
13.1 ) .
Comparing the activities and publications which List carried out during these
periods, it seems that there was much discontinuity in his life. In contrast to this
Table 13.1 Periods of F. List’s lifetime and activities
1815–1825: fi rst phase: List in Germany
1815 “Sulzer Petition”: List’s ideas and proposals for a new Constitution of the
Kingdom of Württemberg
1815–1819 Confl ict concerning the legislation of a new Constitution of the Kingdom
of Württemberg
1819 New legislation on public fi nance. List’s criticism of public administration
and public fi nance
1820 “Reutlinger Petition”: demand for a fi scal budget plan, including the
reduction of tax rates and public expenditures
(continued)
356 K.-H. Schmidt
Table 13.1 (continued)
1816–1820 Articles and reports on the causes and effects of poverty, population and
emigration to America; fi rst chamber speech: “On Württemberg’s
Trade Policy” (13.12.1820), List Werke 1.2, p. 673
Articles and pamphlets on Württemberg’s trade policy and trade
development
1819 First Petition to the German Federal Assembly (April 14th, 1819)
To abolish the internal tariffs in Germany
To introduce a general, defensive and restricted external tariff of all
German States
1818–1819 Lectures on taxation and public administration and policy
(“Polizeiwissenschaft”)
1819/1820 Petitions, pamphlets and articles on the economic situation, the develop-
ment of manufacturing production and trade and the trade policy in
Germany; demand for a “German Trade System”
1820 Petition concerning the situation of trade and manufacturing in Germany
(Petition to the Vienna Congress, February 15th, 1820): “Trade,
manufacturing and agriculture of the Germans, the whole productive
power of the nation, is fi xed and weakened by tariffs … and restric-
tions…” (Werke, 1.2, 1820, p. 528)
1822–1825 Imprisonment, refuge to neighbouring states, return to Württemberg,
arrest in the prison Hohen Asperg near Ludwigsburg/Stuttgart, release
under the condition of emigration to the USA
1824 First contacts with railroads in England
1824 List proposed to build a railway track from the Black Forest to the lower
areas
In Le Havre (4/1825) List wrote in his notebook that a railway network
should be developed, in order to connect Le Havre with the river Rhine
in Southern Germany; the growth of trade and the decrease of
transportation costs would be the effects; “Es lebe der Dampf”
(4/1825)
1825–1832: second phase: List in the USA
1827 Outlines of American Political Economy, in a series of letters … to
Charles Ingersoll …, printed by Samuel Parker, Philadelphia
1829 Mitteilungen aus Nordamerika von Fr. List, hrsg. V. E. Weber und E.W.
Arnoldi, Hamburg, Hoffmann + Campe
1829 Reports on the improvement of the Little Schuylkill, Reading, in: Madison
Papers, vol 78, 1829
1832–1846: third phase: List in Europe
1827 Das natürliche System der politischen Ökonomie, Pariser Preisschrift von
1837, Akademie-Verlag, Berlin (Ost), 1961
1837 Die Welt bewegt sich: Über die Auswirkungen der Dempfkraft und der
neuen Transportmittel auf die Wirtschaft, das bürgerliche Leben, das
soziale Gefüge und die Macht der Nationen, Pariser Preisschrift von
1837, hrsg. v. E. Wendler, Vandenhoeck & Ruprecht, Göttingen 1985
1841 Das nationale System der politischen Oekonomie, Erster Band, Der
internationale Handel, die Handelspolitik und der deutsche Zollverein,
J.G. Cotta’scher Verlag, Stuttgart und Tübingen, 1841, Neudruck,
Sammlung socialwissenschaftlicher Meister, hrsg. v. H. Waentig, 5.
Aufl age, Jena 1928
357
13 Friedrich List’s Striving for Economic Integration and Development
hypothesis, yet, List’s works may also be interpreted to point out continuity of the
development of his ideas, concepts, demands and programmes. His central target
during his whole life turns out to be the increase of welfare and wealth for the nation
and for mankind, of course with differentiation of the medium-term and long-term
targets and of the measures to be applied.
In his articles on public administration and public fi nance, List demanded more
effi cient methods of organization of the relations between the individuals and the
state (Eisermann
1956 , pp 111f). He complained about mismanagement of public
administration and ineffective organization of the public fi nance system. His ideas
and proposals were orientated to the increase of individual freedom and of coop-
eration of institutions up to the level of a world-wide state (“Weltstaat”) (1818).
The intensive relations between the individuals and the state should furthermore
characterize the economic development of the nations. Therefore, he wrote down
his defi nition of economics: “…die Lehre von den Naturgesetzen der Produktion
materieller Güter durch Handel, Gewerbe und Ackerbau, von ihrer Verteilung und
endlich von ihrer Konsumtion, welche Lehre nun als Richtschnur dienen muß,
inwiefern die Einwirkung der Staatsgewalt für das wirtschaftliche Wohl des einzelnen,
der Staaten und der Menschheit nützlich oder schädlich ist, also den Rechten des
einzelnen, dem” Zweck des Staates und der Bestimmung der Menschheit entspricht
oder nicht (List Werke 1.1, Enzyklopädie der Staatswissenschaften, 1823, p. 440;
Schafmeister
1995 , p. 281 f).
List’s writings of the fi rst phase concerned the Constitution of the State and the
public administration, but by working on the reform of the Constitution and the
public administration of the Kingdom of Württemberg, he became interested also
in the problems of trade policy and economic policy. In his pamphlets and articles,
he exposed two demands: (1) representation of the people by the Constitution and
(2) the principle of publicity (Schafmeister
1995 , p. 82).
List demanded that the state should be based on the freedom of the individual
citizen. In his view the public power will follow from summing up all individual powers
in order to realize the total welfare. But in order to make sure that the individual
person can live in “rational freedom”, independent corporations (Korporationen)
and independent communities are needed, according to List’s demands. The state
primarily is to set up the general legislation and to make use of the power of individuals
and communities, yet, without restricting the individual freedom too much. Second,
the state has to leave the corporations in their fi eld, to fulfi l their targets based on
specifi c statutes which must be coordinated with the legislation of the state. List
obviously argued in favour of federalism. The basic element is the “rational freedom”
of the individual citizen. He is understood to live as a member of his autonomous,
self-administered community, where the individual is organized in corporations.
They are orientated by statutes to the general legislation of the state.
Summarizing, List substantiated his vision of federalism by four arguments:
(1) strong interest of the individual in the satisfaction of the individual preferences,
(2) strong relations between the individual citizen and the state by close relations
between the corporations, (3) increase of civil freedom by free corporations and
(4) increase of productivity by increase of freedom of the citizens and corporations
(Schafmeister
1995 , p. 83 f ).
358 K.-H. Schmidt
The writings, in which List exposed his ideas and demands concerning the public
ideas and demands concerning the public administration and public fi nance, are
published in his Collected Works (von Beckerath E, Goeser K, Lenz F, Notz W,
Salin E, Sommer A, Sch K.-H (eds) (1971): Friedrich List Schriften/Reden/Briefe,
10 volumes, reprint, Scientia Verlag Aalen, cited as: Werke 1–10). In his earlier
articles he criticized the Government and the public administration on the grounds
of his liberal views of public policy. He mainly commented on the reforms of the
Constitution of the Kingdom of Württemberg (von Beckerath E et al (eds) (1971)
Friedrich List (1816): Werke 1–10, reprint , Scientia Verlag Aalen, especially List
(1816): Gedanken über die württembergische Staatsregierung, Werke 1, 87–148,
823–843; List (1816/1817): Kritik des Verfassungsentwurfs, Werke 1, 205–283,
863–900; List (1818): Die Staatskunde und Staatspraxis Württembergs im Grundriß,
Werke 1, 284–307, 900–903). Apart from his statements and comments on the
reforms of the Constitution and of the public administration on the grounds of per-
sonal experience and accumulated knowledge, List created a coherent system of
aims, institutions and instruments of community economics (List (1816/1817):
System der Gemeindewirtschaft, Werke 1, 149–204, 843–863). He furthermore
commented on the functions and failures of the institutions of public administration,
herewith developing basics of institutional economics (List (1818): Über die
Verfassung und Verwaltung der Korporationen (Vorlesung), Werke 1, 308–316,
903–905); List (1817): Gutachten über die Errichtung einer staatswirtschaftlichen
Fakultät, Werke 1, 341–352; 914–921; List (1817): Über die württembergische
Verfassung, Werke 1, 353–434, 921–942; List (1823): Enzyklopädie der
Staatswissenschaften, Werke 1, (435–445, 942–944). Further writings directly
turned to the basic problems of the reforms of public fi nance (List (1820): Zur würt-
tembergischen Finanzreform (Kammerrede), Werke 1, 333–337, 909–911).
In these writings List insisted on two principles of his visions: (1) representation
of the people and (2) publicity of the decisions of public administration and public
fi nance. The latter he turned to in several articles and pamphlets concerning his
demands for more effi cient taxation, the decrease of public expenditures and the
reform of the organization of public administration and decision-making in public
fi nance (Schafmeister
1995 , 85). In his expert evidence concerning the establishment
of a special faculty of public economics (Staatswissenschaftliche Fakultät) at the
University of Tübingen, List demanded a general scientifi c analysis of public admin-
istration and public fi nance at the university level (List (1817): Gutachten über die
Errichtung einer staatswissenschaftlichen Fakultät, Werke 1, 341–352, 914–921).
List’s basic concept of the state, public administration and public fi nance can be
recognized from his writings on the system of community economics and on the
public institutions and practice of public policy in the Kingdom of Württemberg
(Klein
1974 ). His thoughts referring to the Government of Württemberg point out
the relations of the constitution, the government and the public administration (List
(1816): Gedanken über die württembergische Staatsregierung, Werke 1, 88–148).
The author herewith develops economic principles of public legislation and public
administration. He emphasizes the coordination of public offi ces and the hierarchy
of the institutions of public administration. But instead of demanding general
359
13 Friedrich List’s Striving for Economic Integration and Development
principles, List points out that differentiated arrangements are needed because of
the diversity of the geographical location, the specialization of functions and the
different strengths of the public servants (List (1816): Gedanken über die württem-
bergische Staatsregierung, 96).
The community is characterized to be of the same “nature” as in the state as a
whole. List argues that in the small unit all institutions are related to each other as
in the large unit, on the state level. He explains the constitution of the community
being composed by a basic constitution (“Grundverfassung”) and a constitution of
the local government, comparable to the state level. The basic constitution deter-
mines the purposes, the legal relations and the institutions of the community. The
constitution of the local government concerns regulations of the processing of com-
munity policy and administration. List’s defi nition of the community is based on the
relations between the individual and the state: the community is a relation ordered
by the state, referring to a number of citizens living in a certain district and consider-
ing their person and their property pursuing two purposes: fi rst, to increase the indi-
vidual welfare by cooperative activities as it would be possible without additional
cooperation with other communities, and second, to consolidate the state and to
enable a regular public administration of the state. Each community consists of two
elements: the object, i.e. the property of the citizens located in the community district,
and the subject, that is the relations of the persons and their individual rights.
The purpose of the community is to be realized by three kinds of special purposes:
(a) law and jurisdiction (“Rechtspfl ege”), (b) welfare and security (“Wohlfahrtspfl ege”,
“Polizei”) and (c) maintenance and utilization of the community property (community
economics, “Gemeindewirtschaft”). List explains the latter by distinction of a
material part, regarding the principles, and a formal part, concerning the institutions
and processing of public fi nance on the community level. The receipts of the com-
munity are composed of regular and accidental receipts, and the regular receipts are
distinguished as being of a specifi c or a subsidiary kind. Interestingly, List deals
with local taxes as receipts of a subsidiary kind. The principles as to which the private
property is to be taxed in order to satisfy the preferences of the state are dealt with
in a short paragraph only. Every person is to be taxed according to the personal
wealth. List calls it “the theory of Wilhelm Tell” (List (1816/1817): System der
Gemeindewirtschaft, Werke 1, 149–204, esp. 190). But List also argues in favour of
indirect taxes – except tariffs. The method to be applied should be to leave a certain
proportion of the total receipts of the indirect taxes to the communities (List
(1816/1817), 192). This proposal is under discussion continuously.
Regarding List’s further writings on public fi nance and public administration, it
turns out that they are orientated to start from the empirical data and problems in the
Kingdom of Württemberg, but that the author attempts to draw general conclusions
as to the stabilization of the state and the economic development. Figure
13.1
exposes List’s view of the political and economic problems in the Kingdom of
Württemberg 1815–1825. Figure
13.2 shows his criticism of the public adminis-
tration and public fi nance in Württemberg 1816–1821. So far the fi rst group of List’s
writings are considered.
360 K.-H. Schmidt
The second group of List’s writings mainly concerns problems and proposals
referring to the policy of economic development (Strösslin
1968 ; Tribe 1988a ;
Schumpeter
1965 vol I, p 619; Winkel 1977 , pp 75 ff). Though these publications
cover a variety of problems of economic integration and infrastructure investment,
the hypothesis of continuity of List’s ideas and visions in his writings turns out to be
valid again.
In his early German writings of the fi rst phase, List already pointed out that the
state should increase the national welfare by public institutions, which should function
as adequate means in order to strive for external security of the society and internal
security in the country. List argued in favour of an externally independent state,
Economic crisis
(agriculture manufacturing)
Conflicts in
Württemberg
Sectoral differences of economic
development in Württemberg
New
constitution
Public
admini-
stration and
public
finance
Political
parties in
parlia-
ment
Legis-
lation on
the
commu-
nities and
cooper-
ations
Parlia-
mentary
debates
on the
budget
Interest
groups
influence
parlia-ment
Agri-
cultural
crisis
„Pau-
perism“/“
Malthu-
sian
situation“
First
phase of
indu-
strial-
ization
• European Wars against Napoleon
• Congress of Vienna, 1815
New political order of the states in
Europe
Political and Economic Problems in the Kingdom of Württemberg 1815 – 1825
Sources: List Werke, 1.1, 1.2, Divers Publications, 1816-1820
Fig. 13.1 Political and economic problems in the Kingdom of Württemberg 1815–1825. Sources:
List Werke, 1.1, 1.2, Diverse Publications, 1816–1820
361
13 Friedrich List’s Striving for Economic Integration and Development
disposing of public institutions which should be characterized by adequate oppor-
tunities of decision-making and implementation (List, Werke 1.1, Enzyklopädie der
Staatswissenschaften, 1823, p. 440; Werke 1.2, Denkschrift: Die Handels- und
Gewerbsverhältnisse Deutschlands betreffend, 1820, p. 528; Werke 1.2, Bittschrift
an die Bundesversammlung, 1819, p. 494; Werke 1.1, Die Staatskunde und Staatspraxis
Württembergs, 1818, p. 286 f).
His diverse articles, pamphlets and petitions of 1819/1820 show three lines of
arguments: (1) the diagnosis of the economic situation, (2) the analysis of the causes
of the economic situation and (3) the measures of economic policy. He distinguished
societal, internal economic and external economic causes of the economic depression
in Germany 1819/1820.
Concerning the internal and external economic causes, he considered the differ-
ences of the economic structure and development in the economic sectors: agricul-
ture, manufacturing and trade. List proposed a “German trade system” exposing two
demands: (1) abolition of all internal tariffs between the German states and (2) the
introduction of a general external tariff rate as a measure of opposition, valid at all
foreign borders of the German Federation (List, Werke, 1.2, Bittschrift an die
Bundesversammlung, 1819, p. 493, 495). Herewith, List already applied the idea
that the external tariff would be necessary in order to sustain the sectoral economic
development, especially of manufacturing production and trade (Hoffman,
Fikentscher
1988 , pp 630 ff). Furthermore, he pointed out that external tariffs are
apt to protect and by that to sustain the economic development of the German
Federation (List, Werke, 1.2, 1819, p. 493). These tariffs should be valid for a
Analysis of public finance, especially of tax
receipts/national income
Inefficiency of public administration and public
finance
Decrease of public debtIncrease of public debt
Decrease of taxes and public expendituresIncrease of public expenditures
Separate administration of receipts from state
property and public property
Centralisation of state property and public
property
Safety considering interventions of the public
power of the state into the administration of tax
receipts;
Public and corporative controls of tax
administration
Participation of interest groups in the
administration of tax receipts
Pro
Contra
Sources: List Werke, 1.1, 1.2, Divers Publications, 1816-1820
List’s Criticism of Public Administration
and Public Finance in Württemberg 1816 –1821
Fig. 13.2 List’s criticism of public administration and public fi nance in Wurttemberg 1861–1821.
Sources: List Werke, 1.1, 1.2, Divers Publications, 1816–1820
362 K.-H. Schmidt
restricted time period, and they should be of a defensive character only. By means
of these tariffs, the German products should become more competitive in foreign
markets, foreign competitors should be kept off the German markets and industrial
companies of the German Federation countries should regain competitiveness in the
internal markets. Then the economic development of the industrial sector would be
stabilized and sustained. List therefore applied a sectoral analysis in his studies of
the foreign trade and economic development (Pausch
1989 ; Pohl (ed) 1989 ; Pohl
1989 pp 648–660). The three functions of the defensive and restricted external tar-
iffs – internal protection, external protection and external self-defence – turn out to be
List’s basic ideas, on which he founded his later visions of economic development
policy in the USA and after his return to Germany. Surprisingly, List’s ideas are
often disregarded in the new economic literature on protectionism and economic
development (Krugman (
1990 ) : Rethinking International Trade, 118 f; Broll and
Gilroy (
1994 ) : Außenwirtschafts-theorie, 2. Aufl age, Teil III, Handelspolitik, 175–
221). As infant industry argument based on Alexander Hamilton’s contributions,
List’s ideas, yet, are considered in the present discussion on tariffs under specifi c
conditions of industry and trade (Krugman (
1990 ) , 113, 119).
In the USA List developed his arguments referring to protective tariffs and
economic growth furthermore. These arguments were based on his “theory of
productive resources”. Though this terminology was often applied at List’s time,
he did not deliver a specifi c defi nition. Adam Smith had introduced the term
“productive powers of labour” in the introduction of his “Wealth of Nations”,
and former German authors on Cameralism had used the term “industrial pro-
ductive power” (von Soden F J H (1805–1824) Die Nazional-Oekonomie, 9
vols, especially vol. 4 (1810), Leipzig, p. 167). These authors already recog-
nized that present expenditures may bring about an increase of future output,
and that institutional factors like the legislation and education system also con-
tribute to economic growth.
List at fi rst applied the term “productive powers” in his “Outlines of American
Political Economy” (1827), but only in his study on “The Natural System of Political
Economy” (1837) he used the term “theory of productive powers” (Fabiunke
1961 ).
The various examples which he mentioned – instead of a defi nition of that term –
have become famous. In his “National System” List wrote: “The power to create
riches is infi nitely more important than the riches themselves”. (List (1928): Das
nationale System der politischen Ökonomie, 5. Aufl age, Jena, p. 220).
Moreover the examples exposed his intention, to demonstrate, that the quantity
and quality of productive resources are changed during the process of economic
development, and that the common activities of men enforce the development and
make the “productive powers” increase, the network of traffi c and transportation
included (Schmidt
1990 , p. 86). Furthermore, List applied the “theory of productive
powers” in order to explain the structural changes, which designate the economic
development. He therefore combined the analysis of “productive powers” with his
“stages of economic development” (Winkel
1977 , pp 75 ff; Priddat 1988 ). Herewith
he emphasized two departments of economic policy: (1) trade policy and (2) infra-
structure policy, especially (a) education policy and (b) transportation networks and
traffi c policy. He always tried to point out new opportunities to develop and to apply
363
13 Friedrich List’s Striving for Economic Integration and Development
new technologies – or in Schumpeter’s terminology: new combinations of resources
(Schumpeter
1914 ; 1965 vol I, pp 617 f).
List’s target – to sustain the economic development – also made him demand for
“protective” – more precisely – “educative”-tariffs, especially for the industrial sector.
He distinguished phases of political economy and applied the sectoral analysis,
considering agriculture, manufacturing industry, internal and external trade. The
instruments of economic policy which he recommended, he designed as “German
Trade System”. Figure
13.3 exposes the measures to be programmed and implemented
according to List’s concept. In order to stabilize economic growth, he investigated
the conditions of optimal allocation of resources, but he pointed out neither the
existing nor the forthcoming distribution of incomes and wealth. Two reasons may
be exposed: (1) the focus on the processing of economic growth and (2) the vision of
long-term equilibrium or “harmony” of economic growth and income distribution.
Later, during the 1840s, List returned to the consideration of changes of the income
distribution and of the structure of manufacturing production. In diverse smaller
articles he mentioned the poverty of workers in England. But the “social question”
in his concept only had the meaning of an adaptation problem. He was deeply convinced
Reports,
legislation
Analyses and report by expert committees, faculty of university,
politicians
Evaluation
Administrative reforms
General
external tariff
and control
Reduction of
internal tariffs
and controls
Tax reformLand reform
Parliament and
bureau-cracy
"German Trade System"Pro-gramming
and implemen-
tation
Establishing
faculty of
university
Reforms of public administration and public finance;
abolishment of national tariffs;
general external tariffs
Analysis of
instruments
Public
discussion
Steady growth of individual and national economic welfareAnnounce-
ment of targets
Need of
reforms
Inflexibility of taxation and public expenditures;
tariffs as barriers of interregional /national trade
Exposition of
lacks and
deficits
Institutional
crisis
Restrictions of individual freedom; inflexibility of bureaucracy; need
of reforms
Institutional
analysis
Economic
crisis
RestrictionsLocal/
regional trade
Beginning of
the industria-
lization
Agricultural
crisis
Diagnosis of
the economic
situation
Total societyExternal tradeInternal tradeManu-facturing
industry
Agriculture
Sectoral analysis
List’s Phases of Political Economy considering the "German Trade System"
(1819/1820)
Sources:
Backhaus, J., 1990, p. 103-113
List Werke, 1.1, 1.2
Schafmeister, K., 1995, p. 153
Fig. 13.3 List’s phases of political economy considering the “German Trade System” (1819/1820).
Sources: Backhaus (
1990 , p. 103–113); List Werke, 1.1, 1.2 Schafmeister ( 1995 , p. 153)
364 K.-H. Schmidt
that the workers would earn higher wages on behalf of the development of the
“productive powers”. In the long run also free trade would dominate.
On the other hand List must be interpreted as an expert of public administration
and public fi nance. In this context, he had in mind that tariffs should be distinguished
according to two different functions: (1) to fi nance public expenditures, for instance
subsidies (Andel 1988 ; pp 504 f), and (2) to modify the allocation of productive
resources, either to protect the national production system, or to develop and to
educate the resources towards a higher level of productivity and social benefi ts.
Present Views on List’s Works
After a long-term and intensive discussion of the reception of List’s writings at least
fi ve different views can be distinguished presently: (1) List and the economic history
of industrialization, (2) List and the present theory of public administration and
bureaucracy, (3) List and the actual problems of public fi nance, (4) List and the
present status of the theory of international economics and (5) List and the theory of
economic development.
Ad ( 1 ):
Relevant new contributions deal with the exploited materials of archives and
museums in Germany and the USA, especially on quantitative data of tax receipts, pub-
lic debt and public expenditures in Württemberg, Germany, Pennsylvania and the USA
during the fi rst half of the nineteenth century. The question is, if List had the correct
empirical data at hand when he criticized the public policies in Germany and the USA.
Ad ( 2 ):
List’s criticism of the public administration and bureaucracy turns out to be
highly relevant under consideration of the present problems of bureaucracy on the
national, supranational and international level.
Ad ( 3 ):
Actual problems of public fi nance like the increase of the quota of indirect
taxes and of specifi c contributions – mainly for social security – can be analysed on
the grounds of List’s criticism of taxation, tariffs and public expenditures.
Ad ( 4 ):
International economics may benefi t from List’s view of protective, better
educative tariffs. Furthermore, his plea in favour of restricted educative tariffs as a
means of development policy makes clear that international economics and economic
development are closely interrelated.
Ad ( 5 ):
The theory of economic development benefi ts from List’s writings because
of his broad view including institutional, economic and political perspectives.
List’s Contributions and Modern Economic
Theory and Political Economy
“Modern” is what is dealt with in articles published actually in academic journals,
reviews and books. List’s contributions to “modern” economic theory and political
economy mainly refer to: (1) the theory of the state, bureaucracy, public administration
365
13 Friedrich List’s Striving for Economic Integration and Development
and public fi nance, (2) the theory of international trade and (3) the theory of economic
development. The majority of the academic publications of the 1990s deal with the
tariff-problem, to a large extent focussing on the allocative and distributive effects
of protective/educative tariffs. Consensus seems to be around concerning the long-
term benefi ts of educative tariffs, if they are applied for a restricted time period, in
innovative sectors of the economy and under the condition of abolishment of internal
(national, regional) trade. Educative tariffs abolish themselves even in international
perspectives, if the causes for their introduction are no more relevant, that is if the
conditions of free trade, optimal allocation of resources and income distribution are
fulfi lled. Jürgen Backhaus has demonstrated that List should be understood as an
author of economic policy and public fi nance (Backhaus
1990 , p. 107), even as
an expert of the theory of public administration (Backhaus
1990 , p. 111). List aimed at
free trade fi nally, but he demanded the application of “the principle of education of
the nation for self-determination and self-employment” (Selbständigkeit). Protective
tariffs should be allowed only for a restricted time period. They should substitute
fi scal tariffs, which would restrict manufacturing and trade. Insofar the protective/
educative tariff fi ts into List’s concept of tax reform.
List’s contributions to the modern economic theory of the state, bureaucracy,
public administration and public fi nance are based on his experiences in his career
as a bureaucrat, manager, politician and professor of public administration. An effi cient
bureaucracy was in List’s view a precondition of a stable economic development.
This perspective was exposed by J. Backhaus, too, but seldom it is pointed out in
modern textbooks or articles on public administration and public fi nance.
More often to be found in textbooks and articles of journals and reviews are
List’s contributions to economic development, yet, mainly regarding the institutional
and political framework instead of modelling the economic development. The relevant
literature is registered to some extent in the later articles and books on List
(Schafmeister
1995 ; Besters 1990 ; Schefold 1990 ; Starbatty 1989 ) .
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13 Friedrich List’s Striving for Economic Integration and Development
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369JG B kh ( d) HdbkfhHi fE iTh h
Introduction
Although many (young) economists are not familiar with the name of Hermann
Heinrich Gossen (1810–1858), they all are acquainted with some versions of his
fi rst and second law. Gossen’s fi rst law states that the marginal utility of some enjoyment
decreases while uninterruptedly continuing it. According to the most known version
of the second law, an individual with a certain income will distribute this income
over the various enjoyments such that for each of them the quotient of marginal utility
and price is the same. In his only published work, Entwickelung der Gesetze des
menschlichen Verkehrs und der daraus fl ießenden Regeln für menschliches Handeln
(1854),
1
Gossen said it as follows (pp. 4–5 and 93–94):
Chapter 14
The Entwickelung According to Gossen
Jan van Daal*
* Centre Walras, Triangle, Université Lyon–2, France. An earlier version of this chapter appeared,
in Dutch, in: G. van der Laan et al. (red.), Econometrie in beweging. Bundel bij het afscheid van
prof. dr. A.H.Q.M. Merkies , Vrije Universiteit, Amsterdam, 1997, pp. 63-78. This Festschrift was
presented to Nol Merkies at the occasion of his 65th birthday and retirement as professor of
econometrics. I thank him for his consent to use the Dutch version as a basis for an enlarged
English version and for his many useful suggestions. Likewise, I thank Yukihiro Ikeda (Keio
University, Tokio), Hans Maks (Maastricht) and Paola Tubaro (University of Greenwich) for their
good comments.
1
Translated into English under the title The laws of human relations and the rules of human action
derived therefrom, by Rudolph Blitz, with an introductory essay by Nicholas Georgescu-Roegen, The
MIT Press, Cambridge, 1983; the English translations of German citations are taken from this book.
J. van Daal (
*)
Triangle, Université Lyon-2, Lyon, France
e-mail: [email protected]
370 J. van Daal
Die Größe eines und desselben Genusses nimmt, wenn wir mit Bereitung des Genusses
ununterbrochen fortfahren, fortwährend ab, bis zuletzt Sättigung eintritt.
2
and
Der Mensch erlangt also ein Größtes von Lebensgenuß, wenn er sein ganzes erarbeitetes
Geld, E , der Art auf die verschiedene Genüsse vertheilt (…), daß bei jedem einzelnen
Genuß das letzte darauf verwendete Geldatom den Gleich großen Genuß gewährt.
3
Gossen’s laws did not escape Occam’s razor. The fi rst evolved into the theorem that
for utility maximisation under the condition of a budget constraint, the upper con-
tour-sets should be (locally) convex.
4
In the more modern approaches, the second
law has made place for the requirement that for such a utility maximisation, the fi rst
derivatives of the problem’s Lagrangian should be zero (provided the utility func-
tions are differentiable).
Reading work of pioneers of our science may be very instructive and often highly
rewarding. The richness and profundity of the legacy of these explorers amaze every-
one who reads them. Often they exhibit a wonderful “modernity”, and always much
tenacity. All these elements we fi nd back in Gossen’s work, the subject of this chapter.
First, I shall present some facts of his life and his book. Then four sections concerning
his positive theory follow, framed in three laws. His policy recommendations are briefl y
dealt with in the subsequent section. In the conclusion, I shall make some remarks on
Gossen’s quasi-religiosity and the seemingly evolutionary nature of his thought.
Gossen and His Book
On September 15th, 1878, Léon Walras received at his home address in Ouchy sous
Lausanne a letter from his London friend William Stanley Jevons informing him
that their Manchester colleague Robert Adamson recently bought a German book
which contains many of the chief points of our theory clearly reasoned out. It is by Hermann
Heinrich Gossen and is entitled somewhat as follows — Entwickelung der Gesetze des
menschlichen Verkehr (??).
5
They were already in search of the book for a long time because 4 years earlier,
Adamson had found in a textbook by the Austrian-Hungarian economist Julius
2
The magnitude [intensity] of pleasure decreases continuously if we continue to satisfy one and the
same enjoyment without interruption until satiety is ultimately reached (1983: 6). (See also note
13.) The expressions between square brackets have been inserted by the translator, just as in the
subsequent quotations from Blitz’s translation.
3
Man obtains the maximum of life pleasure if he allocates all his earned money E between the various
pleasures (…) in such a way that the last atom of money spent for each pleasure offers the same
amount [intensity] of pleasure (1983: 108–109).
4
One might call this the “law of increasing relative satiation” because it means that a person
possessing a certain good and wanting to exchange some of it against one unit of another good
while keeping his utility at the same level has to give up the more of the fi rst good the more he
initially possessed.
5
Walras ( 1965 ) , Letter 417. Walras kept all the letters he received and copies of all he sent out.
371
14 The Entwickelung According to Gossen
Kautz ( 1858 –1860, vol. 1, p. 9) a brief but striking characterisation of the essence
of Gossen’s book, from which they concluded that it must be strikingly similar to
Jevons’s Theory of Political Economy . Jevons urged Adamson to look for the book,
which was apparently not an easy task.
6
Walras would not have been Walras if he had not immediately acted. He was both
highly interested in the book and afraid to lose claims of originality. Where it took
Adamson 4 years to get a copy of the book, Walras obtained one within some
months, borrowed from the university library of Munich. Soon he was set at ease
regarding the claims to cede. Gossen could only claim from Walras those things he
already ceded to Jevons, some years before (Walras
1874, 1885 ) . Jevons, indeed,
immediately passed them on to Gossen, together with some other fi ndings (in par-
ticular, Fig.
14.4 below; see the preface of the second edition (1879) of his Theory ,
Jevons
1957 : xxxii–xxxix).
To obtain some knowledge about the person behind the book, Walras started an
extensive correspondence. Via the Swiss embassy in Berlin, he came in touch with a
professor of mathematics in the University of Bonn, Hermann Kortum (1836–1904),
the only son of one of Gossen’s two sisters. Kortum wrote to Walras that his uncle
already died in 1858. Furthermore, on Walras’s request, he promised to prepare a
short biography for insertion into the translation into French of the book, meanwhile
prepared by Walras .
7
The note indeed arrived in Lausanne some time later (Kortum
1881 ) . It is practically the only source of information about Gossen’s life.
8
6
In a fi rst note, Kautz wrote (my translation) “Recently Fr. [sic] Gossen tried to present a veritable
theory and philosophy of pleasure [des Genusses] (and even on a mathematical basis!) in his book
Entwickelung der Gesetze des menschlichen Verkehrs , 1854 (pp. 1–45 ff.).” In a second note on the
same page, “Gossen remarks (o.c. p. 2): that all individuals always try to maximise their pleasure
and that this has been established in human nature by God himself as the eventual life purpose of
Man.” It is not amazing that this arose Jevons’s curiosity. So it seems that Gossen has been saved
from total neglect by Kautz’s two remarks on the one hand, and, on the other, by the fact that
Adamson was very well-read in German economic literature and happened to know Jevons’s
Theory . According to Jürg Niehans (
1987 ) , these footnotes and another equally scanty one in a
book by F.A. Lange (
1875 ) are the only references to Gossen before Jevons and Walras did justice
to him. See also Kurz (
2008 and 2009 ) and Ikeda ( 2000 ).
7
This translation saw the light relatively recently (Gossen 1995 ) . Further, there exist two Italian
translations and an English one (Gossen
1950 , 1975 , 1983 ) . There is also an abridged Japanese
translation, dating from 1920.
8
The original text of this note is lost. There are two French translations, both made by Walras, a
“spontaneous” and a “revised” one. The latter can be found in Walras’s Études d’économie sociale
(
1990 : 473–482). The former has recently been unearthed (its existence was even unknown until
then) and has been published along with the French translation of Gossen’s book (
1995 : 41–58).
In the spontaneous version, some less mild judgements about Gossen can be found. These have
been replaced by euphemisms in the revised one (The word “lazy”, for instance, became “a little
indolent sometimes”.).
Around
1900, some German scholars studied the texts written by Gossen for the examinations he
had to pass for obtaining a higher rank. They also studied the offi cial reports on him. However interest-
ing, this did not yield much news in comparison to what can be found in Kortum’s note. Unfortunately,
372 J. van Daal
Gossen was born in 1810 in Düren, the Rheinland, Germany. He wanted to study
mathematics, but his father wanted him to become a Prussian civil servant.
Consequently, he studied cameralistics in Bonn, with a short interruption at the
university of Berlin. The position of a civil servant was not his vocation. He worked
successively in Cologne, Magdeburg and Erfurt, where he was often absent from
offi ce without valid reasons. His career neither brought him quick promotions, nor did
it give pleasure to his superiors. Eventually, in 1847, after his father’s death, the only
thing he could do was to submit his resignation. After a short misadventure in the fi eld
of life insurance, he moved into the house of his two sisters in Cologne. There he
worked on his book. He wrote under high pressure because his health was badly
deteriorating. The book was published in 1854, at his own costs. It was for a good deal
based on ideas already put forward in essays for his examinations. In 1858, the author
died from tuberculosis, disappointed because his book had sold so very badly.
Right from the fi rst sentence, it is evident that Gossen’s orientation is utilitarian:
Der Mensch wünscht sein Leben zu genießen und setzt seinen Lebenszweck darin, seinen
Lebensgenuß auf die möglichste Höhe zu steigern.
9
Alexander Gray, an English polyglot and one of the fi rst authors of an English book
on the history of economics with a long passage devoted to Gossen, stated that
Gossen “out-Benthams Bentham” (Gray
1931 : 337). This sounds funny (as many
remarks in Gray’s book), but it puts the reader on the wrong leg because there is no
indication of a direct infl uence of Bentham upon Gossen.
10
A possible direct infl u-
ence could rather be found in the French literature, well known at the time. A line
of infl uence from or via Helvétius is conceivable if one takes account of the fact that
Gossen paid much attention to egoism of Man.
11
The utilitarian orientation of Gossen’s book emerges even more clearly if one
considers its fi rst sentence together with the title: Entwickelung der Gesetze des
menschlichen Verkehrs und der daraus fl ießenden Regeln für menschliches
Handeln.
12
This clearly indicates that the book consists of two parts: a positive and
a normative one. Such a partition is more or less standard in utilitarian writings by
Bentham and his followers and most continental utilitarian authors. Often much
emphasis is put upon the second, normative part. The questions to be answered in
all this material was lost during the two world wars. Then, or before these wars already, nearly all
traces that could directly witness of Gossen’s existence disappeared: his birthplace, his grave and his
personal belongings, such as his violin, his notes for and fragments of a book on music and his texts
on life insurance. See Georgecu-Roegen’s essay in Gossen (
1983 ) : xxvii ff. Gossen’s birth certifi cate,
however, is still kept in the town hall of Düren; it has been reproduced in Gossen (
1995 ) , p. 39.
9
Man wants to enjoy life and make it his goal to increase pleasures enjoyed throughout life to the
highest possible level (1983: 3).
10
At most an indirect infl uence; see “Introduction des éditeurs” in Gossen ( 1995 ) , pp. 1–29.
1 1
Claudius Hadrien Helvétius (1715–1771), French philosopher, atheist, is considered as a “mate-
rialist” believing that self-interest is one of Man’s principal motives. Helvétius was a collaborator
of the Encyclopedie . He emphasised the importance of education of Man.
12
The title of the English translation is The laws of human relations and the rules of human action
derived therefrom .
373
14 The Entwickelung According to Gossen
this literature are as follows: (1) What is the motivation of Man’s behaviour?
(2) How should society be organised and how should Man behave in this society?
The answers are largely based on the following principles, which can be found in this
literature: (1) During his lifetime, Man maximises his utility (or, if one should wish
so, his happiness), which depends on “his pleasures and his pains”. (2) Individual
behaviour of Man must be based on good instruction and on adequate legislation. (3)
The ultimate goal of Society is the maximisation of the total happiness of all people
together. We fi nd all these, somewhat incoherent, elements in Gossen’s book.
The conception of utilitarianism as a broad system with a positive and a norma-
tive part is widely adhered to in economic circles. Alternatively, there exists also a
vast body of literature according to which utilitarianism is considered solely as a big
normative system. Remarkably, sharp pro and anti feelings go with this idea; see,
for instance, Vergara
1995 .
Man as an Isolated Individual
Gossen used geometrical tools to analyse Man’s behaviour. The magnitude of pleasure
(“die Größe des Genusses”) an individual derives from a certain matter during a
certain period is represented by the area of a triangle or part of a triangle. Gossen
uses the expression “the magnitude of pleasure” here in a meaning we now express
by the word “utility”, which word I shall mainly use in this chapter. Gossen uses the
same expression to indicate what we now call “marginal utility”. From the context,
however, it is always clear what he is talking about; he never makes a mistake.
13
Gossen started with the analysis of the thing that is scarce to everybody, namely
time. In his graphical analysis, he measured along the horizontal axis the time spent
on enjoying some object (watching a picture, for instance); see Fig.
14.1 (Gossen
1854 : 8 ff.; I use Gossen’s notation). The intensity of pleasure (marginal utility we
would say now) is measured along the vertical axis; according to the fi rst law, it is a
decreasing function of time spent. Measurements of utility do yet not exist, Gossen
said, and so, for the time being, he supposed marginal utility to be a linear function
of time (1854: 10). Total pleasure (utility) of spending time ad to the enjoyment in
question is then equal to the area of the trapezium adec . The intensity of pleasure
(marginal utility) at the moment d is represented by ed .
If Gossen’s work were not totally neglected by the profession but received as a basic,
generally accepted piece of theory, right from its publication, economists perhaps would
have dealt differently with the notion of time as they actually did. True, the Austrians
paid some attention to time, in particular Von Böhm Bawerk, but Jevons did not and
Walras only did implicitly; after that, the subject felt into oblivion for a long period.
Gossen fi rst applies the above idea to a situation in which some person has the
choice between two pleasures and disposes only of a limited period E of time to
13
At the concerning places in the English translation of the Entwickelung , Bliss always added the
word “intensity”, between square brackets. See, e.g. footnote 2, above. In editing Walras’s transla-
tion of Gossen’s book (Gossen
1995 ) , we brought in similar insertions where necessary.
374 J. van Daal
spend on these pleasures. (One may think, e.g. of the case where one has to wait,
say, 10 min in a room in which two Picasso’s are exhibited.) This is illustrated in
Fig.
14.2 (1854: 13). Let abc and a ¢ b ¢ c ¢ be the person’s “triangles of pleasure”
14
for
the activities I and II.
c
c'
α
α'
(= α)
ad
f
b (a') d' b'
c
Starting point
E
Total time disposable = E
Time to spend on activity 1 = ag
Time to spend on activity 2 = gf
e'
e
Activity I
Activity II
k
f
'
Fig. 14.2 Optimal allocation of time over two enjoyments (Gossen 1854 , pp. 12–13)
c
a d b
e
marginal utility
time →
↑
Fig. 14.1 Marginal utility at time d
14
Freely adapted from Pareto’s terminology ( Pareto 1909 : 170–171).
375
14 The Entwickelung According to Gossen
If our individual allocates his time optimally, the problem can be formulated
as follows: Find two points d and d ¢ on ab and a ¢ b ¢ respectively such that
ad + a ¢ d ¢ = E and the sum of the areas of the two trapeziums adec and a ¢ d ¢ e ¢ c ¢ is
as high as possible. This maximum will be obtained, as Gossen rightly asserts,
if the last intensities, that is to say, the marginal utilities of both pleasures when
the time E has been used up, are equal. In Gossen’s words, E has to be split over
the enjoyments “in einem solchen Verhältniß daß die Größe eines jeden Genusses
in dem Augenblick in welchem seine Bereitung abgebrochen wird, bei allen
noch die gleiche bleibt” (1854: 12).
15
In modern terms, marginal utilities should
be equal. Apparently, Gossen assumed intra -personal cardinality of utility. The
result is simply demonstrated, Gossen correctly says, by observing that any allo-
cation of E deviating from the just mentioned one would yield a lower sum of
the utilities.
For the case of two activities, Gossen presents (more or less between the lines
of his pages 12 and 13) a method to construct the point d . In Fig.
14.2 , the two
triangles are placed with their bases on one and the same horizontal line such that
the points a ¢ and b coincide. Let f be the point on ab with af = E , the totality of
disposable time. Obviously, it is advantageous to start with activity I. The vertical
through f on ab cuts bc in k . The intensity fk is manifestly less than a ¢ c ¢ . This
implies that it is not advantageous to spend all the time af on I; a quantity of plea-
sure measured by the surface of trapezium acfk would be the result. How to deter-
mine the moment of passing from I to II? Let f ¢ be the point on a ¢ c ¢ , with a ¢ f ¢ = fk .
Let point e ¢ on b ¢ c ¢ be constructed such that ∠ a ¢ f ¢ e ¢ = ∠ fke . The horizontal line
through e ¢ cuts bc in e . The vertical line through e ¢ cuts a ¢ b ¢ i n d ¢ , the one through
e cuts ab in d . Our individual obtains maximum pleasure if he spends time ad on
the fi rst activity and df on the second. His total pleasure is then measured by the
sum of the surfaces of the two trapeziums adec and a ¢ d ¢ e ¢ c ¢ . In this way, he gains
a quantity of pleasure measured by the triangle f ¢ e ¢ c ¢ in comparison with the situ-
ation where he had spent all the time E on I. Obviously, a deviation from the
optimal partition ad-df will always result in a decrease in total pleasure compared
with the optimal situation: the loss in terms of pleasure (utility) would be greater
than the gain.
The solution can also be constructed by means of Fig.
14.3 . The curve cc ″ b ¢
in this fi gure is the result of horizontal addition of the graphs cb and c ¢ b ¢ of
Fig.
14.2 . Point f on the horizontal axis has been chosen so that, again, the length
of af is equal to the available time E . The vertical line through f cuts cc ″ b ¢ in g .
The horizontal line through g intersects cb in e . The vertical from e intersects the
time axis in d . For optimally allocating his time E over the two enjoyments, our
individual should spend ad units of time to enjoyment I and df = a ¢ d ¢ units to
1 5
In such a manner that the magnitude [intensity] of each single pleasure at the moment when its
enjoyment is broken off shall be the same for all pleasures (1983: 14).
376 J. van Daal
enjoyment II.
16
The advantage of this construction over the foregoing is that it can
be generalised to an arbitrary number of goods. Gossen further argues that addition
of a new one to the totality of enjoyments implies often an augmentation of the total
amount of utility to be obtained by the individual (1854: 21). Because there is only
one solution, both constructions are equivalent.
However, for enjoying, one needs more than only time. Generally, the origin of
an enjoyment is to be found in goods. In Chap. 1 (1854: 24–27), one fi nds an analysis
of the notion of a “good”, resembling Menger’s later one (
1968 (1871): 7–10).
Gossen only distinguished three categories of goods: (1) goods yielding utility on
their own, (2) goods yielding utility only when combined with one or more other
goods, and (3) goods that do not yield utility on their own, or in combination with
other goods, but are used to produce other goods. Gossen asserts that his fi rst law is
applicable for all these goods.
17
Goods can only be obtained by more or less considerable labour by the person
who wants to benefi t from them. Gossen analysed this in exactly the same way as
Jevons (
1957 [1871]: 173, Fig. 9) later did; see below, Fig. 14.4 (1854: 39, Fig. 17).
On the horizontal axis of this fi gure, time spent on labour is measured. There are two
c
c'
ad
f
b (a') d' b'
E
Total time disposable = E
Time to spend on activity 1 = ad
Time to spend on activity 2 =df = a'd'
e'
c''
e
g
Fig. 14.3 Optimal allocation of time over two enjoyments (general method)
1 6
Gossen’s notation is confusing. Here, the symbol E indicates an interval of time; elsewhere in the
book, it is used to indicate subsequently total work exerted, income and savings in the land-
nationalisation plan. Throughout the whole book, he changes the meaning of certain symbols (see
the alphabetical indexes in Gossen
1983, 1995 ) . This detracts the reader from the otherwise well-
organised, albeit a little diffuse and bizarre presentation. Each geometrical explication is followed
by a “translation” into algebra, which, in its turn, is followed by one or more tables in which the
matter is once more presented for certain numerical choices of the parameters of the problem in
question (for those who know neither geometry, nor algebra).
1 7
Here, he was walking on slippery ground. He considered the period in question as consisting of
a large number of “atoms of time” and supposed that each atom of a good is consumed in exactly
one atom of time. This “permitted” him to “generalise” fi gures such as Fig.
14.3 above. Fortunately,
he did not go till the dead end of this dubious path of antiquated atomism and found a better basis
for making goods comparable, namely labour time, as will be set out below.
377
14 The Entwickelung According to Gossen
graphs in the fi gure. One, gh , displays marginal “disutility of labour”. Initially, this
disutility may be negative since working is often experienced as agreeable if it is not
lasting too long. From time f onwards, it becomes gradually more disagreeable. The
second graph, cb , represents marginal utility of the goods produced. Until time d , the
marginal utility of the goods produced exceeds the momentary discomfort of labour
needed to produce them. The optimal labour time will then be ad . The area cge indi-
cates total utility; this is the maximum utility to be obtained. With this analysis,
Gossen is certainly the fi rst economist who explained the supply of labour by means
of utility maximisation. Jevons’s approach, in his Theory , is similarly graphical and
Walras expressed the very same ideas in mathematical formulae in his Éléments .
Gossen continued his investigations with the question “which factors determine
the magnitude of the area of the triangle?”. He judged talent for enjoying things, on
one hand, and, on the other hand, ability to work as the two most important factors.
Both factors can be enlarged by education in general and instruction in particular.
Hence, Gossen’s plea for good instruction, for boys as well as for girls, will not
come as a surprise. Here, however, a problem arises, as we shall see below.
18
Exchange
Each person living in isolation faces two contradictory prescriptions to increase
total happiness. The fi rst one is specialisation, which leads to greater productivity
but a smaller number of goods, and the second is extension of the number of goods
c
e
a
fd
marg. ut.
time
g
h
b
Fig. 14.4 Optimal labour time
1 8
For a nice alternative presentation of Gossen’s mathematics of utility and disutility, see Tubaro ( 2009 ).
378 J. van Daal
available, which leads to a greater potential of happiness. The individual cannot
simultaneously fulfi l these two requirements on his own. This, Gossen explains, is
why there was always exchange. Therefore, he goes on to analyse actions and inter-
actions of two or more persons. It appears that Gossen was puzzled a little by this
extension and confused the notions of maximum individual utility and maximum
collective utility, as we shall see.
In exchange, each individual involved should benefi t personally, Gossen pro-
claims as a preliminary condition. He starts with the simple case of two exchangers,
one possessing a quantity of a certain good and the other some of another good.
Again, making use of geometrical tools, he makes clear that it may be advantageous
to both persons to exchange a part of their good for some quantity of the other good
(1854: 83).
The quite reasonable prerequisite that all exchangers should profi t personally
from an exchange is a too broad criterion for its unambiguous explanation. Therefore,
Gossen needed a “workable” criterion whose application leads to a clear result. He
found such a criterion, but, unfortunately, at the cost of the prerequisite, as we shall
see. This criterion, to be fulfi lled by a “correctly accomplished” exchange, is as
follows: exchange should bring about the highest total utility of all participating
people together . Here, he introduces without warning the notion of collective utility
over and above individual utilities; apparently, he supposes utility to be cardinal.
So he wonders (1854: 85):
Wie ist der Tausch einzurichten, damit ein Größtes von Werth entsteht?
19
Gossen’s correct answer to this inappropriate, irrelevant question is (ibid.) as follows:
Damit durch den Tausch ein Größtes von Werth entstehe, muß sich nach demselben jeder
einzelnen Gegenstand unter alle Menschen so vertheilt fi nden, daß das letzte Atom, welches
jedem von einen Gegenstande zufällt, bei ihm den gleich großen Genuß schafft, wie das
letzte Atom desselben Gegenstandes bei einem jeden andern (1854: 85).
20
The above-mentioned prerequisite would then automatically be fulfi lled, Gossen
believed wrongly. Walras was probably the fi rst who disapproved of Gossen’s utili-
tarian rule.
21
According to Gossen’s criterion, Walras argues, the fi nal distribution of
the goods only depends on the totals of the goods brought in and not on the partici-
pants’ individual quantities with which they enter into the exchange.
22
Such a maxi-
mum, therefore, can never be the result of free exchange. It can only be enforced by
some authority, because the rights of property of some of the participants may be
infringed upon. Once the maximum of the sum of all individual utilities is attained,
19
How is exchange to be arranged so that a maximum of [total] value will result (1983: 100)?
2 0
In order that a maximum of [total] value be achieved through exchange, it is necessary that after
its completion, each commodity be distributed among all individuals in such a way that the last
atom of each commodity received by every individual will create for him the same pleasure as the
last atom of the same commodity received by every other individual (ibid.).
2 1
In his Études d’économie sociale , 1896: 209–212 (1990: 181–184; English translation: Walras ( 2010 :
137–40), and in the second edition of Éléments d’économie politique pure (Walras
1988 : 250–251).
See, however, also Wicksell (
1954 ) : 19.
22
‘Given that the individuals do not have all the same, linear utility function.
379
14 The Entwickelung According to Gossen
Walras argued, the ensuing individual amounts of utility do not necessarily coincide
with maximum utility for each individual personally, given the quantity of goods
with which he entered into the exchange. (In other words, the maximum of a sum is
not the same as the sum of the maxima.) It may even be possible that somebody’s
utility will decrease in an exchange à la Gossen. This can be made clear by the fol-
lowing, somewhat extreme, example. Let there be a number of persons who all pos-
sess only a little of one of a number of goods and let there be one single person
possessing all these goods in large quantities. If all these persons entered into an
exchange where Gossen’s criterion is applied, then, after the exchange, the latter
individual would have less of everything than he possessed before. Nevertheless, the
sum of all the individual utilities taken together would be considerably greater than
before, because the poor people’s high marginal utilities taken together will certainly
exceed the rich man’s marginal utilities, which are, because of Gossen’s fi rst law,
considerably lower. It escaped Gossen that his criterion does not guarantee that all
goods will be exchanged in fi xed proportions against each other; in other words,
Gossen does not notice that there are no exchange ratios (prices) equal for everybody.
His rule may be a matter of course when friends have a party where people bring in
dishes of food and bottles of beverages to put together and to be consumed freely,
mais, enfi n, la société n’est pas un pique-nique,
as Walras ( 1990 : 184; 2010: 140) says. The eventual result of this “pick-nick” only
depends on the totality of the goods brought in, not on the individual people’s initial
quantities. Walras summarises (
1990 : 181, italics in original; 2010: 138):
Ce troc, aussi bien défi ni (…), est donc une opération par laquelle la satisfaction des besoins
des (…) troqueurs pris ensemble est portée au maximum absolu et non plus relatif, aucun
compte n’étant tenu des quantités de marchandises possédées, autrement dit, abstraction
étant faite du droit de propriété de chaque troqueur sur sa marchandise. C’est un troc com-
muniste : il n’aura lieu en toute certitude que par l’ autorité de l’État, et il amènera l’ égalité
qui résulterait à la fois de l’égalité des besoins et celle des moyens de les satisfaire. Il
s’opère sur le terrain de la fraternité .
23
Gossen apparently was ignorant of all these subtleties and continued his story by
remarking that in reality, people do not directly barter goods. In practice, it became
usual to exchange all goods against some specifi c one acceptable to anybody, which
therefore can be used to obtain other goods. This good, Gossen explained, is called
money and the goods are exchanged for money in proportions fi xed for everybody;
most people buy goods by means of money earned by selling their labour force. In other
words, there is a price system. How all this comes into being remains vague. This is
not amazing if one considers his misconception of the notion of exchange.
2 3
Hence, this exchange, however well defi ned (…), is an operation by which the satisfaction of
(…) the exchangers taken together is brought to an absolute maximum and not to a relative one,
because the quantities possessed of the commodities have not been taken into account. In other
words, abstraction has been made of each exchanger’s right of property on his merchandise. This
is a communist exchange: it can certainly not take place otherwise than by the authority of the State
and it will bring about the equality that results simultaneously from the equality of the needs and
that of the means to satisfy them. It functions in the domain of the fraternity (See also Wicksell
1954 : 19, Berthoud 1988 , and Lallement 1988 ) .
380 J. van Daal
The maximisation problem discussed above (maximisation of total utility of all
individuals together) should now be resolved for the more advanced situation, where
money is the means of exchange. Now, Gossen makes another mistake, which, how-
ever, turns out fortunately.
24
He arrives at the untenable conclusion that the afore-
mentioned maximum of social utility will be attained together with the simultaneous
attainment of maximum lifetime utility of all individuals separately (1854: 93–94).
From this it follows that, in Gossen’s view, the solution of one of the two maximisation
problems has been found, once the other has been solved. In the more general case,
with money as a means of exchange, the problem of individual utility maximisation
seems to be the simplest of the two. Its solution has been formulated in what would
become known as Gossen’s second law, repeated here because of its importance:
Der Mensch erlangt also ein Größtes von Lebensgenuß, wenn er sein ganzes erarbeitetes
Geld, E , der Art auf die verschiedene Genüsse vertheilt (…) das bei jedem einzelnen Genuß
das letzte darauf verwendete Geldatom den Gleich großen Genuß gewährt.
In itself, this citation is a true assertion. Gossen’s proved it, just as in the preceding
section, by observing that any deviation from the prescription above will lead to a
lower amount of utility. It is a necessary condition for individual utility maximisation
given prices and income as, indeed, Gossen said in his own words, but it is not true
that it has something to do with the maximisation of social utility, as is likewise his
assertion. Hence, something went wrong in Gossen’s reasoning.
Gossen used his algebra for illustrative purposes only and not as an analytical
tool. If he only had written out his results in mathematical symbols, he would have
detected his mistake. For the maximisation of the sum of all individual utilities
together, the following relations should hold good:
12
12
12
.
AA AJ
BB BJ
MM MJ
rr r
rr r
rr r
===
===
===
…
(14.1)
The symbol r
A 1
denotes the marginal utility of good (A) for individual 1 and so forth.
For the maximisation of all the individual utilities separately, the following rela-
tions should hold good:
11 1
22 2
// /
// /
// /.
AABB MM
AABB MM
AJ A BJ B MJ M
rprp r p
rprp r p
rprp rp
==
==
==
…
(14.2)
The symbol p
A
stands for the price of good (A) and so forth.
Gossen, too, would immediately have seen that the two conditions are not identi-
cal, irrespective of the fact that in (
14.2 ) prices have been introduced. In ( 14.1 ), the
24
See also Van Daal ( 1993, 1996 ) .
381
14 The Entwickelung According to Gossen
equalities are per good over the individuals and in ( 14.2 ) per individual over the
goods. Where (
14.1 ) relates to an absolute maximum of all utilities added together,
the solution of (
14.2 ) would in general lead to a lower total of the individual utilities.
Gossen’s thesis that free exchange will lead to maximal collective utility is one of
the fi rst examples of a confusion that is lasting in theoretical economics until nowa-
days, particularly in welfare economics.
Anyway, for Gossen, the second law indicated how Man has to act in order to
achieve maximum lifetime utility, given his personal endowments of mind and body
and his material wealth, from all of which he has the fullest right to reap the fruits him-
self. So the problem of Gossen’s dubious utilitarianism was solved automatically, since
from this point onwards in the book (that is to say, the last 180 pages), the second law
is the guiding principle. The law’s formulation, however, changed thereby tacitly:
Every individual will spend his income such that the (marginal) utility of the last “atom of
money” spent on a certain good or service is the same as the (marginal) utility of the last
atom of money spent on whatever other good or service and is also the same as the (mar-
ginal) disutility of the labour to obtain the last money atom of income.
Gossen was somewhat vague about the economic environment in which all this happens.
Apparently, he took the economic parameters and in particular their determination
for granted. It can be read from between the lines that he had in mind a situation of
free competition where prices fall more or less out of the blue. Considering prices
as given and acting according to the second law, the individuals maintain a situation
of general economic equilibrium avant la lettre.
Gossen’s stipulation that everybody involved in an exchange should personally
benefi t from that exchange does not make him a precursor of Pareto, whose criterion
relates to a state, or rather a collection of individual positions: in a Pareto-optimal
state, it is impossible to bring some individuals in a better position without harming
others. Both Gossen’s stipulation of maximum collective utility and his second law
are prerequisites for exchange itself, although the fi rst one is untenable if combined
with a price system where every good has only one price.
Concluding, we can say that Gossen found “the right path” (i.e. the one beginning
with his second law) only after having made two mistakes that cancelled each other
in a fortunate way.
Habits
Now, an important question comes up, as Gossen noticed: How does all this work out in
daily practice? In this connection, he points to a notable trait of mankind (1854: 127):
Jeder Mensch, mag er welch immer einer Stande angehören, nimmt sich im Großen und
Ganzen zur Einrichtung seines Lebens die Sitte zur Richtschnur, wie sie sich bei seinen
Standesgenossen gebildet hat.
25
2 5
Every individual, regardless of his status, will, by and large, take custom, as it has developed
among people of his own class, as a guideline in the conduct of his own affairs (1983: 150).
382 J. van Daal
This does not mean considerable rigidity in Man’s behaviour. However, there
was, there is and there will always be a certain general pattern in a person’s conduct,
usually differing per social class. The patterns will change gradually because every-
body has the right to deviate from custom, thereby taking care not to infringe upon
others’ rights or possessions, in order to test whether this will yield more pleasure.
If so, he no longer submits to the prevailing custom and other people will follow
him. Improved customs will result. Such improvements go hand in hand with
increasing knowledge of the laws of nature and new insights with respect to produc-
tion methods of goods and creation of new pleasures. For Gossen, the maturation of
customs, i.e. the evolution of society, is a substantial consequence of human con-
duct. This conduct is guided by the laws concerning enjoyment and, more generally,
the Man’s life purpose. Here we see, indeed, Gossen as a very early herald of pieces
of theory that are now known under names such as adaptive behaviour and learning
processes.
Hence, Gossen’s main principle that human happiness should be brought to its
maximum will be achieved by the operation of three laws:
The law of decreasing marginal utility (Gossen’s fi rst law). •
The law of balancing marginal utility (Gossen’s second law). •
The law of taking custom as a starting point for deviating from “normal” •
behaviour.
The latter shall henceforth be indicated as “Gossen’s third law”; see Jolink and
Van Daal
1998 .
Gossen’s fi rst law is not a law at all; it is a hypothesis. Gossen’s second law is not
a law either; it is rather a theorem, derived from the hypothesis that an individual
maximises his utility under the restriction imposed by his income, or his budget.
Gossen’s third law (he himself speaks of a moral law (1854: 143)) is neither a law
in the present sense of fact of nature, nor a legal law, but rather a rule of behaviour
derived from observation. Notwithstanding the above terminological objections,
I shall continue to speak of Gossen’s three laws.
The Main Principle and the Three Laws: Synthesis
Gossen used his laws in the rest of his book, while dealing with practical problems
and policy recommendations. Every individual apart must obtain maximum happiness
by just following his own way in the egoistic sense mentioned above. Gossen meant
by this, as I already said above, that everyone tries to spend his income such that the
marginal utility of the last “atom of money” spent on whatever good or service is
the same for all these goods and services and is equal to the marginal disutility of
the labour by which he acquired that income (his second law, somewhat genera-
lised). This second law is, indeed, necessary for optimally acquiring and spending
income, but it is not the condition of maximum total utility, as has been set out
above. Total utility can only be maximised if some people are willing to transfer for
383
14 The Entwickelung According to Gossen
nothing some of their belongings to others, or are willing to accept less favourable
exchange ratios (prices) than other people. This can never have been Gossen’s
design, and so it was fortunate that he (intuitively?) took the second law, in the for-
mulation just above, as the guideline to be used further in his book.
The third law is helpful in the sense that the fact that most people follow customs
has, as Gossen guesses, a stabilising effect on prices and other parameters that
determine the economic framework within which the individuals have to try to fi nd
their way.
However, there is more.
26
As is well known from the literature on optimisation
problems, there are often several, different optimal situations among which there is
at least one optimum optimorum , with utility at its absolute maximum. If an indi-
vidual started his optimisation procedure just from scratch, there would be a good
chance that he missed the absolute maximum, and had to satisfy himself with a
lower level of utility than possible in his situation. Here, the third law comes in.
Taking customs as a starting point for his optimisation procedure, an individual who
has somewhat more initiative, shrewdness and subtlety and has perceived some
changes in the economic parameters or has some new ideas will more likely fi nd the
new global utility maximum. It may be expected, namely, that the establishment by
trial and error of customs in the past has led to optimal behaviour, and so one may
imagine that an individual who thinks that circumstances have changed and starts
from custom as the point of departure to try to fi nd a new optimum is restricting the
domain of his maximisation problem in an effi cient way. Therefore, there is a good
chance that there will not be a multitude of maxima most of which are only local
and therefore ineffectual. Of course, Gossen did not express this argument in pre-
cise terms, but it can be inferred in between the lines of the pertinent passages and
in some statements, such as in the paragraph passing over from page 132 to page
133 of his book in which he says that it is the task of a teacher to help his student to
fi nd an “environment” in which the student may fi nd “greatest total life pleasure” to
be achieved by “means also available by the student”. The teacher tries to achieve
this by pointing to examples given by other people whose situation resembles the
student’s (future) situation.
Policy Recommendations: Removing Obstacles
Gossen concludes the fi rst part, on positive theory, as follows (1854: 121):
Die Menschheit kann ihren Wohlstand nur dadurch erhöhen, wenn es gelingt beim Einzelnen
Menschen: (1) die absolute Größe der Genüsse, (2) die Arbeitskräfte und die Geschicklichkeit
im Gebrauch derselben, (3) die Lebenskräfte zu steigern, und (4) den Rechtszustand zu
befestigen (…).
26
David Levy brought me upon the idea of this paragraph.
384 J. van Daal
Hierauf, verbunden mit Wegräumung der Hindernisse, welche sich dem Einzelnen in
den Weg stellen, den günstigsten Productionszweig zu ergreifen und sein Geld in freiesten
Weise zu verwenden, ist darum einzig und allein das Augenmerk zu richten, um der
Menschheit zur höchstmöglichen Glückseligkeit zu verhelfen.
27
This can only be done by looking further into the world surrounding Man. Therefore,
Gossen dealt extensively with the outer world of Mankind. First, he described a
number of contemporaneous evils, which I will pass over in the present chapter.
Then he concluded that there are still too many obstacles that prevent Man from
acting according to the “laws of nature” as set out above. The rest of the book con-
sists of a systematic, lengthy treatment of each of these obstacles and the reform
schemes to take them away. The obstacles and the ensuing policy recommendations
will now briefl y pass the review.
The fi rst obstacle (1854: 191–198) is formed by the fact that Man is born helpless
without any skill. This has to be overcome by proper education, whereby no distinc-
tion should be made between girls and boys and where the children should be pro-
tected by the prohibition of child labour. Postponing entry into the labour market
and spending the free time to education will enable a person to increase his lifetime,
his lifetime production and, therefore, his and others’ lifetime utility.
Second (1854: 198–228), where Man has specialised in the production of one or
only a few products, he must be able to exchange his production for other goods, to
be used for his own consumption.
28
However, there is nothing that is by itself the
best means of exchange. Therefore, Gossen carefully devised and exposed a mon-
etary system, with only metallic currency.
Third (1854: 228–238), people should freely and completely benefi t from the
fruits of their own labour because history testifi es that freedom and private property,
together with safety, have been most benefi cial for the increase of human wealth.
Therefore, there should be no protection, no entrance limiting institutions as guilds
and examinations, and no subsidies. Everybody who wants to exist should create
himself the means for his existence, but then he must be able to enter freely the
profession that is most suited for him.
Fourth (1854: 239–249), in the same connection, Man should be able to obtain
suffi cient capital for his production. Therefore, Gossen proposed a (cooperative)
credit system of which he presented all the details.
Fifth (1854: 250–273), in the same line, he required that Man should dispose of
enough, appropriate land for exercising the profession he has chosen. This has led
2 7
Humanity can increase its welfare only if the single individual succeeds (1) in increasing the
absolute magnitude of pleasures, (2) in increasing the capacity for work and the effi ciency in its use,
(3) in increasing the vital forces [life expectancy] and (4) in strengthening law and order (…).
To
help humanity attain the highest possible state of bliss, full attention must be paid to these
matters. To achieve the goal, we must attempt to remove obstacles that confront the individual in
the choice of the most promising fi eld of production and in spending his money without any con-
straints (1983: 144).
28
Gossen seems sometimes only to consider independently working labourers (1854: 121).
385
14 The Entwickelung According to Gossen
Gossen to a scheme for land reform that must eventually lead to a situation in which
the State owns all the land, which will, then, be hired out competitively (procuring
an income for the State which allows abolition of taxes).
29
Note that the last three
points clearly indicate that Gossen already had a lucid conception of the notion of
production factors and their subdivision into the three categories land, human capital
and artifi cial capital.
Conclusion
In spite of his plea for State ownership of the land, the Entwickelung depicts a
highly liberal scheme in which Man has his destiny in his own hands in a society
evolving to a state of bliss (1854: 276):
und so fehlt dann der Erde durchaus Nichts mehr zu einem vollendeten Paradiese.
30
For Gossen, the point of convergence of this evolution was clear: an ideal situation
on earth.
In the last page (1854: 277), he draws a parallel between, on one hand, the simple
laws of nature that determine the forces that hold the physical world together and let
it continually develop, and, on the other hand, how Man’s egoism is
die Kraft die den Fortschritt des Menschengeschlechts in Kunst und Wissenschaft in seinem
materiellen und geistigen Wohl allein und unaufhaltsam bewirkt.
31
In the last phrase of the book, Gossen seems to reveal himself frankly as the preacher-
economist:
Mensch, hast Du ganz und gar die Schönheit dieser Construction der Schöpfung erkannt,
dann versinke in Anbetung vor dem Wesen, welches in seiner unbegreifl ichen Weisheit,
Macht und Güte durch ein anscheinend so unbedeutendes Mittel so Ungeheures, und für
Dich so unberechenbar Gutes zu bewirken im Stande und geneigt war, und mache Dich
dann der Wohlthaten, mit denen dieses Wesen Dich überschüttet hat, dadurch würdig, daß
Du zu Deinem eigenen Wohle Deine Handlungen so einrichtet, daß jenes wünschenswertheste
Resultat möglichst beschleunigt wird!
32
2 9
Walras must have been very amazed when fi nding systematically worked out his own scheme for
land reform, advanced from the beginning of his career onwards (1859; see Walras
1881 ) . Jevons
did not inform him on this point, because Adamson only translated some parts of the book.
30
There is nothing further wanting in the world to make it a perfect paradise (1983: 298).
3 1
The sole and irresistible force by which humanity may progress in the arts and science for both
its material and intellectual welfare (1983: 299).
3 2
Mankind, once you have recognised completely and entirely the beauty of this plan of the
Creation, steep yourself in adoration of the Being, which in its incomprehensible wisdom, power,
and goodness has been able, by means apparently so insignifi cant, to bring about on your behalf
something so enormously incalculably benefi cial. Make yourself worthy of all that this Being has
showered upon you, organising your actions for your own benefi t in such a manner that this most
desirable result is brought about as quickly as possible! (1983: 299).
386 J. van Daal
With this hollow phrase in adoration to a completely passive, if not absent Being,
Gossen says, in fact, no more and no less than that it would be unwise to violate
economic laws. Throughout the whole book, one can fi nd passages in which Gossen
refers to the Creator. At the same time, however, he makes clear that this Creator,
once having achieved his creation, is now entirely passive, leaving it to Man (in truth
to Gossen) to discover the rules that will lead him to happiness, and to apply these
rules. Gossen’s “religiosity” should, therefore, be taken cum grano salis .
33
I believe one may safely conclude from the preceding account that Gossen,
indeed, had a complete theory for describing and explaining human behaviour in all
its economic aspects and that from this he deduced a detailed prescription for that
behaviour. This means that it is unfair to consider him only as a precursor of later
pioneers as Jevons, Menger and Walras. The main reason for the bad treatment
Gossen has met with in the literature is the fact that only few writers have read his
book from cover to cover; those writers’ opinions were repeated by the rest of the
writers on Gossen. The latter opinions concentrated mainly on his fi rst two laws, on
his “apostleship” and on the bizarre wording by means of which Gossen expressed
himself. Indeed, he wrote in complete isolation without the help of colleagues or
ghostwriters. The Entwickelung is, however, not that inaccessible as one tries to
make us believe.
We have seen how Gossen envisaged a gradual change of human society as a
consequence of a system of “laws of nature” in which customs and habits have
found a place, thus suggesting a fascinating relation between these laws and evolu-
tion. The notion of evolution should thereby be comprehended in the special signifi -
cance of a kind of mechanism leading society smoothly to the ideal situation. As so
many other visionaries, Gossen did not present a clear, detailed description of that
ideal. It may be inferred, however, from some passages and from between the lines
of his book that what Gossen meant was a situation in which the afore-mentioned
obstacles have been removed and where everybody, on the basis of the three laws
above (the third one becoming more and more superfl uous), will be allowed to pro-
vide for himself what he needs for meeting his wants, freely using his own capaci-
ties and property, in free competition with other individuals without infringing upon
their rights, and where the role of the State will be restricted to guaranteeing this
freedom. The State will own all the land and the individuals will freely compete for
its use, which will lead to an optimal utilisation of the land; this will provide the
State with an income and make taxation needless.
I think that the idea of such an evolution can be found already in the title of the
book, in particular in the fi rst word, Entwickelung . Walras translated it into “exposi-
tion” (Gossen
1995 ) and Bagiotti into “sviluppo” (Gossen 1950, 1975 ) . Blitz evaded
the problem by leaving the word out of the translation of the English title (Gossen
1983 ) . Both Walras’s and Bagiotti’s translations seem to be correct since the German
word is somewhat ambiguous: it may mean exposition, as Walras has understood, but
it may also mean something as development, spread, growth or expansion, and this
looks as to have been Bagiotti’s interpretation. Understanding the word in the latter
3 3
See also Steiner (2010), who went more deeply into this element of Gossen’s work.
387
14 The Entwickelung According to Gossen
signifi cation, I suggest, perhaps in line with Bagiotti, that Gossen indicated already in
the title of his book that the “laws” governing human society should develop to those
that form his system and that this entails progress of society to the ideal.
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389JG B kh ( d) HdbkfhHi fE iTh h
Introduction, Controversial Opinions About Schmoller.
Was He a Historian or an Economist?
Schmoller was during his lifetime and still is a most controversially disputed scientist.
Supporters of socialistic opinions would blame him for having helped the antiquated
capitalism to survive.
1
Adherents of liberalistic views accused him – and still do so –
or present arguments and tools for blending a natural order of economy with
obstructive and most troublesome interventions, delaying progress.
2
Many scholars
of economic sciences picked up the accusations J.A. Schumpeter attributed to
Schmoller’s contributions when stating in 1913 that “the term theory became so
outlawed, that it is today sometimes replaced by that of “intellectual reproduction”
or “doctrine” in order not to revoke from the start a host of prejudices”, so that
“a reaction began to set in under Austrian and foreign infl uence against economics
without thinking…”
3
And F.G. Lane in 1956 stated that “the high praise that
Schumpeter bestowed on Schmoller in 1926 was primarily a tribute to the position
which Schmoller, 9 years after his death then occupied within Germany”.
4
In fact,
Schumpeter had in the meantime given a positive review in 1926, which for all his
Chapter 15
Gustav Schmoller as a Scientist
of Political Economy
Reginald Hansen
R. Hansen (*)
Luxemburger Str 426 , D-50937 Cologne , Germany
e-mail: dr[email protected]
1
As example, see Völkerling, F. (1959), Der deutsche Kathedersozialismus, Berlin, Diss. Halle-
Wittenberg, p. 29, p. 63.
2
See: Holzwarth, Fritz (1985), Ordnung der Wirtschaft durch Wettbewerb, Entwicklung der Ideen
der Freiburger Schule, Stuttgart, p. 19 ff.
3
Schumpeter, J.A. (1912), Economic Doctrines and Method, London, p. 12. Translated 1954.
Schumpeter, J.A. (1954), History of Economic Analysis, New York, p. 84.
4
Lane, F.C. (1956), “Some Heirs of Gustav von Schmoller”, in, Lambie, J.T. (1956) (ed.), Architects
and Craftsmen in History. In Honour of Abbot Payson Usher, Tübingen, p. 10, p. 22.
390 R. Hansen
life he never thought necessary to repeat. So from leading text books on the history
of economic sciences, students of economics in Germany until to today learn the
summarising verdict Schumpeter refl ected in his History of Economic Analysis in
1954, that “economic theory as understood in England was in many places almost
completely in abeyance for several decades…”.
5
As a matter of fact, according to
the very infl uential economist Erich Schneider, Schmoller even delayed progress of
all economic science in Germany for more than 3 decades.
6
Sometimes the question
was discussed: Was Schmoller an Economist or was he a Historian? Economists
often preferred to classify him as a Historian and vice versa. For Historians, this was
due to the shift of approach Schmoller had employed for his historical contributions
as will be shown. Similar judgements were discussed among historians after
Schmoller’s death.
Also for politicians, questionable characteristics about Gustav Schmoller’s
activities were made public, even making him responsible for circumstances leading
to World War I. The notorious German weekly magazine Der Spiegel in an article
in 1964 put the name Gustav Schmoller in front of a list of politicians and scientists
judged to be responsible for Germany’s setting out for the disaster of 1914.
7
The
magazine read by the majority of Germany’s population for this opinion quoted the
book Griff nach der Weltmacht (Grip to the world domination), which was written
by Fritz Fischer in 1961, a professor for History at the University of Hamburg.
8
The
interpretation of the events in this book was thoroughly in line with the re-education
principles of the victorious allied nations prescribed to the German teaching author-
ities.
9
But this judgement was certainly thoroughly inconsistent with the spirit and
the contexts of Schmoller’s many contributions for which he often would ironically
5
Schumpeter, J.A. (1954), History of Economic Analysis, p. 804.
6
Schneider, E. (1970), 3.A Erführung in die Wirthschaftstheorie, IV. Teil, Ausgewählte Kapitel der
Geschichte der Wirtschaftstheorie I. Bd., p. 295 und 325–328.
7
Augstein, R. (1964), Article in: Der Spiegel, Heft 11, 1964, p. 47: see: Fischer F. (1961), Griff
nach der Weltmacht, Die Kriegsschuld des Kaiserlichen Deutschland 1914/18, Düsseldorf, p. 18.
See also the most negative review of Gustav Schmoller in German schoolbooks, such as: Anderson, P.
(1971), “Gustav von Schmoller”, in, Deutsche Historiker, 2. Bd., Göttingen, in: Wehler, H.U. (ed.)
(1985), Das deutsche Kaiserreich in der Geschichte, Bd. 3, p. 39–65.
For
re-education see: Mosberg, H. (1991), Re-education. Umerziehung und Lizenzpresse in
Nachkriegsdeutschland, München (Diss. Kiel 1989). Therein: Report of a Conference on Germany
after the War called by the Committee on Post War Planning representing the American Association
on Mental Defi ciency, American Branch of the International League Against Epilepsy, American
Neurological Association, American Arthopsychiatric Association, American Psychiatric
Association, American Society for research in Psychosomatric Problems and the National Commity
for Mental Hygiene, inc. held at the College of Physicians and Surgeons, Columbia University,
New York City, on April 29th and 30th and May 6th, 20th and 21st, and June 3rd and 4th 1944.
See: long term plans, items 5 to 8, page 178.
8
Fischer, F. (1961), Griff nach der Weltmacht. Die Kriegsschuld des Kaiserlichen Deutschland
1914/18, Düsseldorf, p. 18.
9
See note nr. 7.
391
15 Gustav Schmoller as a Scientist of Political Economy
in Germany during his lifetime be called a mercantile-minded immigrant from
Württemberg as a Prussian by option. So prejudices displaced historical truth.
Right at the beginning of this paper, I would like to state that except for the
offi cially so-called Pfl egeversicherung, that is the old-age care insurance, I know of
no item of today’s German Social Market Economy (Soziale Marktwirtschaft) that
was not demanded as necessary or advisable by Gustav Schmoller in an article
printed in the liberal periodical “Preußische Jahrbücher” in three continuations in
1864 and 1865.
10
The law to integrate all citizens in an obligatory old-age care
insurance was not introduced until 1995.
11
It benefi ts all citizens and not the poor in
distress only, to which Schmoller had devoted all measures of social policy he
demanded. Redistribution of income on a large scale in Germany of today is a char-
acteristic of a welfare state to which since 1957 the social state of Germany has
gradually been transformed. The old-age care insurance is the best example for the
change of the guiding principle of institutions for which Schmoller 40 years after
his death cannot be made responsible. Schmoller refused redistributive measures
producing contra-productive consequences and so endangering economic progress
and stability of a free order of society.
How then could Schmoller disintegrate not only the scientifi c community of
economists but also historians in Germany to such an extent and even lasting up to
today for more than 80 years after his death?
Let me try to give some answers:
First of all, it seems reasonable to give a brief list of questions which will be dealt
with in my paper more or less roughly:
1. Schmoller’s personal background.
2. His education, school and university training and his professional interests after
his graduation.
3. Reasons for Schmoller’s continuous interest for Methodology of Social Sciences
and the attention he paid to institutions. His interest for historical research.
4. Schmoller’s efforts to achieve a suitable statistical equipment for scientifi c
social research.
5. Schmoller’s assessment of the economic circumstances in 1864. Before taking
over a chair for statistics at Halle University, Schmoller specifi ed his lifetime
social research programme.
6. Schmoller continued his methodological interests and intensively criticised
famous conservative historians after 1864.
7. The importance Schmoller attributed to institutions as instruments for technical
and social progress to increase social wealth. Social policy as precondition
for social balance and progress. The so-called social reform (Sozialreform)
Schmoller recommended.
10
Preußische Jahrbücher, 14. Band, Berlin 1864, p. 393-p. 424, p. 523-p. 547, 15. Bd., Berlin,
1865, p. 32-p. 63.
11
Gesetz zur sozialen Absicherung des Risikos der Pfl egebedürftigkeit (Pfl ege-Versicherungsgesetz-
Pfl ege-VG) vom 26.5.94 in BGBL I 94, p. 1014.
392 R. Hansen
8. Why was Schmoller’s infl uence so enormous? His membership in the so-called
Verein für Socialpolitik.
9. Schmoller as professor of political economy at Berlin University after 1881
next to his colleague Adolph Wagner. His editorship of famous periodicals. The
controversy of methods in social sciences.
10. Schmoller’s textbook outlining his life work of 1900 and 1904 in two volumes
called Grundriß der Volkswirtschaftslehre .
11. The effects of Schmoller’s engagement for social policy from his own view-
point. Modern comments on the effects of the German social policy compared
with the British developments of the same time period.
12. Enemies of Schmoller among industrial leaders, politicians and scientists, some
of them seething with hatred in 1900.
13. The debate on value judgements after 1900 and Schmoller’s commitment. The
reasons for this heated debate.
In the following chapter, I will accentuate on the topics which so long nobody
has bothered about and which when taken into account show a thoroughly different
picture of Gustav Schmoller than what we are used to when reading textbooks and
biographies.
Schmoller’s Approach to Political Economy
and the Debate on Value Judgements
In 1900, the fi rst volume of Schmoller’s textbook Grundriß der Volkswirtschaftslehre
appeared on the market. Schmoller’s fellow combatant in methodological matters
Wilhelm Hasbach reviewed the book in a periodical comparing Schmoller’s compre-
hensive outline with an event 125 years earlier, the appearance of Adam Smith’s
Wealth of Nations .
12
This comparison was felt as provocation by many of Schmoller’s
great many enemies. The conservative historian Georg von Below could no longer
suppress his contempt for Schmoller and published an article seething with hatred
consisting of eight continuations with hardly no arguments relevant to the point.
13
Von Below seemed so furious and outraged that he did not even mind and stop insulting
the reviewer Hasbach in further supplements, which the editors, several professors in
strong liaison to leaders of industry, printed with concealed satisfaction.
14
12
Hasbach, W. (1902), “Gustav Schmoller. Grundriß der allgemeinen Volkswirtschaftslehre”, in,
Jahrbücher für Nationalökonomie und Statistik, III Folge, 23. Bd., p. 387 ff. here p. 403.
13
Below, G. von (1904), “Zur Würdigung der historischen Schule der Nationalökonomie”, in,
Wolf, J. (Hrsg.), Zeitschrift für Socialwissenschaft, VII Jahrgang, p. 145 ff., p. 221 ff., p. 304 ff.,
p. 367 ff., p. 451 ff., p. 654 ff., p. 710 ff., p. 787 ff.
14
Hasbach, W. (1905), “Erklärung”, in, Zeitschrift für Socialwissenschaft, VIII Jahrgang, p. 137 f.;
Below, G. von (1905), “Erwiderung”, in, dto, p. 139 f.; Hasbach, W. (1905), “Letter to the editor”,
dto., p. 267; Below, G. von (1905), “Erwiderung”, dto., p. 267; For characterisation of the editors
and their interests see: Lindenlaub, D. (1969), “Firmengeschichte und Sozialpolitik”, in, Manegold,
K.H. (1969) (Hrsg.), Wissenschaft und Technik, München, p. 273.
393
15 Gustav Schmoller as a Scientist of Political Economy
Three years earlier a well-to-do “saloon demagogue”,
15
as he was nicknamed by
friends, endowed with high rhetoric talents had written an article entitled “Ideale der
Sozialpolitik”, ideals of social policy,
16
which was an open challenge to Schmoller’s
political economy. In this paper, Sombart continuously accused Schmoller of directing
his research on arbitrary personal priorities and so erecting his political economy
voluntarily on unsystematic value judgements selected at random. Sombart empha-
sised that social science must perceive the blind and inexorable laws of historical
development. Politicians and scientists wishing to make the world more reasonable
are thereafter advised to take into account from the social scientist the knowledge of
what is inevitably going to happen. And since this development is inevitable, it
seemed for Sombart to be a scientifi c decision based on scientifi c foresight. It would
be madness, so he believed, to attempt to resist. So for Sombart, and the same applied
to the social scientists and historians of other political colours and therefore believing
in other–in fact opposite, liberal–ends of history, Schmoller’s recommendations for
social policy were at random thoroughly arbitrary and missing any scientifi c justifi -
cation. They blamed him not to perceive historical trends and tendencies and, there-
fore, to refuse to acknowledge inevitable necessities of development.
After Max Weber in 1904 had published an article demanding neutrality in eco-
nomic sciences for the sake of scientifi c objectivity, stating that value judgements
cannot be perceived by economic reasoning, the situation for those engaged in the
discussion became most confusing.
17
Shortly later, asked by the high court at Berlin to deliver an experts opinion in an
action for slander, Sombart underlined that the recommendations for social policy of
the members of the younger historical school were thoroughly erroneous and
arbitrary. The very conservative judges preferred to listen to the oratorical tycoon
Sombart rather than trying to understand the complicated and to the sophisticated
arguments of Gustav Schmoller, continuously indicating that the complainant was an
15
Schmoller, G. (1903), “Review of: W. Sombart (1902), Der moderne Kapitalismus”, Leipzig, in,
Jahrbuch für Gesetzgebung, Verwaltung und Volkswirtschaft im Deutschen Reich, N. 27 Jg.
(1903), p. 292; for the following see also Schmoller’s characterisation of Sombart in: “Karl Marx
und Werner Sombart”, in, Schmollers Jahrbuch für Gesetzgebung, Verwatlung und Volkswirtschaft
im Deutschen Reiche, XXXIII Jg. (1909), p. 1235, here p. 1239.
16
Sombart, W. (1897), “Ideale der Sozialpolitik”, in, Archive für Soziale Gesetzgebung und
Statistik, Berlin, 10. Bd., p. 1 ff. here especially p. 39 ff., p. 44; see also Sombart, W. (1900),
Sozialismus und soziale Bewegung, p. 29, p. 32, p. 42, p. 97, p. 98, p. 99 etc. It is never mentioned,
that Sombart had learnt from Schmoller to restrain from value judgements on personal priorities in
science. See: Sombart, W. (1892), “Die neuen Handelsvertrage Deutschlands”, in, Jahrbuch für
Gesetzgebung Verwaltung und Volkswirtschaft im Deutschen Reich, 16. Jg., p. 549. Here he out-
lines duties of a scientist originated and often repeated by Schmoller.
1 7
Weber, M. (1904), “Die Objektivität sozialwissenschaftlicher und sozialpolitischer Erkenntnis”,
in, Archiv für Sozialwissenschaft und Sozialpolitik, NF 1 Bd. (1904), p. 22 ff. For a modern inter-
pretation of Webers article, see: Albert, H. (1966), “Theorie und Praxis. Max Weber und das
Problem der Wertfreiheit und der Rationalität”, in, Albert, H. und Topitsch, E. (Hrsg.) (1971),
Werturteilsfreiheit, Darmstadt, p. 200 ff. Weber in 1904 very continously criticised Schmoller’s
Methodology (p. 81) because he missed the scientifi c background of Schmoller. He had studied
history and law. Weber never condemned the open selection of a fi eld for scientifi c concern by a
scientist. Herefore see: Albert, H. (1966), p. 205.
394 R. Hansen
opportunist and by no means in line with the opinions of the members of the socialists
of the chair, as the founders of the “Verein für Socialpolitik” were called.
18
Sombart had so secured that for statements insulting a professional scientist being
a member of the socialists of the chair for opportunistic and unscientifi c recommen-
dations, nobody could anymore be brought to court and sued by action for slander.
These and many further procedures brought great confusion into the public
discussion of Schmoller’s engagement in social policy lasting up to today.
Did Schmoller’s Contributions Miss Neutrality
and Therefore Scientifi c Dignity?
Max Weber had condemned value judgements as essential elements of scientifi c
statements because they could not be proved or better falsifi ed by comparing them
with reality. But Weber never refused open evaluations for selecting political ends
to be achieved or for deciding of priorities for a selective research programme for
pursuing political aims.
19
And exactly that was what Schmoller had done as we will
see in 1864 even before starting his career as a teacher of statistics and political
economy at the Halle University.
Furthermore, for the scientifi c opponents mentioned and the enemies of
Schmoller, the interpretations of history by historical prophecy or dogmatically
assumed trends or tendencies of development were the basis for all reasonable real-
istic political action. So most of their theoretical activities aimed at interpreting the
past in order to predict the future. And they were convinced of their theory that
society will necessarily change, but along a predetermined path that cannot be
altered since it is predetermined by inexorable necessity. The desire for an increase
of reason in social life – say by social policy measures – in this set of ideas can only
be satisfi ed according to these scientists by studying and interpreting history in
order to discover the laws of development. Activism can be justifi ed only so long as
it acquiesces in impending changes and helps them along.
20
Therefore, social policy
can only do that much: it can shorten and lessen the birth pangs. This was the func-
tion Schmoller’s opponents would assign to social scientists to fulfi l, to act like a
midwife as Adolph Wagner for himself claimed to be performing in 1887.
21
18
For information of the legal proceedings and the judical hearing see: Brentano, L. (1931), Mein
Leben im Kampf um die soziale Entwicklung Deutschlands, Jena, p. 410 ff.; see also: Lindenlaub, D.
(1965), Richtungskämpfe im Verein für Socialpolitik, Wiesbaden, p. 441 ff. and Hansen, R. (1968),
“Der Methodenstreit in den Sozialwissenschaften zwischen Gustav Schmoller und Karl Menger.
Seine wissenschaftshistorische und wissenschaftstheoretische Bedeutung”, in, Beiträge zur
Entwicklung der Wissenschaftstheorie im 19. Jahrhundert, Meisenheim, p. 156.
1 9
See note 17.
2 0
For this criticism see: Popper, K. (1957), The Poverty of Historicism, London, p. 51 and Popper,
K. (1952), The Open Society and its Enemies, Vol. II, London, p. 135 ff.
2 1
Wagner, A. (1887), “Finanzwissenschaft und Staatssozialismus”, in: Zeitschrift für die gesamte
Staatswissenschaft, 43. Jg., p. 121; see also: Popper, K. (1957), The Poverty of Historicism, p. 51.
395
15 Gustav Schmoller as a Scientist of Political Economy
But the conviction of a scientifi c and reasonable character of political recom-
mendations in this system is of enormous importance. It rests on the decision to
believe in holistic historical predictions or better in prophecy of social development
of a fatalistic character. To speak of a universal law of this kind is misleading, since
a hypothesis of this kind rather has the character of a particular singular or specifi c
historical statement. Anyhow, it seems important to make explicit the hidden imper-
ative or principle of conduct implied in this basic decision. It is “Adopt the moral
system of the future!” And “That we should accept the morality of the future just
because it is the future morality is surely a moral problem and cannot be solved as
correct by proving reality”.
22
It certainly is a value judgement though hidden behind
rhetorical drugs.
In vain, Schmoller had since 1863 emphasised methodological research as most
important.
23
And he was the only German scientist of Political Economy to do so
and after taking over a chair at the Berlin University in 1881 periodically to give
lectures on Methodology.
24
As Schmoller often mentioned, he believed it necessary
to modernise social sciences, most parts of which he believed to still show a traditional
metaphysical status.
25
Schmoller continuously refused to acknowledge historical
laws of development, criticising Karl Marx, Adolph Wagner, Lugo Brentano, Werner
Sombart, Karl Lamprecht and others, and he rejected the fatalistic character of such
assumptions as evidentially false or in any case problematic. He claimed that universal
statements can only be qualifi ed as laws if they were provable or better if they can
be falsifi ed by observation of reality.
26
The so-called laws of historical development
are not because they refer to an advancing singular process.
Schmoller until 1911 when he was 73 years old had never claimed his evaluations
of social aims or research priorities as imparted by some mysterious revelation,
perception or knowledge. He simply judged them as product of his personal moral
intuition and devotion. But he also simultaneously mentioned concrete reasons for
their importance and this especially for social measures regarding the further devel-
opment of society. There can be no doubt that Schmoller convinced his listeners,
among which were many scientifi c opponents. Obviously, there are great differences
in between the historical reality of Gustav Schmoller’s position as a scientist of
political economy and the reports and commentaries of the discussions in which he
was involved. This might be the consequence of the instance that nobody so far
2 2
Popper, K. (1952), The Open Society and its Enemies, Vol. II, p. 205.
2 3
See: Hansen, R. (1993), “Gustav Schmoller und die Sozialpolitik von heute”, in, Backhaus, J.
(Hrsg.) (1993), Schmoller und die Probleme von heute, Berlin, p. 112 and 113 and footnotes 8–10;
see: Schmoller, G. (1911), “Volkswirtschaft, Volkswirtschaftslehre und –methode”, in,
Handwörterbuch der Staatswissenschaften, 3.A., 8. Bd., p. 497.
2 4
According to the university calendar of the Berlin University, Schmoller delivered a course of
lectures on methodology of social sciences in 1883, 1890 and 1896.
2 5
Schmoller, G. (1881), “Über Zwecke und Ziele des Jahrbuches, vom Herausgeber”, in: Jahrbuch
für Gesetzgebung, Verwaltung und Volkswirtschaft im Deutschen Reich, NF.5.Jg., p. 3, S. 7.
2 6
Schmoller, G. (1894), “Volkswirtschaft, Volkswirtschaftslehre und –methode”, in, Handwörterbuch
der Staatswissenschaften, 1.A. 6. Band, p. 555.
396 R. Hansen
bothered vigorously to explore Schmoller’s scientifi c background and the resulting
methodological convictions. These were – as will be shown – thoroughly different
to all of his colleagues, be they friends or opponents. There was only one exception
and that was Wilhelm Hasbach mentioned in the beginning as fellow combatant.
The Scientifi c Background of Gustav Schmoller
and His Efforts for a Modernised Methodology of Social
Sciences. Schmoller’s Method of Historical Research
Schmoller was born at Heilbronn in 1838. Here in Württemberg, his father was the
administrator of the district treasury and director of the revenue offi ce. Heilbronn at
that time was a little town of approximately 18,000 inhabitants with a prospering
industry and trading centre. When Schmoller was at the age of 4 years, his mother
became disabled and died. And for this reason, from then on he spent most of his time
in the household of his grandfather at Calw in the Black Forest (Schwarzwald) not far
from Heilbronn.
27
This is of great importance because his grandfather and his great-
grandfather, Carl Friedrich Gärtner and Joseph Gärtner, had been famous scientists.
28
Their home at Calw embodied the intellectual centre of the district, especially since
they belonged to a rich and well-known trading family with contacts in all of Europe
for the supply of linen manufactured in the villages of the Black Forest.
Gustav Schmoller later on occasionally reported that his ancestors were parsons,
offi cers and scholars and that here at Calw in his youth, he had learnt how sound
scientifi c research, disinterested for any personal benefi ts, was conducted. Great-
grandfather and grandfather were learned and qualifi ed physicians, chemists, phar-
macists and biologists, engaged in scientifi c experimental research. Grandfather
Carl Friedrich Gärtner had also studied chemistry and was a supporter of the shift of
vision for theoretical explanation of natural proceedings, which had been originated
by Antoine L. de Lavoisier.
29
Thomas S. Kuhn speaks of a scientifi c revolution
caused by a “change of paradigm” created by the discoveries of Lavoisier bringing
about a change of the frame for theoretical explanation from traditional alchemy to
modern scientifi c chemistry.
30
The difference was the use of systematic experimental
research measures, the new frame of scientifi c reasoning allowed for.
2 7
Schmoller, G. (1918), “Meine Heilbronner Jugendjahre”, in, Von schwäbischer Scholle. Kalender
für schwäbische Literatur und Kunst, Bd. 7, p. 53, here p. 55; Schmoller, G. (1908), “Erwiderung”,
in, Reden und Aussprachen, gehalten am 24.6.1908 bei der Feier von Gustav Schmollers 70.
Geburtstag. Als Handschrift gedruckt. p. 4 ff., here p. 48.
2 8
Ascherson, J. (1878), “Gärtner, Karl Friedrich von”, in, Allgemeine Deutsche Biographie, 28. Bd.,
p. 382; Creizenach, W. (1878), Allgemeine Deutsche Biographie, 8. Bd., Gärtner, J.G., p. 377.
2 9
Graepel, P.H. (1978), Carl Friedrich von Gärtner (1772–1850), Familie-Leben–Werk. Ein Beitrag zur
Geschichte der Sexualtheorie und der Bastarderzeugung im Pfl anzenreich, Diss. Marburg, p. 80.
30
Kuhn, Th. S. (1970), The Structure of Scientifi c Revolutions, (2nd ed.), p. 56, p. 126.
397
15 Gustav Schmoller as a Scientist of Political Economy
Carl Friedrich Gärtner had when growing old invested his large fortune in achieving
knowledge of the reproduction of plants. Biology since Aristotle was believed to be
the most important of natural sciences. According to the traditional doctrines still in
line with the Aristotelian philosophy, the reproduction of plants had so long been a
question of volume and quality of nourishment only. In 9,560 series of experiments,
Gärtner examined this together with the basic hypothesis of the unchangeable
steadiness of the species.
The result of Gärtner’s 25 years of experimental endeavouring was the irrefutable
evidence of the sexuality of plants.
31
And even more, Gärtner showed the possibility
to change and alter the features and peculiarities of plants by controlled artifi cial
pollination and this even so to suit human demands.
32
So the knowledge obtained in
experiments for hybridisation could allow universal statements, laws of natural pro-
cedures, and these could be made use of for practical purposes. This possibility is
not uncommon to us today but it was beyond thought during Gärtner’s lifetime.
Science obtained by experimental research could now show a link between
coercion by natural laws and artifi cial purposeful intervention by mankind. More
still, Joseph and Friedrich Carl Gärtner were advocates of a gradually spreading
scientifi c revolution. Scientists of a traditional attitude had taken evolution to be a
steady goal-directed process.
33
The idea of man and of the contemporary fl ora and
fauna and their evolutionary development was thought to have been present from
the fi rst creation of life, perhaps being the mind of God. The Gärtners, though many
relatives being parsons, were not religious. The results of Gärtner’s research led to
an abolition of that assumed teleological kind of revolution.
Joseph and Carl Friedrich Gärtner were members of the leading European acad-
emies. Carl Friedrich Gärtner was honoured by, among many other awards, a prize
from the royal Dutch Academy of Sciences in 1837.
34
Both were members of many
scientifi c associations and well known for their contributions to science. So for
instance, William Whewell reviewed Joseph Gärtner’s System of Plants in his History
of the Inductive Sciences , and Darwin quoted Carl Friedrich Gärtner for evidence of
important topics in his book On the Origin of Species and held contact with him.
35
31
Graepel, P.H. (1978), Carl Friedrich von Gärtner (1772–1850), Familie-Leben–Werk. Ein Beitrag
zur Geschichte der Sexualtheorie und der Bastarderzeugung im Pfl anzenreich, Diss. Marburg,
p. 244.
32
Gärtner, C.F. (1849), Versuche und Beobachtungen über Bastard-Erzeugung im Pfl anzenreich.
Mit Hinweisungen auf ähnliche Erscheinungen im Tierreiche, Stuttgart, p. 663 ff.; see: Hansen, R.
(1996), Die practischen Konzequenzen des Methodenstreits, Berlin, p. 190 ff.
33
Kuhn, Th. S. (1970), The Structure of Scientifi c Revolutions, London, p. 171.
3 4
Graepel, P.H. (1978), Carl Friedrich von Gärtner (1772–1850), Familie, Leben – Leben – Werk.
Ein Beitrag zur Geschichte der Sexualtheorie und der Bastarderzeugung im Pfl anzenreich, Diss.
Marburg, p. 256.
3 5
Graepel, P.H. (1978), Carl Friedrich von Gärtner (1772–1850), Familie, Leben – Leben – Werk.
Ein Beitrag zur Geschichte der Sexualtheorie und der Bastarderzeugung im Pfl anzenreich, Diss.
Marburg, p. 335; Sachs, J. (1860), Geschichte der Botanik vom 16. Jahrhundert bis 1860, München,
p. 474 ff., here p. 596; see: Hansen, R. (1993), “Gustav Schmoller und die Sozialpolitik von Heute”,
in, Backhaus, J. (1993), Gustav Schmoller und die Probleme von Heute, p. 112, note 8.
398 R. Hansen
After passing school, Gustav Schmoller was trained and learned the problems
connected with taxation and the fi nancial and administrative practices and got early
experiences of life by working in the offi ce of his very strict and busy father before
enrolling at the Tübingen University.
During his school days, Schmoller had like his ancestors been most interested in
natural sciences, especially in mathematics and technology. At the University, he
followed the same line of interests but additionally cared for studying law, history
and philosophy and thereby neglected political economy.
36
Before passing the two
examinations for becoming a civil servant in the administration of Württemberg,
Schmoller took part in a competition preparing a historical report and expertise on
the economical opinions prevailing during the reformation period.
37
Schmoller
produced a long account exploring the relation of the contemporary individuals of
different religious opinions and the economic consequences they caused in respect
of production of necessary commodities, purchase, possession, use, prices and supply
of indispensable terrestrial goods during the reformation period. For this treatise,
Schmoller was awarded a prize and he took his doctorate degree.
In this long exploration, Schmoller already on the fi rst three pages mentioned his,
as he believed, most important discovery that the fundamental psychological assump-
tions of Adam Smith dealing with the behaviour of individuals do not allow for
historical proof. As statements of universal character and as a theory of behaviour
they were false, so Schmoller complained.
38
He, therefore, criticised Adam Smith
here and later on continuously for assuming an unchangeable economic behaviour of
individuals and not to realise and take into account the great differences when exam-
ining various countries, regions or places and this at alternating periods.
39
According
to Schmoller’s opinion, Smith’s theoretical framework was therefore unqualifi ed to
explain the observable instances and proceedings of economic reality.
Schmoller’s report then showed the economic results of the most controversial
religious institutions during the reformation period. He underlined that in the end, the
poor and weak were the victims of the complete loss of balance of society. For these
conclusions as a result of an analysis, Schmoller needed a thoroughly different theoreti-
cal approach of his research compared with the usual access of historians to the data.
Individual facts, appearances and events were of interest only or with priority in respect
36
For any information on Schmoller’s youth, education and university training, see: “Schmoller
meine Heilbronner Jugendjahre …”as note nr. 27 and “Reden und Aussprachen …”likewise note
nr. 27, and Graepel , P.H. (1978), Carl Friedrich von Gärtner … as note 29, p. 161 ff.
37
Schmoller, G. (1860), “Zur Geschichte der nationalökonomischen Aussichten in Deutschland
während der Reformationsperiode”, in, Zeitschrift für die gesamte Staatswissenschaft, 16. Band,
1860, p. 461 ff.
38
Schmoller, G. (1860), “Zur Geschichte der nationalökonomischen Aussichten in Deutschland
während der Reformationsperiode”, in, Zeitschrift für die gesamte Staatswissenschaft, 16. Band,
1860, p. 461–465.
39
Schmoller, G. (1860), “Zur Geschichte der nationalökonomischen Aussichten in Deutschland
während der Reformationsperiode”, in, Zeitschrift für die gesamte Staatswissenschaft, 16. Band,
1860, p. 463.
399
15 Gustav Schmoller as a Scientist of Political Economy
of presenting, confi rming or falsifying regularities of consequences affecting
economic life. The causal consequences of interconnected elements in society showing
regularities even though limited to regional or local districts and periods continuously
raised his attention. And he endeavoured to furnish fi ndings with statistical data.
Mankind is integrated in two worlds, Schmoller underlined as result of his research
in his dissertation, the world of mind or spirit, genius, and the world of matter, and
he is not only provided with a free will but also limited at the mercy of coercive
natural laws which can be brought to light by scientifi c skill.
40
In this dissertation,
Schmoller in 1860 treated the history of economic proceedings during the reforma-
tion period, that is, the sixteenth century, like working in a laboratory, guessing,
assuming, comparing and refuting consequences in between religious movements
altering institutions and data of economic life.
The different religious beliefs, so he assumed, caused very different social insti-
tutions, this term used in a broad sense. The historical items, according to Schmoller,
could then be made use of like an artifi cial experiment designed for comparing
proceedings in a similar social frame of a closed period, observing regular altera-
tions of interest.
In such an investigation, institutions then could appear like physical instruments and
could be evoked upon from a functional point of view. They could be seen as means to
certain ends or even as convertible to the service of certain ends, as tools so to say.
This technological procedure means applying the experimental method to social
sciences by historical research. Of course, any assumed generalisations or better
laws or regularities are then confi ned to separately defi ned periods of similar cul-
tural circumstances – bestimmter wirtschaftlicher Kulturzustand – as Schmoller 30
years later advised in his article on methodology.
41
In conformity with this procedure in all scientifi c contributions, Schmoller through
all his life continuously demanded what he would call “Detailuntersuchungen”.
42
This he roughly defi ned as investigation of causal interconnections of elements of
social reality restricted so not to lose precise control and easy to survey, therefore
limited to a closed period. This is identical with what today Karl Popper calls “practi-
cal technological approach” and qualifi es as a basis for “social engineering”.
43
Already the reviewer of Schmoller’s disssertation, Wilhelm Roscher
44
in 1861
stated that the peculiar historical description or better examination of the reformation
period by Schmoller was in fact a theoretical analysis of institutional changes of
40
Schmoller, G. (1860), “Zur Geschichte der nationalökonomischen Aussichten in Deutschland
während der Reformationsperiode”, in, Zeitschrift für die gesamte Staatswissenschaft, 16. Band,
1860, p. 462.
41
Schmoller, G. (1894), “Volkswirtschaft, Volkswirtschaftslehre und –methode”, in,
Handwörterbuch der Staatswissenschaften, 6. Band, p. 559.
42
Schmoller, G. (1881), “Über Zweck und Ziele des Jahrbuches”, in, Jahrbuch für Gesetzgebung,
Verwaltung und …, 5. Jg., p. 7.
43
Popper, K.R. (1952), The Poverty of Historicism, London, p. 42.
44
Roscher, W. (1861), “Review of: Schmoller, Gustav, Zur Geschichte der nationalökonomischen
Aussichten …”, in, Liberarisches Centralblatt für Deutschland, 1861, p. 761.
400 R. Hansen
property rights and the thereby inaugurated social consequences. Schmoller did not
try to describe individual occurrences as was done in a competing treatise dealing
with the same question written by a distinguished historian and learned philologist
Dr. H. Wiskemann
45
as Roscher underlined, thereby mentioning that Schmoller was
still a student. Unlike the historian Wiskemann, Schmoller was endeavouring to fi nd
causal interconnections in between important elements of economic life, regularities
of importance so Roscher noticed.
46
For this very reason, a shift of interest mentioned by Roscher in 1861, Schmoller
was during his lifetime never accepted by the profession as a historian. Friedrich
Meinecke, a famous German historian, announced after Schmoller’s death that his
many historical contributions during his lifetime spread the smell of a laboratory.
47
That was certainly a correct judgement since it corresponded to Schmoller’s early
intention. This makes it easier for us to understand Schmoller’s critical remark in
his review of Menger’s “Untersuchungen” that he would be fi red out of every labo-
ratory.
48
Menger, like all scientists of political economy of the period discussed, was
unaware of experimental research.
For Schmoller, all knowledge of reality including political economy had to be
approved for by observation and he opposed John Stuart Mill in this respect whose
treatise On Liberty he admired. But he denied Mill’s dogmatic statement that experi-
ments were not possible in all of social sciences.
49
The fact that Mill rested political
economy on principles which he called “laws of human nature” obtained by intro-
spection was rejected by Schmoller because they did not meet the essential necessity
to be interpersonally provable. In this respect, Schmoller criticised Mill’s contribution
of methodology and followed William Whewell’s Philosophy of the Inductive Sciences
against whom John Stuart Mill in 1843 had written his book on System of Logic .
50
This
he had done to justify the Ricardian deductive method for political economy because
he was convinced of the impossibility of conducting experiments in social sciences.
Mill believed that the experimental method cannot be applied to social sciences
because we cannot reproduce at will precisely similar experimental conditions.
51
But in
45
Wiskemann, H. (1861), Darstellung der in Deutschland zur Zeit der Reformation herrschenden
nationalökonomischen Aussichten, Leipzig.
46
Roscher, W. (1861), “Review …”, as note 44, p. 761.
47
Meinecke, F. (1922), “Drei Generationen deutscher Gelehrtenpolitik”, in, Historische Zeitschrift,
Bd. 125, p. 251. See also: Oestreich, G. (1969), “Die Fachhistorie und die Anfange der sozialge-
schichtlichen Forschung in Deutschland”, in: Historische Zeitschrift, Bd. 208, p. 323.
48
Schmoller, G. (1883), “Zur Methodologie der Staats- und Sozialwissenschaften”, in, Jahrbuch
für Gesetzgebung, Vewaltung und Volkswirtschaft im Deutschen Reich, 7. Jg., p. 979.
4 9
Schmoller, G. (1894), “Volkswirtschaft, Volkswirtschaftslehre und –methode”, in, Handwörterbuch
der Staatswissenschaften, 6. Band, p. 539, p. 540, p. 42, p. 543, p. 546, p. 555, p. 557, see also
p. 987.
50
Mill, J. St. (1874), Selbstbiographie, Stuttgart, p. 132, p. 173.
51
See: Mill, J. St. (1844), “On the Defi nition of Political Economy; And on the Method of
Investigation Proper to it”, in, Essays on Some Unsettled Questions of Political Economy, London,
p. 120 ff., here p. 147; and: Mill, J. St. (1898), System of Logic, Ratiocinative and Inductive,
Peoples Edition, London, Book VI, Chapter VII, § 2.
401
15 Gustav Schmoller as a Scientist of Political Economy
fact, experimental physicists know that often very dissimilar things may happen under
what appears to be precisely similar conditions. The question what are to be described
as “similar conditions” depends on the kind of experiment and can be answered only
by using experiments. The argument that social experiments are fatally hampered by
the variability of social conditions, and especially by the changes which are due to
historical development, loses its force when examined. Experiments may lead us to
unforeseen results. But it would be experiments which alone lead us to discover the
change in social conditions. And experiments only can teach us that certain social
conditions change with the historical period,
52
so Schmoller’s answer could be read.
So after fi nishing his university studies, Schmoller intended to write an essay on
the development of political economy from the philosophical systems of the eigh-
teenth century and the thoroughly new methodological necessities of modern science
at his lifetime.
53
Later on, Schmoller mentioned of feeling regret for not having
invested more endeavour towards working on and answering pure methodological
questions. But he admitted that this would have easily occupied his full attention for
all his life.
54
He found satisfaction in his belief that he had devoted his life as scien-
tist chiefl y to the more pressing social problems of the time and mentioned that his
contributions could never have been judged as sound if he had not worked hard for
acquiring solid basic methodological convictions.
During all his life, Schmoller continuously followed up the discussion on meth-
odology in sciences and after appointed chair holder at the Berlin University in
1881, he lectured methodology in cycles of every 6 years.
55
Experimental knowledge only enables mankind to master and control nature, but
nevertheless in conditional boundaries. This Schmoller had learnt from the scien-
tifi c activities of his ancestors. Carl Friedrich Gärtner had shown how to produce
useful fruits and plants by artifi cial pollination. Schmoller’s dissertation made evident
the importance of institutions for the economic development of a country. So for
Schmoller, the question of formulation and alteration of institutions became to be of
the greatest interest. Later on, he devoted himself to answer this question in an
article which he altered, supplemented and improved 4 times before having it printed
in 1881 in the periodical, the editorship of which he took over. Therein he linked the
question of the origin of institutions with the idea of Justice in Political Economy,
as he headlined the article. He later mentioned this article as of fundamental importance
in all his contributions.
56
Since he evaluated this essay as of guiding importance,
52
See: Popper, K.R. (1957), The Poverty of Historicism, London, p. 94.
5 3
Hintze, O. (1919), “Gustav Schmoller. Ein Gedenkblatt (1919)”, in, Soziologie und Geschichte,
Göttingen, 1964, p. 523.
5 4
Schmoller, G. (1912), “Volkswirtschaft, Volkswirtschaftslehre und –methode”, in, Handwörterbuch
der Staatswissenschaften, Band, 3.A., p. 497/8.
55
See note 24.
56
Schmoller, G. (1881), “Die Gerechtigkeit in der Volkswirtschaft”, in, Jahrbuch für Gesetzgebung,
Verwaltung und Volkswirtschaft im Deutschen Reich, p. 19 ff., translated: “The Idea of Justice in
Political Economy”, in, Annals of the American Academy of Political and Social Science, Vol. IV,
1894, p. 697.
402 R. Hansen
he had it inserted as the fi rst article after announcing his rousing programme as the
new editor of the periodical Jahrbücher für Gesetzgebung, Verwaltung und
Volkswirtschaft im Deutschen Reich in 1881.
The concept of institutions thereby was used by Schmoller in the broadest sense.
A rough defi nition could read “The total of habits or behavioural patterns and moral
norms, of customs and traditions and the law, all re-enforced by common behavioural
standards in which a people conducts life”.
57
For Schmoller, economic institutions were a “product of human feelings and
thought, of human actions , human customs and not to forget human law”. And for
Schmoller, they were “the core of all economic policy” as shall be shown.
58
This certainly was controversial to Adam Smith to whom institutions had been
just irritating, annoying and a nuisance to economy as Schmoller during his life
often complained.
Immediately after passing his university examinations, Schmoller was asked to
work in Württemberg’s states industrial craft census of 1861. For this, Schmoller
composed a fi nal theoretical analysis and an evaluation of the economic situation.
He further on showed great interest in improving the theoretical orientation of
statistical inquiries. From functioning as an auxiliary science for history – the tradi-
tional governing principle was still relevant for Carl Menger and with exceptions for
Adolph Wagner – to a most important aid for experimental historical research.
59
This necessity, to use statistics for more than just furnishing historical reports with
economic data was 30 years later underlined in his article on methodology.
60
Schmoller’s Activities as a Chairholder for Statistics
at Halle University. The Practical Signifi cance
of His Theoretical Approach to Political Economy
Before commencing his appointment as professor of statistics at Halle University
simultaneously with preparing his lectures, Schmoller wrote an article on the most
pressing problems of the time which demonstrated his programme as a teacher of
statistics and economics and also demarcated his later lifetime fi eld of research. His
essay entitled “Die Arbeiterfrage”, or, translated, problems of the labour force, was
5 7
Schmoller, G. (1900), Grundriß der allgemeinen Volkswirtschaftslehre, S. 61/62; also: Schmoller,
G. (1894), Justice in Political Economy, p. 718.
5 8
Schmoller, G. (1884), “Review of Friedrich List: Das nationale System der politischen
Ökonomie”, in, Jahrbuch für Gesetzgebung, Verwaltung und Volkswirtschaft im Deutschen Reich,
8. Jg., p. 282.
5 9
See: Hansen, R. (1993), “Gustav Schmoller und die Sozialpolitik von Heute”, in, Backhaus, J.
(1993), Schmoller und die Probleme von Heute, Berlin, p. 140 u. p. 141, notes 98–100.
6 0
Schmoller, G. (1894), “Volkswirtschaft, Volkswirtschaftslehre und –methode”, in, Handwörterbuch
der Staatswissenschaften, 6. Band, p. 541 ff.
403
15 Gustav Schmoller as a Scientist of Political Economy
printed in the liberal periodical Preußische Jahrbücher , in 1864 and 1865 in three
continuations.
61
It was of great infl uence and the recommendations therein after
1872 became the programme of the association called “Verein für Socialpolitik” for
which he was among the founders.
In this article, Schmoller outlined the social problems caused by the contemporary
proceeding transition from a traditional order of economics to an industrial society
as consequence of the technical revolution which brought about most undesirable
social problems accelerating since 1850. Traditional tools were replaced by machinery,
handcraft by factories, professional division of labour multiplied effi ciency, manpower
was substituted by natural resources and even more. The resulting social problems
were enormous.
62
The rise of an industrial working class of proletarians, the growth of cities and
fl ight of the population from the land seeking jobs, the replacement of old industrial
centres and the sudden emergence of new ones, missing accommodations, large
numbers of unemployed often on the run, breakdown and insolvencies of small crafts
and the growing crowd of desolate poor raised questions pressing for adequate solu-
tions. Additionally, the growing age of machinery created great social problems.
At that time, two recommendations promising improvement were openly debated.
The calls for mankind to perceive ethical obligations and to change habits of con-
duct forwarded by F.A. Lange and E. Dühring, both philosophers and economists,
were hardly discussed in the public. But adherents of economic liberalism, dogmati-
cally believing in the doctrine of “laissez – fair” received great public interest. As a
matter of fact, the ideas of Adam Smith had turned out to be of greatest help to the
development of the thoroughly disordered Prussian economy after the occupation
by Napoleon’s troops.
The second advice controversially debated was advanced by the followers of
Karl Marx, F. Lassalle and other socialists, demanding the abandonment of private
property for all production equipment. The exponents of both these theories dog-
matically believed in laws of development, inevitably leading to the political ends
they thought somehow to be normal and desirable.
63
Schmoller’s recommendations for solving the social problems of the time were
different. In the given situation, Schmoller saw a great opportunity for improving
the wealth of all citizens by making use of the technical progress through increased
utilisation of machinery.
64
But by his historical research for his dissertation,
Schmoller had learnt that the society could lose its balance if the traditional institu-
tions are unqualifi ed to maintain appeasement. This danger he believed decisive.
For Schmoller, Adam Smith had drawn a picture of individuals living in a natural
economic system of harmony, increasing the wealth of the community by just
6 1
Schmoller, G. (1864/5), “Die Arbeiterfrage”, in, Preußische Jahrbücher, 14. Bd., pp. 393 – 424,
pp. 523 – 547 and 15. Band, pp. 32 – 63.
62
Schmoller, G. (1864), “Die Arbeiterfrage”, p. 394.
63
Schmoller, G. (1864), “Die Arbeiterfrage”, p. 413 ff.
64
Schmoller, G. (1864), “Die Arbeiterfrage”, p. 394 ff.
404 R. Hansen
following their egoistic personal interests. In this draft, the clumsy interventions by
statesmen in a sophisticated natural clockwork of a trading society instead of limiting
their support on maintenance of peace and justice could only spoil an unproblematic
optimal natural performance. But natural harmony for Schmoller was a utopian idea
if there are no accepted institutions regulating the behaviour of individuals. And
individuals are of very different abilities and temper. Waiting for a satisfying spon-
taneous order usually leads, as Schmoller underlined, to an exploitation of the poor
by the well to be and mighty, and in the end to destruction of the balance of society
and so endangers democracy to turn into plutocracy.
65
The socialists on the opposite side believed in an inexorable law of development
to the goal of a free society by the abandonment of private property of production
equipment. Schmoller likewise saw no solution for the pending present problems of
society in such measures. His later experimental historical research showed the fun-
damental basis of such statements regarded as universal hypothesis to be falsifi ed.
66
The experimental treatment of historical studies by comparing developments had
shown Schmoller that the economic consequences of both political recommenda-
tions since resting on questionable utopian assumptions would lead society to lose
balance. Technical progress instead of making possible increasing wealth for all
citizens would end in a disaster of a revolution and this would favour the rich and
mighty only.
As he had learnt from his historical investigations, for Schmoller, the key for
protecting the balance of society rested in the harmonising consequences of the most
important reform of institutions. To Schmoller, they were the core of all economic poli-
cies.
67
And as he later stated in his article on Justice in Political Economy which he
announced as the most important foundation of all of his contributions to economics,
they had to be in accordance with the leading convictions of justice by the public.
68
Schmoller published his suggestions aiming at making technical progress a basis
for increase of wealth for all citizens in articles in 1864 and 1865, implemented in
1870, 1872 and 1874. He then was fi ercely attacked by a conservative historian, the
teacher of Georg von Below, mentioned in the beginning of my paper, as a patron and
supporter of socialism.
69
Schmoller immediately answered in a long article reasoning
65
Schmoller, G. (1900), Grundriß der allgemeinen Volkswirtschaftslehre, p. 422.
6 6
Such knowledge Schmoller achieved from historical research by treating the data like an experi-
ment in a laboratory. For instance, in a review discussing the articles of James Rogers and Karl
Lamprecht describing “Die soziale Entwicklung Deutschlands und Englands hauptsächlich auf dem
platten Land des Mittelalters”, Schmoller combined a result showing the main thesis of Karl Marx
as a general law of development to be false. See: Schmoller, G. (1888), Jahrbuch für Gesetzgebung,
Verwaltung und Volkswirtschaft im Deutschen Reich, 12. Jg., p. 203 ff., here p. 218.
67
See note 58.
6 8
Schmoller, G. (1894), “Justice in Political Economy”, in, Annals of the American Academy, p. 4
and p. 14.
6 9
Treitschke, H. von (1874), “Der Sozialismus und seine Gönner”, in, Preußische Jahrbücher, 34.
Band, pp. 67 – 110 und pp. 248 – 301.
405
15 Gustav Schmoller as a Scientist of Political Economy
his theoretical approach to Political Economy by including many methodological
arguments supporting his recommendations.
70
A typical governing principle in Schmoller’s answer reads as follows:
Sie haben sicher recht, daß wir nicht alles ordnen können, wie es menschlicher Weisheit gut
dünkt, daß wir dem Zufall vieles anheim geben müssen. Aber was wir ihm entreissen kön-
nen, das sollten wir auch. Denn dazu allein ward uns der Stempel des Geistes aufgedruckt.
Wir sollten selbstbewußt und mit Absicht in die Naturordnung eingreifen, soweit wir irgend
können. Jede Position, die wir dem Zufall abgewinnen ist ein Sieg menschlichen Kultur.
71
My brief translation is:
You surely are right assuming that we cannot regulate all procedures in conformity with the
wisdom of mankind, that we often must trust in pure accidental chance. But what we can
snatch and take over into our own responsibility that we should do. That is what we were
gifted for with spirit and intellect. Self-confi dent we should purposeful intervene in the
order nature provides at the best of our possibilities. That is what we were furnished for
with mind and intellect.
So Schmoller in 1864 and 1865 and further on made suggestions on how to make
possible for the entire society including proletarians, the labour force and the poor
to participate in the advantages of the technical progress. The so-called natural order
(Naturordnung), the Liberals believed to be the normal basis for Political Economy
achieved by preventing any state intervention, Schmoller demanded to be modifi ed
into a cultural order (Lebensordnung) in which institutions safeguard necessities of
life for every citizen.
72
The list of recommendations Schmoller suggested must begin by mentioning his
appeal to the emperor to devote himself to the protection of the weakest groups in
society and the poor. The peace of society, Schmoller demanded, should be guarded
by the two public representatives of the state, a neutral bureaucracy and a socially
conscious sovereign (soziales Königtum) legitimised by history and capable of
balancing judgement.
73
And further, more institutions should be erected to improve the educational
knowledge and the “standard of life” (cit.) of the labour class, to allow the establishment
of trade unions and to provide an insurance system containing an accident insur-
ance, an old-age insurance with an old-age pension scheme, an invalidity insurance,
7 0
Schmoller, G. (1874/1875), “Über einige Grundfragen des Rechts und der Volkswirtschaft. Ein
offenes Sendschreiben an Herrn Professor Dr. Heinrich von Treitschke”, Halle, in, Jahrbücher für
Nationalökonomie und Statistik, 23. Band, (1874), p. 225 ff. und 24. Bd. (1875), p. 84 ff.
7 1
Schmoller, G. (1874), “Über einige Grundfragen des Rechts und der Volkswirtschaft. Ein offenes
Sendschreiben an Herrn Professor Dr. Heinrich von Treitschke”, Halle, in, Jahrbücher für
Nationalökonomie und Statistik, 23. Band, (1874), p. 281/282.
7 2
Schmoller, G. (1865), “Die Arbeiterfrage”, p. 51; Schmoller wanted the “standard of life”(sic) of
all citizens to be raised.
7 3
Schmoller, G. (1874), Die soziale Frage und der preußische Staat, in Preußische Jahrbücher, 33.
Bd., p. 323, here p. 342.
406 R. Hansen
a health insurance and later on an unemployment insurance and further more to the
support of labourers and the poor.
74
Schmoller never suggested direct interventions into the price-building mechanisms
of the markets. He was convinced of the importance of competition and liberalism
as basic for economy. The suggested institutions should be the frame in which eco-
nomic activities could be conveyed.
75
In the beginning, I mentioned that the introduction of all those institutions we
today regard as obvious and essential consistments of an adequate order of society in
Western countries was demanded by Schmoller in his articles demarcating his further
research programme as a chairholder for economic sciences in 1864 and 1865.
But these recommendations invited a storm of objections among dogmatic liberals
and likewise socialists. Many teachers of Political Economy would soon call
Schmoller and his followers “socialists of the chair” (Kathedersozialisten).
76
This
was viewed as an adjective for a person under sentence, but after just 2 decades it
obtained the sound of praise but to be debased again to a summary for an economist
following unscientifi c oversized proceedings after 1900.
To reject misleading interpretations, Schmoller refused to allow the state to interfere
in economic affairs more than was believed necessary. He wanted priority for competi-
tion and recommended to follow the principle of subsidiarity by interventions wher-
ever possible. For this reason, he opposed his colleagues Adolph Wagner just as well as
Lujo Brentano due to the fundamental differences in methodological respects.
77
Schmoller was an undogmatic liberal since his youth. For this reason, he even
voted for granting John Stuart Mill a doctorate degree honoris causa by his University
of Halle in 1866.
78
Of course, it was the John Stuart Mill after 1849, the advocate of
social policy, the author of On Liberty and husband of Mrs. Harriet Taylor, and not
the author of methodical essays and the Logic whom he wanted to be honoured.
7 4
The reorganisation of institutions and the foundation of new institutions recommended by
Schmoller were not only intended for helping labourers and the poor. Schmoller’s suggestions were
directed at establishing a social reform consisting of many thoroughly new regulations. So Schmoller
recommended an income tax reform and just as well a new patent law, an inheritance tax and the
installation of saving banks for the middle classes and many more regulations which are obvious for
today’s citizens. A list containing the most of the diff erent items demanded by Schmoller after 1864
can be found in: Hansen, R. (1993), (1993), “Gustav Schmoller und die Sozialpolitik von Heute”,
in, Backhaus, J. (Hrsg.) (1993), Schmoller und die Probleme von Heute, Berlin, p. 160. Schmoller’s
aim was to make the market system durable and reliable, to raise the effi ciency of the economy and
thereby to diminish class diff erences and so to improve the “standard of life”.
7 5
Schmoller rejected direct interventions into the price system. Competition showed keep being the
guiding principle of the economy. See: Schmoller, G. (1864), “Die Arbeiterfrage”, in, Preußische
Jahrbücher, 14. Bd., p. 535 f.
7 6
Conrad, Else (1906), Der Verein für Sozialpolitik und seine Wirksamkeit auf dem Gebiet der
gewerblichen Arbeiterfrage, Jena. p. 37.
7 7
For more information see: Hansen, R. (1993), “Gustav Schmoller und die Sozialpolitik von Heute”,
in, Backhaus, J. (Hrsg.) (1993), Schmoller und die Probleme von Heute, Berlin, p. 151 ff.
7 8
Hansen, R. (1968), “Der Methodenstreit in den Sozialwissenschaften zwischen Gustav Schmoller
und Carl Menger”, Meisenheim, S.144, note 34; additionally: Suchier, W. (1953), Bibliographie der
Universitätsschriften von Halle-Württemberg 1817–1885, Berlin, p. 687, Jurist. Fak. Nr., 145.
407
15 Gustav Schmoller as a Scientist of Political Economy
The “Verein für Socialpolitik” was founded in 1872 by suggestion of a journalist.
Although not president before 1890, Schmoller convinced most of the members
though often of thoroughly different, opposite political opinions of his theoretical
concept. Schmoller’s arguments were just convincing to everyone. This was due to
the convincing theoretical basis of the measures recommended by Schmoller. And this
was so even though Schmoller was opposed to Lujo Brentano, Adolph Wagner and
many others and lacked the ability to generate enthusiasm, fascination or passionate
feelings for his ideas and opinions by listeners in an audience. For this, he was far too
sober and sound in his speech and his arguments as exchanged in discussions.
As a matter of fact, his opinions were taken over by the government as frame for
social policy after 1880.
Later on after 1900, Schmoller could observe that his predictions turned out to be
correct.
The “standard of life” as Schmoller in 1864 and 1865 had called his point of
interest was raised in Germany at a higher rate than in any western industrial country.
He showed this in statistical fi gures and noting the differences in his last published
book without any comment, sober and typical for all his contributions.
79
At the beginning of his university career, Schmoller had foreseen the great
advantages for the wealth of mankind concealed in the technical progress of the
beginning age of machinery in Germany. Treating historical research as a basis for
sound knowledge, he had learnt the unavoidable necessity for adjusting and forming
old and new institutions so to safeguard society against loss of balance by political
revolutions. In an article of 1903, Schmoller reviewed the development of the age
of machinery after installing appropriate institutions for social security of all citi-
zens as a necessary path leading to the increase of wealth for all inhabitants.
80
The
term wealth for him meant not only promotion of the production of commodities,
but also included the gradual relief of hard work and even the easing of woman’s
daily troublesome kitchen annoyances as possible development.
81
Schmoller foresaw this path leading to a society deriving benefi t from technical
progress and restricting freedom only as far as required regarding social security to
the inhabitants.
After 1900, a younger generation of economists no longer judged the social policy
Schmoller in 1864 had recommended as indispensable supporting pillars to this end.
As described in the beginning of my paper, many of them denounced his interest for
social policy as erroneous and arbitrary and even missing scientifi c neutrality. They
did not appreciate the use Schmoller made of historical research by employing
7 9
Schmoller, G. (1918), Die soziale Frage. Klassenbildung, Arbeiterfrage, Klassenkampf, Leipzig,
p. 251 ff.
8 0
Schmoller, G. (1903), Über das Maschinenzeitalter in seinem Zusammenhang mit dem Volkswohlstand
und der sozialen Verfassung der Volkswirtschaft, J. Springer, Berlin; see also note 66.
8 1
Schmoller, G. (1903), Über das Maschinenzeitalter in seinem Zusammenhang mit dem
Volkswohlstand und der sozialen Verfassung der Volkswirtschaft, J. Springer, Berlin, p. 16.
408 R. Hansen
history as a substitute for experiments. This judgement applied to liberal and also
economists of a socialist mood. Brentano, Marx, Sombart and others like Mill, Comte
and Buckle believed to be able to perceive laws of historical development and made
this the basis of their scientifi c approach. This had been rejected by Schmoller.
82
For the socialists in 1903, Karl Kautsky blamed Schmoller for having by his
activities cemented the power of capitalists and owners of production plants, raising
their profi t and thereby worsening the position of the working force.
83
Kautsky claimed that Schmoller’s article on the consequences of the age of
machinery (Über das Maschinenzeitalter) was misleading because he would not
admit that only abandonment of property of all production equipment could lead
mankind to appeasement and lessen the burdens of the many, and increase wealth
and equal freedom for all citizens.
84
Schmoller as a matter of fact had, so his contributions show, falsifi ed the dog-
matically assumed basic statement of the consequences of private property by his-
torical evidence.
85
He had often condemned as arbitrary the fatalistic interpretation
of laws of historical development of the socialists, and likewise the liberals concern-
ing an assumed goal of history. But Schmoller’s contributions had by this time obvi-
ously lost their convincing power.
In his Outline (Grundriß), published in 2 volumes in 1900 and 1904, Schmoller
recollected the results of his most important investigations which were carried out in
order to prepare a scientifi c basis for his target: securing a prosperous society through
promotion of technical progress and adjusting institutions when necessary to sustain
political balance. Adam Smith had not seen the problems of the technical revolution,
so his contributions could give limited help to politicians only. He had also missed to
see the importance of adjusting old and founding new appropriate institutions.
Schmoller’s Interest for Methodology
I would like to add to supplement the picture of Schmoller: Schmoller did not only
carefully watch the methodical discussion in books and articles on natural and moral
sciences throughout his life. He also carefully took notice of the developments in
Political Economy as a science. Most important, books edited during his lifetime
8 2
See: Brentano, L. (1931), Mein Leben im Kampf und die soziale Entwicklung Deutschlands,
München, p. 110; Sombart, W. (1902), Der moderne Kapitalismus, Leipzig, 1. Bd., p. XXVIII f;
Schumpeter, J.A. (1893), Capitalism, Socialism and Democracy, London, 1943, p. 44. They all
believed in laws of economic development to be treated by Mill’s theoretical approach to history
and blamed Schmoller for not following theoretical interests.
8 3
See also: Völkerling, Fritz (1959), Der deutsche Katherdersozialismus, Berlin, p. 56 ff.; see:
Kautsky, K. (1904), “Schmoller über den Fortschritt der Arbeiterklasse”, in, Die Neue Zeit, Nr. 34,
Jg. XXII, Band 2, p. 228 ff.
8 4
Kautsky, K. (1904), “Schmoller über den Fortschritt der Arbeiterklasse”, in, Die Neue Zeit, Nr.
34, Jg. XXII, Band 2, p. 240 f.
8 5
Albrecht, G. (1922), “Zur Lehre von der Entstehung der sozialen Klassen”, in, Jahrbücher für
Nationalökonomie und Statistik, 3.F. Bd. 64, p. 273 ff.
409
15 Gustav Schmoller as a Scientist of Political Economy
were reviewed in his periodical Jahrbuch für Gesetzgebung, Verwaltung und
Volkswirtschaft im Deutschen Reich . Many were introduced by himself.
In this Outline (Grundriß), he criticised the Benthamite Political Economy
including Jevon’s contributions correctly for the reason that introspection as the
basis for utility theories provides information on personal emotions that are incom-
patible and not comparable interpersonally. As such, the information cannot be
related to an unbiased, practically defi ned provable cardinal metric scale. This
makes, as Schmoller often mentioned, speech of differences in values, pleasures,
pains or utility or of diminishing marginal utility and of maximisation of utility
thoroughly useless for a science of Political Economy.
86
Schmoller tried to make use of the advantages that the most successful natural
sciences had provided for mankind, thereby making use of the same methodology
for the social sciences. He dismissed Mill’s deductive methodology for social sci-
ences. He believed that scientifi c knowledge needs to be provable by observation.
Scientifi c statements must allow for making predictions and they must be proved
before the statement is added to our knowledge of reality. So Schmoller believed in
two sources of knowledge. Research starts with guesswork. Thereafter, false theo-
ries are sorted out by observation. Schmoller demanded this access to research to his
goal in order to support the growth of wealth for all citizens.
87
In 1981, Douglas S. North wrote a book entitled the Structure and Change in
Economic History dealing with the developments and importance of economic insti-
tutions.
88
The following might be added since it is at present a custom to compare
Schmoller and North. North in his book makes use of neo-classical characteristics of
individual behaviour patterns and seems to assume harmonious development of
institutional change. The difference to Schmoller’s approach is the difference between
experimental historical research and artifi cial models of reasoning which Schmoller
watched with greatest suspicion. Therefore, he kept believing methodical research to
be of high priority for Political Economy and underlined the necessity for proof of
theories by observation. According to Schmoller, theories of practical signifi cance
must provide the possibility to make predictions provable by observation.
I personally believe that North stops his research where Schmoller carries on.
Schmoller did not deliver guesswork only; he also delivered theoretical knowledge
based on historical evidence. North seems to believe in a natural harmony set by
nature in advance, an opinion Schmoller put in question for convincing reasons
8 6
Schmoller, G. (1894), “Volkswirtschaft, Volkswirtschaftslehre und –methode”, in,
Handwörterbuch der Staatswissenschaften, 6. Bd., p. 550. Schmoller, G. (1900), Grundriß der
allgemeinen Volkswirtschaftslehre, p. 23, p. 32, p. 71.
8 7
Schmoller, G. (1894), “Volkswirtschaft, Volkswirtschaftslehre und –methode”, in,
Handwörterbuch der Staatswissenschaften, 6. Bd., p. 539, p. 542, p. 546, p. 555, p. 558, p. 559.
8 8
North, D.C. (1981), Structure and Change in Economic History, New York, see especially chapter
12; See: Review: Borchardt, K. (1977), Der “Property-Rights-Ansatz” in der Wirtschaftsgeschichte –
Zeichen für eine systematische Neuorientierung des Faches, in, Kocka, J. (1977), Theorien in der
Praxis des Historikers. Forschungsbeispiele und ihre Diskussion, Göttingen, p. 140 ff. see: page
150 ff.
410 R. Hansen
based on empirical evidence. Schmoller aimed at fi nding knowledge proved by
observation.
I cannot comment here the great signifi cance Joseph A. Schumpeter assigned to
Schmoller for infl uencing Mitchel, Veblen and commons in respect to the importance
of institutions in 1926 after he had judged the dispute on methods (Methodenstreit)
between Schmoller and other colleagues including Menger in 1913 as thoroughly
superfl uous.
I would like to repeat the following:
Schmoller’s recommendations for social policy were followed by the regulations of
the German administration as social reform in 1881 and the years later.
After 1949, the regulations for social security were gradually carried too far. The
guiding principles of Schmoller’s recommendations were forgotten about. Schmoller
should not be blamed for exaggerations after his death. I agree to the statement the
historian Gregor Schöllgen shortly made:
Max Weber was the so long most overrated German scientist of the nineteenth cen-
tury.
89
I would like to add: Gustav Schmoller has so long been the most underrated
scientist of the nineteenth century.
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15 Gustav Schmoller as a Scientist of Political Economy
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415
JG B kh ( d) HdbkfhHi fE iTh h
Biography
Carl Menger was born as Carl Menger von Wolfesgrün on February 23rd, 1840 in
Neusandez on the fringes of the Austrian–Hungarian Empire. Today Neusandez is
called Nowy Sacz and lies in Poland. He died as Professor Dr. Carl Menger briefl y
after his 81st birthday on February 26th, 1921 in Vienna, the former capital of the
Austrian–Hungarian monarchy. After the Great War, Vienna became the capital of
the young Austrian republic in which titles of nobility were generally abolished by
law. The precise date of Menger’s refusal to attach the title of nobility “von
Wolfesgrün” to his name is not exactly known, but it certainly dates back long
before the decline of the Austrian–Hungarian Empire in 1918 and the birth of the
new Austrian republic. It rather seems that Menger’s liberal but not libertarian polit-
ical views had been responsible for this decision. The family of his father, Anton
Menger, seems to have emigrated from the German Reich and eventually found a
new home in Galicia, which then belonged to the Austrian–Hungarian monarchy.
Anton Menger was a lawyer and in 1833 married Therese Gerzabek, the daughter of
a relatively well-to-do business family. They had ten children of which many died
in very young years as was quite common in those days. Apart from Carl, who was
the third child, two of his brothers have to be mentioned here: Max, who was 2 years
older than Carl, choose a political career and became a representative of a national
liberal party, and later became a member of the Reichsrat, the parliament of the
monarchy. Anton, who was about one and a half years younger than Carl became,
like Carl, university professor at the University of Vienna. Yet, they not only
belonged to the same university but also to the same faculty, i.e. to the faculty of law
and political science (Juristische und Staatswissenschaftliche Fakultät). In contrast
K. Milford ()
Department of Economics , University of Vienna , Vienna , Austria
e-mail: [email protected]
Chapter 16
The Empirical and Inductivist Economics
of Professor Menger
Karl Milford
416 K. Milford
to Carl, however, who was a professor for political economy, and who strongly
supported liberal political views, Anton was a professor for civil law and rather
defended social democratic positions (Boos
1986 ; Yagi 2006 ) .
Not much is known about Menger’s youth; and a biography of Menger, based on
serious historical research is still lacking. However, it is well documented that in
1859 Menger started to study law at the University of Vienna, which he continued
at the University of Prague from 1860 until 1863. Until the end of the twentieth
century, the law curriculum included a substantial education in political economy
and public fi nance since many law students later chose a career as civil servant.
Thus Menger received an economic and public fi nance education in the course of
his studies and thereby also may have become aware of the open problems which
those areas of research faced at that time. However, it is most important to note that
Menger received his economic education within different variations of a special
tradition developed by German economists from the late eighteenth and early nine-
teenth century. This tradition became quite dominant at German and Austrian–
Hungarian universities and only waned after Menger had entered the academic
world and started to habilitate young scholars such as Wieser and Böhm-Bawerk,
and established the so-called Austrian School of Economics.
The German tradition was inspired by two major elements: a theory of subjective
evaluations as a basis for price theoretical explanations and the position of method-
ological inductivist essentialism. It was Menger who showed that this combination
had to be discarded in order to develop a satisfactory explanation of exchange and
prices and to provide a unifi ed price theory. In 1867, Menger obtained a law doctor-
ate from the University of Krakau and after having worked as journalist in Lemberg
he became a secretary of the editorial staff (Redaktionssekretär) of the “Wiener
Zeitung”. The “Wiener Zeitung” was the offi cial paper of the government and by
becoming a Redaktionssekretär of the editorial staff, Menger simultaneously entered
a career as civil servant. However, it also seems that this period marks the beginning
of his detailed and critical studies of different economic treatises, particularly those
of German authors, such as Rau (
1826 ) and Hermann ( 1932 ) . Menger’s critical
reading of their works triggered the development of his own positions and theories
which he fi nally published in 1871 in his “ Grundsätze der Volkswirthschaftslehre ”,
(Menger
1871 ) his fi rst major work. With this work Menger obtained his
“Habilitation” and “venia docendi” from the law faculty of the University of Vienna
in 1872. In 1873, Menger was appointed to the position of “wirklicher”
Ministerialsekretär in the Ministerratspräsidium. He now held a most prestigious
position for a most promising and brilliant career in the imperial bureaucracy of the
Austrian–Hungarian empire. However, Menger did not choose to pursue this career
opportunity any further. He substituted this socially prestigious career for one which
at that time carried much less prestige, i.e. that of a university professor. University
professors in Austria at that time were permanent and irremovable civil servants and
after having been appointed as an associate professor by the faculty of law, in the
same year Menger entered an academic career.
In 1876, the imperial court appointed Menger to teach crown prince Rudolf polit-
ical economy and statistics. However, he not only lectured the crown prince but also
417
16 The Empirical and Inductivist Economics of Professor Menger
accompanied him on his educational journeys to a number of European countries.
It seems that Menger’s liberal political position infl uenced the crown prince to quite
some extent. Rudolf and Menger, for instance, authored very critical contributions
with respect to the role and importance of the Austrian nobility and published them
anonymously in the “Wiener Zeitung”. Menger also served as a responsible editor
for the economic part of the so-called “Kronprinzenwerk”, but it seems that his rela-
tions with the crown prince had ended in 1886. They had ended presumably because
conservative members of the court took offence against Menger’s liberal political
views and his infl uence on the crown prince. For his activities as tutor to the crown
prince, Menger was rewarded several imperial distinctions. In 1879, he became full
professor and was called upon the chair for political economy by the faculty of law
of the University of Vienna.
It is interesting to note that the reception of Menger’s Grundsätze in the German
speaking academic world was rather disappointing. In this work, Menger tries to
develop a unifi ed price theory on the basis of a combination of methodological indi-
vidualism and a theory of subjective evaluations. Showing that the theory of subjec-
tive evaluations carries methodological import only if combined with methodological
individualism, Menger develops the concepts of what in modern terms is called
“marginal utility” and “equimarginal principle” in order to explain exchange and
relative prices.
However, the reviews which appeared after the publication of Menger’s work show
that his basic ideas had not been grasped. Accordingly Menger set out to explain the
importance and fruitfulness of a combination of methodological individualism and a
theory of subjective evaluations for economic research in a volume which he primar-
ily dedicated to the analyses of epistemological and methodological problems. This
volume Untersuchungen zur Methode der Socialwissenschaften und der Politischen
Oekonomie insbesondere (Menger
1883 ) was published in 1883 and provided a
devastating critique of the Historical school’s positions of methodological inductivist
essentialism or methodological collectivism. In contrast to the Grundsätze , this work
triggered fi erce reactions among economists belonging to the so-called German
Historical School of Economics such as Roscher or Schmoller. The Untersuchungen
is Menger’s second major work and the fi erce debate following its publication came
to be known as the “Methodenstreit”. In the course of this controversy, Menger
published three additional methodological contributions: in 1884, Die Irrthümer des
Historismus in der deutschen Nationalökonomie (Menger
1884 ) , a little booklet
written in the form of letters to an unknown addressee, providing an answer to
Schmollers critical review (Schmoller
1883 ) of the Untersuchungen (Menger 1883 );
in 1887 Zur Kritik der Politischen Ökonomie (Menger
1887 ); and in 1889 Grundzüge
einer Klassifi kation der Wirtschaftswissenschaften (Menger
1889 ). However, none
of these methodological contributions match the quality of the Untersuchungen .
Although the Methodenstreit continued to rage on for several more decades, Menger
refused to participate in it any more. His followers and disciples such as Mises and
Hayek, however, continued this debate until the second half of the twentieth century.
Already in 1887, Menger had returned to the study of economic problems. In 1888,
he published a work on capital theory (Menger
1888 ) developing ideas which he
418 K. Milford
had previously indicated in the Grundsätze . In this work, like in his previous analysis
of value in the Grundsätze Menger aimed at showing that essentialist theories of
capital have to be rejected since they require considerations regarding the origin
of capital and not of economic problems. His theory explaining interest on capital
emphasizes the command of capital goods and their utilization in certain time peri-
ods. But Menger not only contributed to the capital theory, he also contributed to the
monetary theory. In 1892, he became a member of an imperial committee whose task
consisted in providing answers to currency problems of the Austrian–Hungarian
monarchy. After all, it seems that Menger’s suggestions for reform were not accepted.
But in 1892, perhaps due to the discussion in that committee, he published his famous
article on money in the Handwörterbuch der Staatswissenschaften (Menger
1892 ) .
In this article, he considers metallistic and functional explanations of money but also
discusses considerations relating to the quantity theory. However, his position in that
context remains rather ambivalent. Apart from his activities in that committee,
Menger also worked on tax problems and played a very active role in redesigning the
law curriculum of the University of Vienna.
Since the early 1890s, Menger was awarded numerous academic honours and
distinctions, and in 1900 he became member of the house of lords of the Austrian–
Hungarian parliament, i.e. the Reichsrat. In 1903, he retired and became professor
emeritus in order to work on the second edition of the Grundsätze , something which
he had planned long ago. Unfortunately, he was unable to achieve this aim and the
second edition of the Grundsätze appeared posthumously in 1923 after having been
completed by his son, the brilliant mathematician Karl Menger. Menger had already
died on February 26th, 1921 in Vienna, after having lived the inspiring academic
life of a true scholar.
Menger’s Critique of Methodological Inductivist Essentialism
In his Grundsätze der Volkswirthschaftslehre, Menger explains that his main object
is developing a satisfactory explanation of exchange and relative prices. He empha-
sizes that the heterogeneity of the prevailing price theory is most unsatisfactory
because it explains prices of factors and inputs and of fi nal goods according to
different principles. Instead Menger intends to develop
…a price theory based upon reality and placing all phenomena (including interest, wages,
ground rent, etc.) together under one unifi ed view.
(Menger,
1981 , p. 49).
In order to solve this problem, he develops a special framework which consists of
two major elements: methodological individualism and a theory of subjectivist eval-
uations. Methodological individualism is a methodological position regarding the
structure of a satisfactory explanation in the theoretical social sciences. According
to this position, satisfactory explanations in the theoretical social sciences explain
social facts, processes, and institutions as an unintended result of the interplay of
intended actions of individuals. In contrast to this methodological position, the theory
419
16 The Empirical and Inductivist Economics of Professor Menger
of subjectivist evaluations is an empirical theory explaining the evaluative behaviour of
individuals. According to this theory, individuals evaluate objects and actions as
goods and services according to their subjective preferences only. Menger’s analy-
sis shows that the combination of methodological individualism and the theory of
subjective evaluation is especially fruitful for economic analysis. In his view, this
results from a particular relationship which exists between this methodological
position and that empirical theory. Methodological individualism requires an expla-
nation of the intended actions of individuals in order to explain social institutions as
the unintended result of the interplay of individual actions. By explaining the evaluative
behaviour of individuals on the basis of a theory of subjectivist evaluations, Menger
provides such an explanation and thereby enhances the power of methodological
individualism to its full effect. If methodological individualism is not combined
with a satisfactory explanation of the evaluative behaviour of individuals it simply
remains “blind” because the requirement of explaining social institutions as an unin-
tended consequence of intended actions is without any consequences then. However,
if the theory of subjectivist evaluations is not combined with methodological indi-
vidualism, it simply remains a psychological theory which has no import for the
theoretical social sciences; it becomes “empty”.
However, by combining methodological individualism and the theory of subjec-
tive evaluations and by developing a unifi ed price theory on that basis, Menger not
only shows the special fruitfulness of that combination for economic analysis. He
also shows that methodological individualism and the theory of subjective evalua-
tions are incompatible with any essentialist approach in economics. Menger’s inves-
tigations in the Grundsätze as well as in the Untersuchungen constitute a devastating
critique of different essentialist positions, which according to Menger seriously
impeded the progress of economics. According to him, essentialist doctrines come
in three different forms: as a methodological position in the form of methodological
inductivist essentialism; in a derivative form of that position as an organic explana-
tion of social phenomena; and in the form of labour cost theoretical explanations of
exchange and relative prices. In his view, the fi rst two are defended by authors of the
so-called German Historical School of economics, in particular by Roscher; and the
third one for instance by A. Smith. In contrast to these essentialist doctrines, Menger
intends to develop a nominalist and relational behavioural theory which explains the
economic behaviour of individuals under different conditions. In his view, the tasks
of economics is to explain
Whether and under what conditions a thing is useful to me, whether and under what condi-
tions it is a good , whether and under what conditions it is an economic good, whether and
under what conditions it possesses value for me and how large the measure of this value is
for me, whether and under what conditions an economic exchange of goods will take place
between two economizing individuals, and the limits within which a price can be estab-
lished if an exchange does occur. … Economic theory is concerned … with the conditions
under which men engage in provident activity directed to the satisfaction of their needs.
(Menger
1981 , p. 46)
The fi rst essentialist doctrine which Menger criticizes is methodological induc-
tivist essentialism. This position holds that individualistic explanations of social
420 K. Milford
institutions are unsatisfactory for principal methodological reasons. It emphasizes
that methodological individualism violates fundamental methodological standards
regarding the methodological characteristics of genuine scientifi c knowledge and
explanations. These standards require that genuine scientifi c theories and expla-
nations are verifi ed or at least highly probabilifi ed; they require that theories and
explanations are proven true, absolutely or highly partially certain and that they
are as a consequence, ultimate theories and explanations. This view, however,
confl icts with the principles of methodological individualism because individual-
istic explanations of social processes and institutions seemingly trigger an infi nite
regress of explanations and do not provide ultimate ones. The cause of this seeming
infi nite regress is that individuals always act within a given socio-cultural and
economic frame work, and that individualistic explanations of that framework
always require the assumption of a previous one. Thus, in this view, there exists at
least one social fact which cannot be explained on an individualistic basis for
principal reasons. Accordingly, methodological individualism has to be discarded
and substituted by an approach which conforms to the methodological standards
of genuine science.
This approach is methodological inductivist essentialism. It results from two
principal ideas: from a special version of Aristotelian essentialism as developed by
German historism and the view that synthetic and empirical knowledge can only be
obtained by the method of induction. According to the historists’ version of essen-
tialism, essences reside within objects, are real, and like seeds contain some poten-
tial characteristics that become observable in concrete historical situations. Being
observable, essences can be uncovered, for instance by observing the historical
development of objects or institutions. According to inductivism, genuine new syn-
thetic or empirical knowledge can only be obtained through inductive inferences.
Their content-enlarging and truth-preserving nature permits the drawing of infer-
ences from “known” domains to “unknown” ones thus genuinely enlarging knowl-
edge about the world. Since the conclusions of inductive premises are logically
stronger than their premises, they provide genuine additions to knowledge, quite in
contrast to deductive inferences which are analytical and capable only of unfolding
what the premises already contain. As essences are uncovered by studying historical
development, laws of historical development describing them can be obtained by
inductive inferences; in this view, theoretical social science is theoretical history.
Menger criticizes this position in a version which Roscher develops in his Leben,
Werk und Zeitalter des Thukydides, (Roscher
1842 ) in his Grundriß zu Vorlesungen
über die Staatswirthschaft (Roscher
1843 ) and in his Grundlagen der Volkswirthschaft
(Roscher
1886 ) . This version is based on Ranke’s essentialist doctrine of ideas and on
some nineteenth century naïve inductivist views. Following Herder and Humboldt,
Ranke’s essentialist doctrine of ideas suggests that the Volksgeist or the essence of a
people emanates in its concrete socio-cultural and economic institutions, traditions
and in its language (Iggers
1997 ) . A nation has its own customs and traditions thus
creating its unique history and determining its presently existing social structures.
Hence the Volksgeist, the essence or the nature of a people can be uncovered by studying
the historical development of its socio-cultural, political and economic institutions.
421
16 The Empirical and Inductivist Economics of Professor Menger
Accordingly, Roscher opines that the task of the social sciences is to uncover laws of
historical development on the basis of inductive procedures.
In his Leben, Werk und Zeitalter des Thukydides, he aims at clarifying the epis-
temological status of the social sciences and provides a naturalistic account of the
methods of the social and natural sciences. These views are much inspired by
Bacon’s ideas. Like all inductivists, Roscher holds that genuine new scientifi c
knowledge can be obtained by inductive procedures only. In order to explain these
procedures, he introduces a passive psychology of knowledge. According to that
theory, the human mind is a digestive system which processes the incoming fl ow of
sense data obtained by sense organs. He explains that the results of intellectual
activities are the products of this process. He links that passive psychology to a
phylogenetic theory explaining the development of cognitive faculties and distin-
guishes four different stages according to the different intellectual products result-
ing in each stage. Intellectual products such as utterances and gestures characterize
the fi rst and most basic stage of this development process; the products of art and
music characterize the second one; scientifi c theories the third one; and philosophi-
cal systems the fourth and highest stage. Whereas the analysis of the fi rst two stages
runs in psychological terms, the third one runs in sociological terms providing a
“naturalistic” account of the methodology of the social sciences. In this account,
Roscher simply translates his passive psychological theory into a description of
scientifi c activities and distinguishes between “historical craftsmen” and “masters
of history”. Historical craftsmen have the task of collecting data and facts that con-
stitute the empirical basis from which the masters of history infer social and histori-
cal laws by content-enlarging and truth-preserving inferences. Whereas historical
craftsmen are capable only of collecting and perhaps of organizing data, the masters
of history select the relevant data and facts and process them into theories by discov-
ering regularities and similarities. This naturalistic description of social science
methodology provides the simple Baconian inductivist picture of science according
to which science starts from unprejudiced observations which form the basis for
inferring absolutely certain and proven true theories by inductive methods.
Roscher’s analysis encounters several diffi culties. The most important one here is
a demarcation problem. It results from his theory that all products of human intel-
lectual activities like art, science and philosophy are an outcome of inductive proce-
dures. In order to demarcate empirical science from other realms of human inquiry,
he proposes a very rudimentary correspondence theory of truth. In contrast to sci-
ence, philosophy and art have to meet different standards: philosophy for instance
logical consistency and the products of art certain laws of aesthetical sentiment.
Another diffi culty here is the applicability of inductive methods in the social sci-
ences. Like many other inductivists, Roscher as well believes that the possibility of
repeated observations is a precondition for applying inductive methods. In his view,
the natural sciences do not meet any diffi culties here. Ontologically the natural uni-
verse is characterized by the so-called principle of the uniformity of nature which
guarantees the possibility of repeated observations. In contrast, the ontological char-
acteristic of the social universe is change and seemingly renders the making of
repeated observations and the application of inductive methods impossible.
422 K. Milford
Nevertheless, Roscher opines that inductive methods are applicable in the social
sciences. History provides a basis for making repeated observations and by compar-
ing the historical development of nations, of institutions and of other holistic entities,
social laws and laws of historical development can be induced (Milford
1995 ) .
Menger criticizes Roscher’s position of methodological inductivist essentialism
with different arguments. By organizing the Grundsätze according to the require-
ments of methodological individualism, he rejects that position by way of his gen-
eral analysis. This is shown by the chapter sequence of that book. In order to solve
the problem of a unifi ed price theory which explains exchange and relative prices as
an unintended outcome of the interplay of individual intended actions, Menger
starts his analysis by explaining individual intended actions. In the fi rst three chap-
ters, he provides a relational theory of the evaluating behaviour of individuals ana-
lyzing their behaviour under different conditions. The fi rst chapter “The General
Theory of the Good” scrutinizes the conditions that must exist in order that indi-
viduals evaluate objects and actions as goods and services. In the second chapter
“Economy and Economic Goods”, he proceeds by showing that observations such
as the scarcity of goods basically result from the preferences and from the evaluat-
ing behaviour of humans under different conditions. In the third chapter “The
Theory of Value”, Menger provides a more precise explanation of the standards and
the processes according to which individuals evaluate objects (actions) as goods
(services). This theory provides the basis for explaining exchange and relative prices
Chap. 4 , “The Theory of Exchange” explains exchange and Chap. 5 “the Theory of
Price” proceeds by explaining prices as an unintended result of the interplay of
individual intended actions. Chapters 6 and 7 are degressions and clarifi cations; but
Chap. 8 provides another example of explaining institutions along the lines of meth-
odological individuals, i.e. money. But apart from organizing the Grundsätze along
methodological principles which are incompatible with methodological inductivist
essentialism, Menger also indicates that this position is based on a misunderstand-
ing with respect to the application of inductive methods in the social sciences.
Obviously having methodological inductivist essentialism in mind he writes that
past attempts to carry over the peculiarities of the natural scientifi c method of investigation
uncritically into economics have led to most serious methodological errors, and to idle play
with external analogies between the phenomena of economics and those of nature.
(Menger
1981 , p.47)
and he proceeds explaining that authors defending such positions although calling
“… themselves disciples of Bacon … completely misunderstand the spirit of his
method” (Menger
1981 , p. 47).
Due to his primary aim of developing a satisfactory price theory, Menger refrains
from providing a more elaborate critique of this version of essentialism in the
Grundsätze . However, in the Untersuchungen, he launches a devastating attack on
methodological inductivist essentialism. There he shows that this position rests on
rather naïve views with respect to inductive methods and that they have to be rejected
on logical and epistemological grounds. His fi rst objection refers to the so called
argument of the transcendence of fi rst order. According to him, methodological
inductivist essentialism attempts to avoid abstraction from a given empirical basis,
423
16 The Empirical and Inductivist Economics of Professor Menger
that is, from the “immediate given”. In this view, generalizations transcend experience
and always carry the risk of failure not to arrive at absolutely certain conclusions
which are proven true. And according to this view, the risk of developing false theo-
ries or concepts increases even more if it is assumed that the empirical basis of the
social sciences, i.e. history, changes, as some representatives of the Historical school
seem to believe. Menger points out that as a consequence the authors defending
methodological inductivist essentialism basically sought to avoid all kinds of
abstractions in the process of concept formation. However, he explains that this
view has to be rejected on logical grounds. He emphasizes that even singular obser-
vational statements require universals in order to be able to describe observations
and that even singular statements presuppose some kind of abstraction from the
immediate given. Thus the research program of methodological inductivist essen-
tialism as represented by many authors of the Historical school of economics has to
be rejected because it cannot be carried out for logical reasons.
But according to Menger, the Historical schools’ research program as defended by
Roscher on the basis of methodological inductivist essentialism cannot be carried out
even if the fi rst order transcendence is conceded. In his view Roscher’s version of
methodological inductivist essentialism simply disregards the logical objection against
the validity of content enlarging and truth preserving, i.e. inductive inferences.
However, in order to be valid, inductive inferences have to be justifi ed by some kind
of principle of induction; if not, the possibility of an empirical and strictly universal
social science cannot be shown. The idea of inferring strictly universal statements or
theories which are empirical from an absolutely certain empirical basis by content
enlarging and truth preserving inferences has then to be given up. Menger writes
If the world of phenomena is considered in a strictly realistic way, then the laws of the latter
signify merely the actual regularities, determined by way of observation, in the succession
and in the coexistence of real phenomena which belong to certain empirical forms. A ‘law’
obtained from the above point of view can in truth only state in reality, regularly and without
exception, phenomena belonging to the empirical form C have followed the concrete
phenomena belonging to the empirical forms A and B or that they were observed coexistent
with them. The conclusion that the phenomenon C follows the phenomena A and B in gen-
eral (that is, in all cases, even those not observed!), or that the phenomena under discussion
here are in general coexistent, transcends experience, the point of strict empiricism. From
the standpoint of the above manner of consideration it is not strictly warranted.
(Menger
1985 , p.57)
And he summarizes:
The realistic orientation of theoretical research excludes in principle, rather, in all realms of
the world of phenomena the possibility of arriving at strict (exact) theoretical knowledge.
(Menger
1985 , p. 58)
Menger, however, shows that satisfactory theoretical explanations require statements
or laws – or as he says strict or exact typical relations – which are strictly universal
and empirical. Roscher’s aim of uncovering laws of historical development by
inductive procedures cannot be attained for principal logical reasons unless the
problem of the validity of inductive inferences has been solved. However, since
Roscher and other authors of the German Historical School simply disregard this
424 K. Milford
logical and epistemological situation, their position is to be rejected. Moreover, on
the basis of their position, the social sciences cannot be demarcated as empirical
science and the problem of the epistemological status of the theoretical social sci-
ences still awaits a satisfactory resolution.
According to Menger, the second form in which essentialism comes is the so-
called organic view or “organic understanding of social phenomena”. In his view, it
is a derivative of methodological inductivist essentialism resulting, however, from
unclear and dubious analogies of social systems and organism. He criticizes this
position in the Untersuchungen where he contrasts it with methodological individu-
alism. Both positions attempt to solve the problem of explaining human products
which, however, are not the products of human design. Menger, however, empha-
sizes that the analogy of regarding social systems as organic wholes cannot help
here. Methodological inductivist essentialism suggests of course a holistic analysis
of institutions by investigating their historical development. But to assert that insti-
tutions as a whole or that society as a whole has developed organically in the course
of history, simply amounts to saying that institutions have developed in history.
The origin of a phenomenon is by no means explained by the assertion that it was present
from the very beginning and that it developed originally .
(Menger
1985 , p. 149)
In Menger’s view, however, the task of the theoretical social sciences is explaining
the origin and the development of social institutions and not by assuming their exis-
tence. Satisfactory explanations of the origin and the development of social institu-
tions or other “wholes” therefore have to be structural explanations; either in the
form of explaining them as unintended consequences of the interplay of individual
intended actions, or by explaining them as a result of an agreement of individuals.
However, if social and economic institutions are explained as an agreement among
individuals, i.e. as a product of human design, only psychological explanations are
possible. In this case, explanations of social institutions will refer to the psychologi-
cal motivations of individuals causing that agreement and not explain them as unin-
tended results of the interplay of intended individual actions. Methodological
inductivist essentialism implies psychologism in the social sciences and as a conse-
quence the idea of a genuine theoretical social science is given up. The social sci-
ences are then subdisciplines of psychology.
According to Menger, the labour cost theories explaining exchange and relative
prices constitute a third form of essentialism in economics. Menger criticizes this
version in the Grundsätze as well as in the Untersuchungen . In particular, his critique
refers to positions held by A.Smith and provides one empirical and two methodological
arguments. The empirical argument refers to the empirical falsity of an explanation of
exchange on the basis of a theory of objective evaluations; the two methodological argu-
ments launch an attack on essentialism in economics. The fi rst one argues that labour
and labour cost theories are basically essentialist theories and that the essentialist nature
of those theories prevents reasonable explanations of exchange. In the second, Menger
argues that the essentialist nature of labour theories triggers an unfruitful research
programme in economics with unwanted and disastrous consequences for its progress.
425
16 The Empirical and Inductivist Economics of Professor Menger
Menger points out that Smith and other classical authors tried to explain exchange
and relative prices on the basis of a theory of objective evaluations. According to
that theory, individuals evaluate physical objects (human actions) as goods (ser-
vices) on the basis of an objective standard, for instance time, commonly given to
them. Time, for instance, measures the quantities of labour inputs required to pro-
duce commodities, and individuals therefore will exchange goods according to the
labour quantities spent in their production. Menger reasons that according to their
theory, individuals will be prepared to exchange equivalents only because in general
nobody will be prepared to accept a smaller amount of labour in the form of prod-
ucts than was expended on the production of one’s own goods. However, according
to Menger this explanation of exchange is empirically false. It is falsifi ed by simple
observations, such as that exchange processes terminate and are irreversible.
He writes:
If these goods had become equivalents in the objective sense of the term as a result of the
transaction, or if they had already been equivalents before it took place, there is no reason
why the two participants should not be willing to reverse the trade immediately. That expe-
rience tells us that in a case of this kind neither of the two would give his consent to such an
arrangement.
(Menger,
1981 , p. 193)
According to Menger, the hypothesis that individuals exchange equivalents is
empirically false and cannot explain exchange. But instead of rejecting that hypoth-
esis, the authors defending a theory of objective evaluations choose to maintain it
and support it by introducing additional hypothesis. However, since the hypothesis
that individuals exchange equivalents was to be maintained any explanations refer-
ring to different preferences of individuals had to be rejected. Menger opines that as
a consequence, Smith sought to explain exchange by introducing an additional
hypothesis about the psychological nature of man. According to this hypothesis,
individuals are endowed with a special propensity to trade and barter. To this hypoth-
esis, Menger, however, objects that it cannot explain exchange for principal reasons:
to propose that individuals have a propensity to trade and barter means that in the
process of exchange individuals satisfy a special need, namely that to trade and
barter. But according to Menger this hypothesis has no explanatory power because
it cannot explain the irreversibility as well as the termination of exchange processes.
He states
If trading were a pleasure in itself, hence an end in itself, and not frequently a laborious activ-
ity associated with danger and economic sacrifi ce, there would be no reason why men should
not engage in trade…there would, in fact, be no reason why they should not trade back and
forth an unlimited number of times. But everywhere in practical life, we can observe that
economizing men carefully consider every exchange in advance and that a limit is fi nally
reached beyond which two individuals will not continue to trade, at any given time
(Menger,
1981 , pp 176,177)
According to Menger, the hypothesis that individuals exchange equivalents has sev-
eral unacceptable consequences. It is empirically false; it requires authors to intro-
duce ad hoc a psychological hypothesis, and by requiring that psychological
426 K. Milford
hypothesis becomes incompatible to methodological individualism because by
referring to psychological motivations socio-cultural and economic institutions are
explained as an agreement, i.e. as an intended and not as an unintended result. In his
view, the labour and the labour cost theoretical explanations of exchange trigger
disastrous consequences for the progress of economics in general and are therefore
unwanted. Taken by themselves, these arguments provide suffi cient reasons to dis-
card labour cost theoretical explanations of exchange right away.
However, Menger proceeds with this analysis and aims at showing that labour
cost theoretical explanations of exchange are the result of a more fundamental
approach to economics. In his view, they are the result of an essentialist approach
which has to be rejected altogether if economics was to make any further progress.
He explains that the labour cost theoretical explanations’ unsuccessful attempts basi-
cally result from the essentialist nature of the theory of objective evaluations upon
which these attempts rest. As mentioned previously, the Aristotelian version of
essentialism asserts that essences reside within objects, are real, and contain potential
characteristics to become observable in concrete situations. An essentialist theory of
goods proposes a special characteristic or essence inherent in a physical object which
through that essence transforms that physical object into a good thereby demarcating
it from physical objects which are not goods. By analysing the causes that may have
led to the development of a theory of objective evaluations and consequently to the
idea that individuals exchange equivalents, Menger concludes that observations that
individuals exchange goods at one observable price may have triggered the idea
that individuals exchange equivalents. Labour theories explain that physical objects
are goods only if they are products of labour, labour being the essence that trans-
forms physical objects into goods. Observations of the fact that goods exchange at
one observable price may therefore have been regarded as observable manifestation
of an essence that makes goods to equivalents and economists accordingly sought to
uncover that essence. Observables’ prices may have been regarded as observable
manifestations of an essence that makes goods equivalents, an essence which trans-
forms them in to goods; and some authors, so Menger, regarded this essence to be
labour. In his view, physical objects were regarded as values or goods because it was
thought that they have that inherent property, characteristic or essence of being a
labour product, which as such can be objectively measured. Menger writes
But since prices are the only phenomena of that process that are directly perceptible, since
their magnitudes can be measured exactly, and since daily living brings them unceasingly
before our eyes, it was easy to commit the error of regarding the magnitude of price as the
essential feature of an exchange, and as result of this mistake to commit the further error or
regarding quantities of goods in an exchange process as equivalents. [And that]…writers in
the fi eld of price theory lost themselves in attempts to solve the problem of discovering the
causes of an alleged equality between two quantities of goods.
(Menger,
1981 , p. 192)
And Menger also emphasizes that Aristotle committed that error as well and
regarded goods in exchange as equivalents. (Menger
1981 , p. 305 appendix F)
However, Menger not only argues that labour and labour theoretical explanations
are based on an essentialist approach. He also argues that this approach has to be
427
16 The Empirical and Inductivist Economics of Professor Menger
seen in a more general context and not in this specifi c form only. According to him,
this approach is of major importance for economics in general since it determines
its basic research question and research programmes. By determining the basic
research questions of economics, however, any kind of essentialist approach to eco-
nomics is most important for the progress and the future development of that sci-
ence. In Menger’s view, however, any essentialist approach in economics has
disastrous consequences for the progress of that discipline. Any attempt to uncover
an essence of goods transforming physical objects into goods necessarily triggers
most unfruitful questions and research traditions. In his view, the idea to uncover
essences leads to questions regarding the origin of physical objects and not to
research questions regarding the evaluating behaviour of individuals. But to analyze
the origin of physical objects instead of the evaluating behaviour of individuals
poses a false question of research.
Menger’s Position of Methodological Inductivist Nominalism
Menger’s criticism of essentialism shows that this approach is inadequate for the
tasks of the theoretical social sciences. In its form as methodological inductivist
essentialism, this approach has to be rejected for logical and epistemological rea-
sons; its derivative, the organic understanding of social phenomena, cannot meet the
task of providing satisfactory explanations of institutions because it assumes them;
and the essentialist approach of explaining exchange and relative prices basically
discards the idea of a theoretical social science by transforming it into a subdisci-
pline of psychology. In contrast, Menger aims at developing a nominalist and rela-
tional behavioural theory based on a combination of methodological individualism
and a theory of subjective evaluations and which is based on experience.
However, although Menger is quite critical of the way in which methodological
inductivist essentialism applies inductivism to the theoretical social sciences, he
nevertheless shares the basic idea that the empirical sciences are characterized by
inductive methods. Accordingly, he believes that the empirical sciences start from
certain observations or rather from absolutely certain and proven statements describing
observations or personal experiences; that on that basis specifi c general statements
or laws are inferred by content-enlarging and truth-preserving inferences; and that
these laws provide the bases for an explanation of complex situations, processes and
facts. Menger opines that this is the method and procedure of any empirical science,
i.e. of the natural sciences as well as of the social sciences, which he undoubtedly
ranks among them. Discussing the methods of the social sciences in the preface of
the Grundsätze he accordingly explains:
In what follows we have endeavoured to reduce the complex phenomena of the human
economy to the most simple elements which are accessible to certain observation, apply a
measure to them which is adequate to their nature, and by sticking to it fi rmly to analyzing
how the complex economic phenomena develop from these elements according to laws.
(Menger
1871 , Vorrede, p. viii; my translation)
428 K. Milford
Thus, according to Menger, science starts with “certain observations” or rather
with descriptions of observations which are proven true and absolutely certain. He
suggests that by fi nding an adequate measure for them it is possible to establish
regularities or laws between them. And that once having been inferred from that
basis these laws provide the foundations for explanations of other complex situa-
tions, processes or facts. It seems that these views are much inspired by those
regarding the methods of the natural sciences, as Mill describes them in his Logic
(Mill
1843 ) . Menger’s description here transforms into the social sciences some
principal nineteenth century ideas regarding the role and the importance of experi-
ments as they also can be found in Mill’s work. According to these views, experi-
ments provide the possibility of certain observations, of measuring them by some
adequate measure and of establishing regularities or laws on that basis. It is there-
fore not surprising that Menger opines that his description of the social science
method pertains to the natural sciences as well. Referring to his description of the
methods of the social sciences he writes
This method of research attaining universal acceptance in the natural sciences led to very
great results and on this account came mistakenly to be called the natural scientifi c method.
It is in reality a method common to all fi elds of empirical knowledge and should properly
be called the empirical method.
(Menger
1981 , pp. 46–47)
In agreement with that method, Menger develops a price theory derived from cer-
tain and simple observations. Due to the requirements of methodological individu-
alism and due to his non-essentialist approach, he starts his analysis by reviewing
the conditions under which individuals evaluate objects and human actions as goods
and services. He states them in the form of four typical initial conditions of a social
situation in which individuals evaluate objects (actions) as goods (services) and
justifi es them by observations. Accordingly, it is derived from observation that indi-
viduals have needs and wants which they want to satisfy since their well-being
depends on this. Observation or experience also shows that humans satisfy concrete
wants with concrete quantities of goods; experience also shows that humans rank
wants according to their importance with respect to kind and necessity; observation
also shows that to a certain extent objects need to have the technical quality of sat-
isfying specifi c wants; but they also show that in certain situations individuals mis-
takenly believe that they are capable of fulfi lling wants and that nevertheless markets
emerge. And observation or experience also shows that individuals must have com-
mand of the objects which they evaluate as goods. Menger also investigates under
which conditions objects and actions expended in the process of the production of
fi nal goods (fi rst order goods) are evaluated as goods or rather as inputs and services
(higher order goods). Again, on the basis of observations, Menger discusses within
this hierarchical conception of goods and services the importance of complemen-
tary relations among them and establishes different regularities here. He also
discusses the importance of time processes and that of incorrect evaluations of situ-
ations with respect to economic decisions and emphasizes that the economic deci-
sions taken in the presence are determined by the appraisal of future situations.
429
16 The Empirical and Inductivist Economics of Professor Menger
According to him, the presence does not determine the future but that precisely the
opposite is the case. From the many possibilities existing in present social situations,
the decisions taken with respect to the future determine the present actual historical
situation; a view which is quite in contrast to what methodological essentialism
would suggest. All this Menger infers from ample empirical evidence.
However, part of that empirical evidence is not provided in the fi rst but in later
chapters only. But the main result of Menger’s analysis regarding the conditions
under which individuals evaluate objects (actions) as goods (services) as well as
the conditions under which they refrain from doing so is that any essentialist
approach of explaining the evaluative behaviour of individuals has to be rejected.
Whether individuals evaluate objects and actions as goods and services depends
mainly on their opinions, knowledge, fantasies and appraisals. It is a human
judgment and as a consequence Menger emphasizes that any essentialist notion
of goods which regards the essence of a good to be inherent in that good is false.
He writes
[f]rom this it is evident that the goods-character is nothing inherent in goods and not a
property of goods, but merely a relationship between certain things and men, the things
obviously ceasing to be goods with the disappearance of this relationship.
(Menger
1981 , p 52, n 4)
Menger emphasizes this point several times in his analysis. For instance, after hav-
ing discussed the concept of higher order goods, i.e. the complementary relation of
inputs he states
Again it is necessary that we guard ourselves. … In the general discussion of goods-character
I have already pointed out that goods-character is not a property inherent in the goods them-
selves … the order of a good is nothing inherent in the good itself and still less a property of it.
(Menger
1981 , p. 58)
But according to Menger the inductive methodology of the empirical sciences not
only requires that science starts with certain observations. It also requires to
“apply a measure to them which is adequate to their nature” in order that laws or
regularities can be established. In the fi rst two chapters of the Grundsätze he basi-
cally explains the conditions under which individuals evaluate objects (actions) as
goods (services). In the third chapter, “The Theory of Value”, however, he attempts
to fi nd a “measure” which is adequate to observations regarding the evaluating
behaviour of individuals. Based on experience, Menger emphasizes that the scar-
city of goods originates in the individuals judgments, i.e. in the evaluating indi-
vidual behaviour. Individuals attach value to goods according to the importance
which they have for them in satisfying wants. Accordingly he emphasizes that like
in the previous case of goods any essentialist notion of value has to be discarded.
He writes
Value is nothing inherent in goods, no property of them, nor an independent thing existing
by itself. It is a judgment economizing men make about the importance of the goods at their
disposal for the maintenance of their lives and well-being.
(Menger
1981 , p. 121)
430 K. Milford
The adequate measure Menger is looking for is a measure which measures the impor-
tance which individuals attach to goods in order to satisfy their wants. In modern
terms, this is marginal utility and subsequently the equimarginal principle. Both
ideas are formulated by Menger and systematically applied in order to explain
exchange and relative prices. However, it is interesting to note that the terms in which
Menger phrases these conceptions differ from those in modern text books to quite
some extent. Modern text books usually provide a positive description or defi nition
of marginal utility and derive the equimarginal principle as a result of an exercise in
linear optimization. In contrast to these modern approaches, Menger bases both con-
ceptions explaining the evaluative behaviour of individuals on experience and obser-
vation. This explains the particular way in which Menger describes these concepts.
Whereas modern text books formulate the concept of “marginal utility” positive as
an increase in utility given an increase in the consumption of a good by one unit
under ceteris paribus conditions, Menger provides a negative formulation.
[T]he value … to [a certain] person of any portion of the whole available quantity of the
good is equal to the importance to him of the satisfactions of the least importance among
those assured by the whole quantity and achieved with an equal portion.
(Menger
1981 , p. 132, original italics)
The reason for not having formulated this measure in positive but in negative terms
is Menger’s view that empirical sciences and hence also the social sciences are
based on observation and experience. It is impossible to observe and to measure the
increase of utility given an increase in the consumption of a good by one unit, cet-
eris paribus; but it is possible to observe that individuals satisfy concrete wants by
consuming concrete quantities of goods and that they refrain from satisfying that
concrete want which for them is the least important one if the quantity of a good is
reduced by one unit. Accordingly, Menger also derives the equimarginal principle
from observation
If a good can be used for the satisfaction of several different kinds of needs, and if, with
respect, with respect to each kind of need successive single acts of satisfaction have a
diminishing importance according to the degree of completeness with which the need in
question has already been satisfi ed, economizing men will fi rst employ the quantities of the
goods that are available to them to secure those acts of satisfaction, without regard to the
kind of need, which have the highest importance for them. They will employ any remaining
quantities to secure satisfactions of concrete needs that are next in importance, any further
remainder to secure successively less important satisfactions. The end result of this proce-
dure is that the most important of the satisfactions that cannot be achieved have the same
importance for every kind need, and hence that all needs are being satisfi ed up to an equal
degree of importance of the separate acts of satisfaction.
(Menger
1981 , p. 131)
Having stated those “certain observations” and that “adequate measure” which
permit inferring the laws describing the evaluative behaviour of individuals under
different conditions Menger proceeds to showing how these laws form the basis of
satisfactory explanations of exchange and relative prices.
431
16 The Empirical and Inductivist Economics of Professor Menger
Menger’s Solution of the Problem of Induction
There remains one important problem which according to Menger needs urgent
resolution. His criticism of essentialism shows that only a nominalist and relational
behavioural approach to economics based on observation and experience can pro-
vide satisfactory social and economic explanations. However, he is also aware that
some representatives of historism and of the German Historical school of econom-
ics intended to improve economic theory by basing their analysis on observation
and experience and by developing price theories on the basis of a theory of subjec-
tive evaluations. Accordingly he regards the German authors’ attempts to explain
prices on the basis of a theory of subjective evaluation as extraordinarily fruitful.
However, he also believes that their combining these theories with the position of
methodological inductivist essentialism explains why these attempts remained
unsuccessful. Theories of subjective evaluations lose their methodological import if
they are not combined with methodological individualism. If for whatever reasons
the idea to explain social and economic institutions as unintended results of the
interplay of individual intended actions is rejected, any theory of subjective evalua-
tions remains a psychological theory. If the idea that prices are to be explained as
unintended results of individual intended actions is discarded, theories of subjective
evaluations explain the evaluating behaviour of individuals by referring to the fac-
tors determining their decisions only and have no methodological import for an
attempt to explain prices as the unintended result of those decisions. In Menger’s
view, this explains why the German authors were incapable of providing a satisfac-
tory explanation of exchange and of relative prices, although they based their theo-
ries on a theory of subjective evaluations and although some authors like for instance
Schäffl e (
1981 , p. 300) even formulated the idea of a marginal principle. Having lost
the methodological import of a theory of subjective evaluations by rejecting meth-
odological individualism and by defending methodological inductivist essentialism,
the German authors were capable only of developing so-called reservational price
theories and taxonomies of mainly psychological factors infl uencing individual
decisions. And Menger also points that since these authors reject methodological
individualism they had to introduce, like Smith, a psychological hypothesis in order
to explain the coherence of social institutions. On the basis of their theory of subjec-
tive evaluations, the German authors suggest that individuals act egoistically and
only according to their interests. However, once methodological individualism is
rejected, the problem of explaining the coherence of social institutions is unresolved
and needs resolution. According to Menger, the German authors sought to solve that
problem by introducing a special Gemeinsinn, i.e. a special psychological hypoth-
esis about the nature of humans. This Gemeinsinn checks the egoistic action of
individuals and explains the coherence of social institutions in societies inhabited
by egoistic individuals. Similar to the case of Smith, whose essentialist explanation
of exchange forces him to introduce the psychological hypothesis of a propensity of
humans to truck and barter, the German authors’ essentialist approach in the form
432 K. Milford
of methodological inductivist essentialism forces them to introduce a psychological
hypothesis in order to explain social phenomena as well and develop so-called prag-
matic explanations only.
Adam Smith and his school have neglected to reduce the complicated phenomena of human
economy … to the efforts of individual economies … They have neglected to teach us to
understand them theoretically as a result of individual human intentions. Their endeavours
have been aimed … subconsciously … at explaining them on the basis of [a] fi ction [Menger
refers here to the holistic fi ction of a national economy as an entity acting like individuals].
On the other hand, the historical school of German economists follow this erroneous con-
ception consciously. It is even inclined to see in it an incomparable deepening of our
science.
(Menger
1985 , p. 196. Cf also Menger 1883 , p. 237; partly my translation)
But Menger not only shows that methodological inductivist essentialism has to be
rejected because the theory of subjective evaluations loses its methodological import
if is combined with that position, his criticism of that position also shows that the
inductivist views of the authors of the German Historical school need to be rejected
on logical and on epistemological grounds. Yet Menger is an inductivist and defends
the usual link of empirisim as an epistemological position and of induction as
method of inferring strictly universal and empirical statements, or as Menger calls
them strict or exact laws. However, Menger is well aware that his logical objection
against the naïve inductivist view of the German authors renders the inference of
strictly universal and empirical statements impossible. It triggers a confl ict between
the methodological requirements of strict universality and empirism defi ning empir-
ical science. Yet in Menger’s view, the statements or theories which the theoretical
social sciences propose claim to be valid independent of time and error and are
emprical: they are strictly universal and the foundation of their truth value is experi-
ence. The method of induction seemingly shows the possibility of fulfi lling both
requirements simultaneously, since it allows content-enlarging and truth-preserving
inferences. Strictly universal statements or theories which are empirical transcend
experience; but experience remains the foundation of their truth value if it is possi-
ble to reduce them logically to singular statements describing observations or per-
sonal experiences. However, Menger’s own logical argument directed against the
position of the German Historical School that past experience can for logical rea-
sons only establish empirical statements which are only numerically but not strictly
general seems to reject his inductivist and empirical position as well. If empirical
statements are summaries of past observations only the methodological requirement
of empirism is satisfi ed but the claim that they also are strictly universal has to be
rejected.
The contrast of empirism, according to which the foundation of the truth value of
singular and strictly universal statements is experience and of strict universality
according to which the statements which theoretical science proposes are strictly
universal and empirical is triggered by the logical objection to content-enlarging
and truth-preserving inferences. This is the so-called problem of induction and since
Menger threatens his own empirical and inductivist position by providing an argu-
ment against the validity of inductive inferences, he attempts to solve that problem.
433
16 The Empirical and Inductivist Economics of Professor Menger
And since by triggering the confl ict of strict universality and empirism the problem
of induction also renders the impossibility of demarcating empirical science from
non-empirical science, Menger by trying to solve that problem also attempts to
clarify the epistemological status of the theoretical social sciences, i.e. the problem
of demarcation.
Menger attempts to solve the problems of induction and demarcation by intro-
ducing an induction principle. It is interesting to note that already in the opening
paragraph of the fi rst chapter of the Grundsätze, Menger presents such a principle
in a form which Mill gave to it in his Logic (Mill
1843 ) . This principle is the law of
causation according to which every effect has a cause. According to Menger,
All things are subject to the law of cause and effect. The great principle knows no excep-
tion, and we would search in vain in the realm of experience for an example to the contrary.
Human progress has no tendency to cast it in doubt, but rather the effect of confi rming it and
of always further widening knowledge of the scope of its validity.
(Menger
1981 , p. 51)
However, due to the prime intentions which he pursues in the Grundsätze , Menger
refrains from discussing this issue any further. Yet it is interesting to note that he
obviously felt the necessity to justify his inductivist and empirical approach in the
Grundsätze by providing such a principle. In contrast to the Grundsätze, the
Untersuchungen provide a much more elaborated and detailed analysis of the prob-
lem of induction. There Menger shows that such a principle simply permits content-
enlarging and truth-preserving inferences, and that if it can be shown that this
principle is strictly universal, empirical and proven true a solution of the problems
of induction and demarcation can be found within an inductivist framework.
Accordingly, Menger fi rst introduces such an induction principle and then
attempts to justify it by showing that his principle fulfi ls all the requirements which
have to be met by any other induction principle as well. In order to transform the
numerically general empirical laws into exact or strict laws Menger introduces the
following induction principle:
The only rule of cognition for the investigation of theoretical truth which as far as possible
is verifi ed beyond doubt not only by experience but simply by our laws of thinking, and
which is of utmost fundamental importance for the exact orientation of research is the state-
ment that whatever was observed in even only one case must always put in an appearance
again under exactly the same actual conditions ;
(Menger
1985 , p. 60 my translation)
Menger believes that this rule meets all the requirements necessary for a valid induc-
tion principle. It is a strictly universal and a synthetic statement because it asserts
the existence of a regularity or law governing the world; and it is proven true because
experience and our laws of thinking verify it beyond doubt. However, it is obvious
that Menger cannot provide a correct justifi cation of that principle by referring to
experience and the laws of thinking. Basing an induction principle on further expe-
rience triggers an infi nite regress of justifi cations because even additional experi-
ence cannot verify a strictly universal statement; and basing it on some kind of
synthetic judgment apriori by saying, as Menger does, that the laws of thinking are
434 K. Milford
valid by necessity also cannot help here because it is impossible to establish synthetic
judgments which are apriori true. As a consequence, Menger distinguishes between
two different epistemological positions or orientations of research: the empirical
realistic orientation of theoretical research and the exact orientation of theoretical
research. The empirical realistic orientation of research retains the principle of
empirism that every empirical statement of science is decided by experience.
However, due to the logical invalidity of inductive inferences Menger emphasizes
that if the methodological requirement of empirism is retained that of strict univer-
sality has to be given up. Accordingly, the realistic orientation of theoretical research
cannot establish strictly universal laws; yet, Menger is aware that if the method-
ological requirement of strict universality is retained that of empirism has to be
rejected. Accordingly, he emphasizes that experience cannot be the foundation of
the truth value of strict or exact laws and that the exact orientation of the theoretical
orientation of research establishes laws which are not empirical. Albeit that the
exact and the empirical orientation of theoretical research are logically incompatible,
Menger believes in a pragmatic solution of the problem and proposes to apply both
orientations of research in economics. However, his attempt to justify inductive
inferences and to provide an epistemological justifi cation of a social science that is
theoretical and empirical fails (Milford
1990 ) .
Evaluation of Menger’s Contribution
Although Menger cannot fi nd a correct epistemological justifi cation for the theoreti-
cal social sciences, his methodological contributions are most important. Especially
his attack on essentialism shows that there exist intrinsic reasons which explain the
unsuccessful attempts of providing a satisfactory explanation of exchange and of
relative prices. They also show that only by discarding all kinds of different essen-
tialist notions progress in that fi eld can be made. Only by discarding essentialism
and by introducing methodological individualism instead, a theory of subjectivist
evaluations receives its full methodological import and makes further progress in
economics possible. This is perhaps the most important general message which the
Grundsätze as well as the Untersuchungen contain. That it is really of decisive
importance is seen that by combining methodological individualism and the theory
of subjective evaluations Menger is able to apply the ideas of “marginal utility” and
the “equimarginal principle” systematically for an explanation of exchange and
relative prices and to improve price theory in general. His analysis shows that even
if “marginal utility” is combined with methodological inductivist essentialism one
cannot attain the aim of improving price theory. That Menger believes that his eco-
nomic theory is based on experience and that the laws he proposes are inferred by
content enlarging and truth preserving inferences is of lesser importance with
respect to the progress of economics. But his belief is important insofar as it sup-
ports the idea that essentialist theories have to be substituted by nominalist and
relational theories explaining the behaviour of individuals within an empirical theory.
435
16 The Empirical and Inductivist Economics of Professor Menger
In this context his analysis with respect to induction is indeed important though
compared with the prevailing epistemology of his times not quite as original as for
instance his economic analysis. By discussing the induction he shows that he is one
of the very few authors to realize the importance of the problem of induction and its
epistemological consequences. However, by failing to solve that problem he fails to
demarcate the theoretical social sciences as empirical sciences from non-empirical
sciences such as logic but also from pseudoscience. However, the consequences of
not being able to demarcate empirical from non-empirical science has fatal conse-
quences for the rationality of science. If the idea that experience is the foundation of
the truth value of scientifi c theories is given up, the rationality of science is endan-
gered. And Menger’s logical objection against inductive inferences precisely shows
that within an inductive framework experience is not the foundation of the truth
value of economic theories. It is therefore most important to fi nd an answer to
Menger’s logical objection. For if not “[t]he lunatic who believes that he is poached
egg is to be condemned solely on the ground that he is in a minority, or rather – since
we must not assume democracy – on the ground that the government does not agree
with him” (Russell
1975 ; Roscher 1842 , p. 646). – says Russell with respect to
Hume who was one of the fi rst authors to state that logical objection. Certainly
Menger would not have welcomed such consequences.
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Hermann FBW (1932) Staatswirthschaftliche Untersuchungen. München
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Hayek, J.C. B. Mohr (Paul Siebeck), Tübingen 1970, pp 1–116
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tion of Menger 1871
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economics. New York University Press, New York; English translation of Menger 1883
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works of John Stuart Mill, vol VII, VIII. University of Toronto Press, London 1974
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437
JG B kh ( d) HdbkfhHi fE iTh h
Chapter 17
Antoine Augustin Cournot
Christos P. Baloglou
C. P. Baloglou (*)
Hellenic Telecommunications Organization,
Messenias 14 & Gr. Lamprakis, 143 42 Nea Philadelphia , S.A., Attikis , Greece
e-mail: [email protected]
Antoine Augustin Cournot
438 C.P. Baloglou
Introduction
Antoine Augustin Cournot
1
was born on the August 28th, 1801 at Gray, in Haute-Saône,
in France. The family background was essentially rural, but an uncle of his was a
public notary. He exercised a considerable infl uence in Cournot. He wrote in his
Souvenirs concerning his birth: “Pour mon propre compte, je suis redevable de mon
apparition dans ce monde à la révolution de 18 brumaire. Quelque temps après ce
grand événement, mon père, parvenu à la quarantaine, crut les choses assez rassises
et la liberté de conscience assez assurée pour songer à prendre charge de femme et
d’ enfants. Cependant, comme je suis né en 1801, six mois avant le Concordat, j’ ai
encore été, à la manière des temps primitifs, baptisé en chambre par un prêtre qui se
cachait ou qui était censé se casher, car, dans la réalité, on ne craignait plus l’ appli-
cation des lois révolutionaires.”
2
He received his early schooling in his native town and his fi rst special discipline
in mathematics at the Lycée at Besançon in 1820. He lists in his Souvenirs the work
of Laplace Essai philosophique sur les probabilités and Cordorcet’s Essai sur
l’application de l’analyse à la probabilité des décisions rendues à la pluralité des
voix among the books which he read at this time and infl uenced him. In 1821, he
entered the École Normale at Paris, where he continued his mathematical studies.
He entered to the school with Auguste Walras, who was destined to become nota-
ble economist in his own right apart from being the father of Léon Walras.
3
His stay at the École Normale was short for it was closed in 1822 by the govern-
ment because of the alleged republican feelings of its students and Cournot had to
transfer to the Sorbonne from which he graduated in Mathematics in 1823. His
teachers included Laplace, Lagrange, and Poisson, who befriended him and helped
him considerably in his later career. His stay at Sorbonne was very fruitful for him:
“Je n’avais rien à lire, rien à composer, rien trouver, rien à projeter, je n’avais qu’à
écouter et à réfl échir: Ce temps a été le plus heureux de ma vie.”
4
He became Professor of Mathematics at Lyons in 1834 on the recommendation
of Poisson. One year earlier he was engaged in the translation of two works, one in
mechanics, and one on astronomy.
5
He held the chair in Lyons for only one year,
for in 1835 he was appointed, again on the recommendation of Poisson, Rector of
the Academy of Grenoble. In 1836, he was provisionally appointed to the post of
the Inspecteur Général des Études , an appointment which became permanent in
1838, the year of his marriage and the publication of his fi rst book, the Recherches
1
The main source for Cournot’s Biography is his Souvenirs , which were completed in 1859 but
published in 1913 by Bottinelli. The main biographies of Cournot are contained in Moore (
1905a, b ,
pp. 370, 521–543), Reichardt (
1954 ) , Moore ( 1991 ) , Waffenschmidt ( 1991 , pp. 57–69), Theocharis
(
1983 ) .
2
Quoted in Moore ( 1991 , p. 19).
3
Walras ( 1905 ) quoted in Theocharis ( 1983 , p. 213).
4
Moore ( 1991 , p. 23).
5
These were Eléments de mécanique de Kater et Lardner, which were modifi ed and completed by Cournot
(Paris 1842) and Traité d’astronomie de Herschel (Paris 1835). Both were translated from English.
439
17 Antoine Augustin Cournot
sur les principes mathématiques de la théorie des richesses. He was made Knight
of the Legion of Honour in 1838, and Offi cer in 1845. Parallel to the offi ce of the
Inspector-General, he held other educational offi ces during his career as an offi cial,
chiefl y the membership of the “Commission des hautes études” and the presidency
of the “Concours d’ agrégation des mathématiques.” He became Rector of the
Academy at Dijon in 1854, but in 1862 retired from active teaching. The remaining
years till his death on the March 30th, 1877 he spent in Paris engaged in philo-
sophical meditation and writing.
The Works of Cournot
6
Cournot was an economist, a philosopher and a mathematician. Among Cournot’s
mathematical writings mention can be made to his Traité élémentaire de la théorie
des fonctions et du calcul infi nitésimal , appeared in two volumes in 1841. This was
followed in 1843 by the Exposition de la théorie des chances et des probabilités
which is a systematic exposition of the calculus of probabilities and its application
to statistics, and in 1847 by the De l’origine et les limites de la correspondance
entre l’algèbre et la géométrie.
Cournot’s philosophical works began to appear in 1851 when the Essai sur les
caractères de la critique philosophique appeared.
7
This was followed by the Traité
de l’enchaînement des idées fondamentales dans les sciences te dans l’histoire
(1861) and the Considérations sur la marche des idées et des évènements dans les
temps modernes (1872).
8
A last philosophical work entitled Matérialisme, Vitalisme,
Rationalisme: études sur l’emploi des données de la science en philosophie appeared
2 years before his death in 1875.
9
There are, however, his books in the fi eld of Economics, which gave him fame
and survive his name among future generations. Cournot started and finished
his career as an author with an economic work. The Recherches sur les principes
mathématiques de la théorie des richesses appeared in 1838
10
and the Revue
6
It is interesting to note and emphasize that Martin ( 1998 ) gave a “complete” bibliography, con-
cerning not only Cournot’s complete works, including the various French and foreign editions, as
well as the different studies published about his works, but also a comprehensive review of all the
references to Cournot in the world literature. Altogether there are 1,478 references of articles or
books, listed and classifi ed under 17 thematic headings. Cf. the reviews by Vatin (
1999 , pp. 310–312)
and Larson (
1999 , pp. 377–378).
7
It was published in two volumes. A second edition appeared in 1912 and a third edition in one
volume in 1922.
8
It appeared in two volumes. A new edition in 1934.
9
A new edition appeared in 1923.
10
The English translation bears the title Researchers into the Mathematical Principles of the
Theory of Wealth translated by N.T. Bacon 1897, with an Essay and a Bibliography of Mathematical
Economics by I. Fisher, 1927, New York, A. Kelley 1971, an edition to which we refer to. There is
also a German translation entitled‚ Untersuchungen ŭ ber die mathematischen Grundlagen der
Theorie des Reichtums translated by W.G. Waffenschmidt, Jena: G. Fischer, 1924.
440 C.P. Baloglou
Sommaire des doctrines économiques in 1877,
11
the year of his death. A third book
entitled Principes de la théorie des richesses , which is essentially a repetition of the
Recherches without the mathematics, appeared in 1863.
12
The Background of the “Recherches”
It has been a matter of considerable interest among all those who ever wrote about
Cournot’s economic work how he, an accomplished mathematician, was included
not simply to turn to the study of economics but actually to appear for the fi rst time
before the wider public as an author of an economic treatise. It is diffi cult, as we
believe, to answer this question and give an exact answer. We would like to make
some assumptions.
First of all, the relationship between Cournot’s economic works and French
literature in Political Economy requires a preliminary questioning about Cournot’s
own relationships with economics. Let us recall that Cournot devoted his fi rst book
entitled Recherches sur les principes mathématiques de la théorie des richesses
(1838) and his last book Revue sommaire des doctrines économiques (1877) to
economics. In the intermediate period, he published ten books on other matters,
such as mathematics and philosophy, the only exception being his book Principes
de la théorie des richesses (1863).
Second, in spite of certain features, Cournot’s contribution to economic theory
does not belong to any French school of economic thought whatever. In fact, the so
called French school of mathematical economics, to which Cournot is classically
related, seems to be a mythical reconstruction. There were French economists
13
who
used the mathematical method before Cournot (
1838 ) , but there were almost the
French engineer economists from the eighteenth century up to now, who were espe-
cially fertile during the nineteenth century. However, Cournot was not an engineer.
On the other hand, Walras worked hard in order to promote in France mathematical
economics after 1860. Cournot was still alive, but he never accepted to be enrolled
in the Walrasian campaign.
Third, Cournot’s study of economics was a side interest. But having read Smith,
Ricardo, and Say, as he himself admits,
14
he must have found their analyses vague
11
Reprinted by A. Kelley, New York 1968.
12
Reprinted by Bizzarri, Rom 1969.
13
There are C.-F.-J. d’ Auxiron, Principes de tout gouvernment (1766), A.-N. Isnard, Traité des
Richesses , London and Lausanne, 2 vols, 1781. L.F.G. de Cazaux, Elémens d’ économie privée
et publique; Science de la valeur des choses et de la richesse des individus et des nations , Paris –
Toulouse, 1825. C. Courtois, Mémoire sur différentes questions d’ économie publique, relatives à
l’ établissement des voies de communication , Paris, 1833. On Isnard’s very rare book, see the
excellent edition prepared by Van den Berg (
2005 , pp. 68–198). See Theocarakis’ review in
Theocarakis (
2006 ) . On Auxiron se Van den Berg and Dhesi ( 2004 ) . On the French mathematical
economists, see Theocharis (
1961 , pp. 66–69, 90–91). Theocharis ( 1988 , pp. 265–273).
14
Cournot ( 1938 [1971], p. 4).
441
17 Antoine Augustin Cournot
and confusing. He found that economic science was assuming “the dignity of a
science of laws,” and, as he was already infl uenced by A. Comte’s ideas of a science
of “social physics,” the idea must have come to his mind that by developing the math-
ematical approach he could evolve a science of “economic physics.” Cournot noted
in the Recherches that of the previous attempts to apply mathematics to economics
he had learned only the titles, except for one, Nicolas-François Canard’s Principes d’
économie politique (1801),
15
“a small work […] crowned by the Institut.”
16
Although
he asserted that its principles “are so radically at fault,” as Cournot underlined, “and
the application of them is so erroneous” he later wrote that Canard’s Principes was
his point of departure, albeit a discouraging one. Cournot said that Canard’s work
embodied a false point of view and that works such as it would not incline econo-
mists like Jean-Baptiste Say and David Ricardo to use algebra.
17
Cournot may have
been familiar with A. Walras, which had mathematical leanings. Lastly,
18
it has been
proved that Canard’s Principes had a direct infl uence on Cournot.
The Use of the Mathematical Method
The aim of the Recherches is not to develop a theory of wealth, but to apply the
mathematical method to those parts of the theory, which Cournot thinks are suscep-
tible to such a treatment. “I have not set out to make complete and dogmatic treatise
on Political Economy. I have put aside questions to which mathematical cannot
apply, and those which seem to me entirely cleared up already,” he writes.
19
Cournot can be considered as a direct product of a French mathematical tradition.
It is well known that he was preferred pupil of Poisson. He honestly confessed in his
Souvenirs that he was not a fi rst-rate mathematician, in spite of Poisson’s hopes, but
he possessed an excellent training in mathematics and a vivid sympathy for ideas
and theorization.
Cournot never denied the existence of a link between mathematics and the
“science of wealth” even when the refrains from mathematics, but he defends his
position at two different levels. In the Principes , he reproduced the analysis of the
philosophical foundations of economics. Economics develop the opposite point of
view from the law and jurisprudence on the same topic. While the laws are con-
cerned by individual cases, the economists study phenomena determined by large
numbers. If not Cournot’s economics belong to the family of the mathematical
sciences, because it is rooted in the ideas of numbers and measurement, in the
Recherches , he explains the use of mathematics in economics. He held that the
solution to the general questions of the theory of wealth depend “not on elementary
15
For an evaluation of Canard’s book in the history of economic thought, see Waffenschmidt
(
1958 ) , Theocharis ( 1961 , pp. 72–87), Tortajada ( 1990 ) , Larson ( 1999 , pp. 109–131).
16
Cournot ( 1838 [1971], p. 2).
17
Cournot ( 1838 [1971], p. 2.)
18
Larson ( 1999 , pp. 109–131).
19
Cournot ( 1838 [1971], p. 5).
442 C.P. Baloglou
algebra, but on that branch of analysis which comprises arbitrary functions, which
are merely restricted to satisfying certain conditions.”
20
Thus, part of Cournot’s dissatisfaction with the Principes must have been due to
its use of a type of mathematics that he found inappropriate for economics.
Cournot’s method is not aiming at fi nding directly numerical results; its aim is to
ascertain what form of relation exists between two or more economic quantities and to
apply there the theory of functions. Cournot underlined the fact that as only very simple
conditions will be considered, “the fi rst principles of the differential and integral calcu-
lus suffi ce for understanding this little treatise.”
21
The determination of the relation may
be vague but nonetheless the theory of functions will be applicable. Thus, the relation
between quantity demanded and price may be presented by the function D = F ( p ).
It is suffi cient to know some of its properties – in this case e.g., that it is decreasing and
continuous – in order to fi nd by means of analytical symbols “relations equally general
which would have been diffi cult to discover without this help.”
22
This conception of the role of mathematics in economic theory struck, Cournot
thought, at the roots of the argument of those authors, who although theorists of
repute, mistakenly thought that “the use of symbols and formulas could only lead to
numerical calculations, and as it was clearly perceived that the subject was not
suited to such a numerical determination of values by means of theory alone,
the conclusion was drawn that the mathematical apparatus, if not liable to lead to
erroneous results, was at least idle and pedantic.”
23
Cournot was a mathematically sophisticated philosopher who, infl uenced by
Fourier and his theory of heat, postulated that mathematical equations describing
phenomenological entities were viable with any ontological commitments concerning
the underlying phenomena.
24
Already in the preface to the Recherches he announced
that in writing the book he had “put aside questions to which mathematical analysis
cannot apply.”
25
Further, the idea most authors had about the applicability of math-
ematical analysis to economics did not agree with Cournot’s view:
They imagined that the use of symbols and formulas
could only lead to numerical calculations, and as it was
clearly perceived that the subject was not suited to
such a numerical determination of values by means of
theory alone, the conclusion was drawn that the
mathematical apparatus, if not liable to lead to
erroneous results, was at least idle and pedantic.
26
20
Cournot ( 1838 [1971], p. 4).
21
Cournot ( 1838 [1971], p. 4).
22
Cournot ( 1838 [1971], p. 5).
23
Cournot ( 1838 [1971], p. 3).
24
Vázquez ( 1997 , p. 126).
25
Cournot ( 1838 [1971], p. 5).
26
Cournot ( 1838 [1971], p. 3).
443
17 Antoine Augustin Cournot
Cournot’s Forerunners and His Originality
It was Frisi’s originality who fi rst used the calculus in 1772 to determine when price
would become a maximum or a minimum.
27
T. R. Malthus made in 1814 certain
suggestions, in which he called attention to the potential usefulness of differential
calculus for economics and related sciences.
28
Ten years later Perronet Thompson,
who like Malthus had excelled as a student of mathematics at Cambridge, employed
the calculus in economic analysis. The problem that Thompson posed was to maxi-
mize the pain of a government that purchases goods and services with paper money,
the issue of which is attended by rising prices. Thompson’s article entitled “On the
Instrument of Exchange” was the fi rst response to Malthus’s suggested employment
of the calculus.
29
In 1815, a continental writer, the German Graf Georg von Buquoy,
who stressed the managerial side of economics, advised farmers to maximize their
net revenue by holding production at a level at which the fi rst derivative disappears
and the second becomes negative.
30
Later on, when new economic problems emerged
with the operation of railroads, similar ideas were advanced. In 1839 Charles Ellet,
a noted American railroad builder, applied calculus to determine an optimum tariff
that would maximize profi ts.
31
Cournot’s book does put things in a new place. It is astonishingly modern, and it
contains, for those who take the trouble of reading it, many discoveries.
32
The Content of the “Recherches”
Entering upon the book itself, we fi nd that it naturally falls under three parts. These
are (a) the pure theory of price
33
, (b) the theory of rates of exchange and interna-
tional trade
34
, and (c) his theory of Social Income.
35
27
On Frisi’s notes to Verri’s, Meditazioni sulla Economia Politica , Livorno 1772, see Theocharis
(
1961 , pp. 27–34, 36–39), Luini ( 1996 , pp. 127–147).
28
Spiegel ( 1971 , p. 507).
29
Thompson ( 1824 , pp. 171–205). On his contribution to mathematical economics, see Theocharis
(
1961 , pp. 122–123).
30
von Buquoy ( 1815 [2005], p. 54). On this contribution see Theocharis ( 1961 , pp. 112–113),
Homberg (
1971 , pp. 61–62), Baloglou ( 1995 , pp. 57–60), Bieri ( 1968 , p. 138, n. 4) emphasized
that v. Buquoy is Cournot’s forerunner.
31
Charles Ellet, An Essay on the Laws of Trade in reference to the works of internal improvement
in the United States (1839). Cf. Theocharis (
1993 , pp. 21–40).
32
Robbins ( 1998 , p. 252).
33
Cournot ( 1838 [1971], pp. 7–116).
34
Cournot ( 1838 [1971], pp. 117–126).
35
Cournot ( 1838 [1971], pp. 127–171).
444 C.P. Baloglou
Value and Price
Chapter I
36
is devoted to defi ning wealth, the term Cournot uses in the sense of value
in exchange. He carefully distinguishes this idea from “utility,” with which he con-
ceives the economist has no direct concern. What relations exist between wealth
thus conceived and the welfare of the human race, Cournot regards as too diffi cult a
problem to admit of present solution.
The second chapter entitled “Changes in Value, Absolute and Relative”
37
deals
with the problem of value.
The very idea of value in exchange implies the necessity of comparison between
two things; the idea of value is to fall into a logical contradiction. There can be abso-
lute changes in one or both of the terms making up the ratio of value and these will
affect the value of the ratio, but the idea of an absolute “change” in one of the terms of
the ratio must be clearly distinguished from the idea of the ratio itself. “There are no
absolute values” emphasized Cournot
38
“but there are movements of absolute rise and
fall in values.” Clinging to the physical analogy, Cournot cites the remarkable passage
in Newton’s Principia
39
in which an “absolute space” is supposed as a background
for mechanical motion, distinct from the “relative space” made up of the system of
moving points. He does despair of distinguished statistically absolute and relative
changes, and observes that in case all commodities except one, such as gold or silver,
preserve the same relative values; the probability to preserve the same relative value is
greater that the one commodity has changed than that all the others have changed.
40
The Law of Demand
The determination of price is the result of the play of the forces of supply and
demand. Cournot believed that it was demand which played the essential part, “sup-
ply is the necessary counterpart of demand and consequently the accessory fact.”
41
Cournot devotes a whole chapter, Chapter IV, entitled “Of the law of demand (De la
loi du débit)”
42
to the discussion of demand, while his discussion of supply is hidden
away as a discussion of costs in the chapter of Monopoly.
Cournot, though openly admitting that demand depends on utility, dispatched the
embroiled classical discussions on the subject as ill-suited for the foundation of a
scientifi c theory. Those ideas, he held, are by nature capable of neither enumeration
36
Cournot ( 1838 [1971], pp. 7–17).
37
Cournot ( 1838 [1971], pp. 18–28).
38
Cournot ( 1838 [1971], p. 24).
39
Cournot ( 1838 [1971], p. 20).
40
Cournot ( 1838 [1971], pp. 25–26).
41
Roy ( 1933 , p. 17).
42
Cournot ( 1838 [1971], pp. 44–55).
445
17 Antoine Augustin Cournot
nor measurement, and it is therefore plain that no algebraic law can encompass the
behavior of prices.
43
Cournot assumes that the demand for a commodity, in the sense of the quantity
of it annually consumed, varies with – is a “function” of – its price. This relation
may be generally written as
44
= (),DFp
(17.1)
where D indicates the demand of a commodity during a given period, a year,
45
in a
given market ,
46
and p the average price of the same commodity during the year. In
this case he considers price as the independent variable, but later in the treatment of
oligopoly he gives the form of the function as p = F ( D ), when the quantity becomes
the independent variable.
47
The relation between price and demand is delineated by
the new familiar “demand curve” which Cournot was the fi rst to introduce.
48
The character of this relation depends on “the kind of utility of the article, on the
nature of the services it can procure, on the habits and customs of the people, on the
average wealth, and on the scale on which wealth is distributed.”
49
Cournot makes another assumption, that of the continuity of the demand func-
tion, from which it follows that there may be a linear approximation to it within
short ranges. “The wider the market extends,” says Cournot, “and the more the com-
bination of needs, of fortunes, or even of caprices, are varied among consumers, the
closer the function F ( p ) will come to varying with p in a continuous, manner.
However, little may be the variation of p , there will be some consumers so placed
that the slight rise or fall of the article will affect their consumptions, and will lead
them to deprive themselves in some way or to reduce their manufacturing output, or
to substitute something else for the article that has grown dearer.”
50
The demand curve is not only downward sloping and continuous; as the price in
the function F ( p ) has been taken to mean the average price during a year, the curve
F ( p ) is “in itself an average off all the curves which would represent this function at
different times of the year.”
51
The demand curve has in general the form and in the
following Fig.
17.1 .
The total revenue pF ( p ) is maximized, when
=
d()
0,
d
pF p
p
(17.2)
43
Cournot ( 1838 [1971], pp. 10, 47). Cf. Vázquez ( 1997 , pp. 126–127).
44
Cournot ( 1838 [1971], pp. 47–48).
45
Cournot ( 1838 [1971], p. 51).
46
Cournot ( 1838 [1971], pp. 51–52), note *Cournot’s book (1971).
47
Theocharis ( 1983 , p. 138).
48
Cournot ( 1838 [1971], Fig. 1 of the Appendix).
49
Cournot ( 1838 [1971], p. 50).
50
Cournot ( 1838 [1971], p. 50).
51
Cournot ( 1838 [1971], p. 52).
446 C.P. Baloglou
or by denoting by F ¢ the differential coeffi cient of function F
+′=() () 0.F p pF p
(17.3)
The additional condition for maximization is
52
+<′′′2() ()0
.
F p pF p
(17.4)
The price oq which maximizes total revenue is found from Fig.
17.1 at such a point
n on the curve anb , such as on = nt , where nt is the portion of the targent to the curve
at the point n , which lies between n and the abscissa.
53
In his discussion on the problem of maximization of the total revenue, Cournot
further elaborate his concept of the elasticity of demand. For, he says, we would
examine by statistical observation what happens to the total revenue pD = pF ( p ), if
there is a small change in price.
If the price becomes p + D p , where D p is a small fraction of p , the annual
consumption would become D − D D . Then if
54
Δ
<
Δ
,
DD
pp
(17.5)
the increase in price will increase the total revenue pF ( p ). The contrary would hap-
pen if
Δ
>
Δ
,
DD
pp
(17.6)
when total revenue would decrease as a result of a rise in price and demand would
be elastic.
It is, therefore, according to Cournot, of importance to know whether “the two
values p and p + D p (assuming D p to be a small fraction of p ) fall above or below the
value which makes the product under consideration a maximum.”
55
Cournot suggests
that “commercial statistics,” as he says, should separate economically important
commodities into two categories in accordance with their demand elasticity or, as he
m
0q
a
n
b
Fig. 17.1 The demand curve
52
Cournot ( 1838 [1971], pp. 53–54).
53
Theocharis ( 1983 , pp. 140–141).
54
Cournot ( 1838 [1971], pp. 53–54).
55
Cournot ( 1838 [1971], p. 54).
447
17 Antoine Augustin Cournot
puts it, “according as their current prices are above or below the value which makes
a maximum of pF ( p ).”
56
As Professor R.D. Theocharis had emphasized, “long
before Marshall himself, he fully elaborated the concept of the Marshallian elasticity
of demand.”
57
Cournot points out that pF ( p ) might have several maxima and pass through
minimum values between, depending on the shape of the demand curve. He proves
that whenever F ″( p ) is negative or when the curve D = F ( p ) “turns its concave side
to the axis of the abiscissas, it is impossible that there should be a minimum, not
more than a maximum. In the contrary case, the existence of several maxima or
minima is not proved to be impossible.”
58
On this question Cournot thinks that in
actual practice, it is improbable that the function pF ( p ) will present such a problem
“inside of the limits between which the value of p can vary.”
59
The question there-
fore is always whether within the limits of the oscillation of p , “the function pF ( p )
is increasing or decreasing for increasing values of p .”
60
Given the law of demand, Cournot fi rst supposes a complete monopoly of the
commodity in question, and shows what price will yield the maximum profi t.
We have already seen that Cournot had given as the condition of maximizing
revenue, where there are no costs:
=
d()
0,
d
pF p
p
(17.7)
which leads to
+′=() () 0.F p pF p
(17.7a)
If there does exist a monopoly, as in the case of the proprietor of a mineral spring
with exclusive salutary properties,
61
he will seek to maximize his revenue by apply-
ing (
17.7a ) above which gives as the maximizing price
=
−′
()
,
()
Fp
p
Fp
(17.8)
and the total revenue of the monopolist is
=
−′
2
()
() .
()
Fp
pF p
Fp
(17.9)
56
Cournot ( 1838 [1971], p. 54).
5 7
Theocharis ( 1983 , p. 142). It was worth to note that William Whewell (1794–1866) had used the
concept of demand elasticity a little earlier than Cournot (Whewell
1829 ) , but there is no indica-
tion that the latter was aware Whewell’s contribution. Theocharis (
1961 , pp. 125–127), Rashid
(
1977 ) .
58
Cournot ( 1838 [1971], p. 55).
59
Cournot ( 1838 [1971], p. 55).
60
Cournot ( 1838 [1971], p. 55).
61
Cournot ( 1838 [1971], p. 56).
448 C.P. Baloglou
Under monopoly, if there are costs, the net receipts to be maximized are
62
−() ( ),pF p Dj
(17.10)
and the maximizing condition is
−=
dd()
0.
dd
pD D
pp
j
(17.11)
=
dd()
.
dd
pD D
pp
j
(17.11a)
The condition is the explicit formulation that the monopolist, the seller of a
unique product, who is eager to maximize his net revenue, will charge a price at
which marginal revenue equal marginal cost.
Cournot gives (
17.11 ) in the form
63
⎛⎞
+− =
⎜⎟
⎝⎠
dd()
0.
dd
DD
Dp
pD
j
(17.12)
Cournot denotes the change in cost in response to a change in quantity as
′=() d()/dDDDjj . He uses the graphical representation to show how the monop-
oly price can be determined when there are costs.
64
Cournot discusses further the effect of the monopoly price of a change in the vari-
ous conditions of costs. He also discusses the effects of taxation on the price which is
established under a monopoly.
65
These results depend on whether the tax is a fi xed tax
or direct levy proportional to the income of the seller (when there will be no effect on
monopoly price or quantity) or whether the tax is a specifi c tax on the commodity
(when there are repercussions as this means an additional cost to the producer).
The Theory of Oligopoly
66
In passing from the study of perfect monopoly to that of perfect competition, Cournot
considers also the intermediate case of a few, say, two, competitors. Cournot’s treatment
62
Cournot 1838 [1971] p. 57.
63
Cournot ( 1838 [1971], p. 57).
64
Cournot ( 1838 [1971], Fig. 5).
65
Cournot ( 1838 [1971], Ch. VI, pp. 67–78).
66
The fi rst use of the term “oligopolium” is in Thomas More’s Utopia (1516), where he had argued
that an increase in the number of sheep might not lend to a fall in their price because, though there
was not “monopolium,” as the sheep did not belong to a single person, there was an “oligopolium”
as the sheep belonged to a few rich people who could afford to wait until they got the desired price.
For the authors who contributed to the theory of oligopoly prior to Cournot cf. Theocharis (
1983 ,
pp. 151–155).
449
17 Antoine Augustin Cournot
of this diffi cult problem is “brilliant and suggestive.”
67
The central supposition is
that each individual will act on the assumption that his rival’s output is constant, and
will survive only to so regulate his own output as to secure the largest profi ts.
Cournot entitles his Chapter VII of the Recherches , in which he discusses the
theory of oligopoly, “Of the competition of producers.” He now imagines two owners
of two springs’ of which the quantities are identical, and which, on account of their
similar positions, supply the same market in competition.
68
As a result of this
assumption there is only one price. He now, defi nes the price p as a function of the
quantity demanded, so that
= ().pFD
(17.13)
The total quantity of sales D will be
=+
12
,DDD
(17.14)
whether
1
D the sales from the spring (1) and
2
D the sales from the spring (2).
If neither of the producers has any costs, the net revenue of the fi rst will be his
sales at the current price,
1
pD and the net revenue of the second will be
2
pD
.
The net revenue of the fi rst will be
=+
1112
(),pD D f D D
(17.15)
and that of the second will be
+
212
().pD F D D
(17.16)
Cournot makes two assumptions, which have great importance for his analysis.
The fi rst is that there is no collusion between the sellers. “ Each of them
independently”underlines Cournot,
69
will seek to make this income as large as pos-
sible”. This is essential, “for if they should come to an agreement as to obtain for
each the greatest possible income, the results would be entirely different, and would
not differ, so far as consumers are concerned, from these obtained in treating of a
monopoly.
70
The second assumption seems to be of the most crucial importance,
because it assumes that either of the sellers seeks to maximize his revenue by assum-
ing that his rival’s quantity will remain unchanged. That leads to the fact that “pro-
prietor” (1) can have no direct infl uence on the determination of
2
D
: all that he can
do, when
2
D has been determined by proprietor (2), is to choose for the value which
is best for him.
71
This assumption is followed by the next sentence where shows that
Cournot did not exclude price adjustments: “This he will be able to accomplish by
properly adjusting his price, except as proprietor (2), who, seeing himself forced to
67
Fisher ( 1898 , p. 126).
68
Cournot ( 1838 [1971], p. 79).
69
Cournot ( 1838 [1971], p. 79) (Italics by Cournot).
70
Cournot ( 1838 [1971], p. 80).
71
Cournot ( 1838 [1971], p. 80).
450 C.P. Baloglou
accept this price and this value of D , may adopt a new value for
2
D , more favorable
to his interest than the preceding one.”
72
The fi rst seller’s revenue will be a maximum, for constant
2
D , when
=+ ′ =
1
1
1
d( )
() 0,
d
Dp
pDfD
D
(17.17)
which may be written as
++′+=
12 1 12
()()0.fD D Df D D
(17.17a)
The second seller’s revenue will be a maximum, for constant
1
D when
=+ ′ =
2
2
2
d( )
() 0,
d
Dp
pDfD
D
(17.18)
which may be written as
++′+=
12 2 12
()()0.fD D Df D D
(17.18a)
Equations (
17.17a ) and ( 17.18a ) form a system of equations,
73
the solution of which
gives
=
12
DD
as “ought to be the case, as the springs are supposed to be similar and
similarly situated.”
74
The addition of (
17.17a ) and ( 17.18a ) leads to
()
++ ′= +
=+ =
12
d
2( ) ( ) 2( )
d
d
20
d
p
fD D D f D fD D
D
p
pD
D
Multiplying
75
this by d/dDp the result can become
76
+=
d
20.
d
D
Dp
p
Cournot uses also the graphical representation to solve this problem.
77
72
Cournot ( 1838 [1971], p. 80).
73
Cournot ( 1838 [1971], p. 81).
74
Cournot ( 1838 [1971], p. 82).
75
Theocharis ( 1983 , p. 221, n. 164).
76
Cournot ( 1838 [1971], p. 82).
77
Cournot ( 1838 [1971], Fig. 2). Cf. Theocharis ( 1983 , pp. 158–159), Magnan de Bornier ( 2001 ,
451
17 Antoine Augustin Cournot
Further Extensions of the Theory of Oligopoly
Passing on the case of “unlimited competition,”
78
Cournot shows that the price is, in
this case, equal to the “marginal cost of production.” Cournot himself does not use
this term nor is any other verbal description of the magnitude involved. He confi nes
himself to mathematical symbolism.
79
If we plot the relation between the product of each individual and his resulting
marginal cost, we have a system of individual supply curves. These may be com-
bined into a single general supply curve, which Cournot uses.
80
He shows that the
intersection of this general supply curve with the general demand curve determines
price. It is signifi cant “of the slow growth of economic science that these graphic
pictures of supply and demand, now in almost universal use in textbook and class-
room” as I. Fisher emphatically wrote,
81
“were ignored or forgotten by Cournot’s
contemporaries, and were only restored in 1870, when independently obtained by
Fleeming Jenkin.” It is worth to note that the German economist Karl Heinrich Rau
(1792–1870) came independently
82
to the same result as Cournot, 3 years later
(1841).
83
In the same chapter Cournot enunciates two other principles which have become
classic; the fi rst one is in regard to the law of diminishing returns,
84
and the second
is that a tax on a commodity subject to “unlimited competition” will raise the price
by an amount less than the tax itself.
85
The Oligopoly of Complementary Goods
Cournot next considers the “mutual relations of producers”
86
or the connections
between complementary materials, such as copper and zinc, which enter jointly into
the production of a composite, such a brass.
87
78
Cournot ( 1838 [1971], Ch. VII, pp. 90–98).
79
Fisher ( 1898 , p. 127).
80
Cournot ( 1838 [1971], Fig. 6).
81
Fisher ( 1898 , p. 127).
82
Rau constructed the graphic representation of the law of demand and supply in 1841. Rau ( 1841a ,
p. 527), Rau (
1841b , pp. 148–151). For the evidence that Rau came independently without
Cournot’s contribution to same result, see Baloglou (
1995 , pp. 160–167).
83
Brandt ( 1968 , pp. 90–91), Homberg ( 1971 , pp. 97–100), Hennings ( 1979 , pp. 1–14), Theocharis
(
1993 , pp. 150–153), Baloglou ( 1995 , Ch. 4), Vázquez ( 2002 ) .
84
Cournot ( 1838 [1971], p. 91).
85
Cournot ( 1838 [1971], p. 93): in all cases the rise in price will be less than the increase in cost
(Italics by Cournot).
86
Cournot ( 1838 [1971], Ch. IX, pp. 99–116).
87
Cournot ( 1838 [1971], p. 100).
452 C.P. Baloglou
Cournot assumes that there are two factors: (a) and (b), “which have no other use
beyond that of being jointly consumed in the production of the composite commod-
ity (ab).”
88
It is also assumed that there are no additional costs involved in the pro-
duction of (ab), except for the reward of the two factors, which is paid to their
owners. It is further assumed that the production of each factor costs nothing to its
owner. Cournot assumes further that the two factors are used in the manufacture of
the commodity in a fi xed proportion
12
:: :mm “and
12
:mm
the proportion of cop-
per to zinc in the brass,” as Cournot says.
89
This assumption leads to the equation
=+
11 2 2
,pmp mp
where p
1
is the factor of the price of the factor (a) and p
2
of the factor (b).
The quantity of the commodity demanded at price p is given by the demand
function.
== +
11 2 2
() ( ).DFp Fmp mp
If we suppose each of these to be handled by a monopolist, and “if we apply to the
theory of the mutual relations of producers the same method of reasoning which
served for analyzing the effects of competition,”
90
the condition of the maximization
of the seller’s revenue are
==
11 2 2
12
d( ) d( )
0 and 0.
dd
pD pD
pp
The development of these equation leads to the system.
91
++ +=
11 2 2 11 11 2 2
()()0.Fmp mp mpFmp mp
++ +=
11 22 22 11 22
()()0.Fmp mp mpFmp mp
The solution of the above system gives as a result that the price of each will in
equilibrium be such that the profi ts of the two sellers are equal
==
11 2 2
1
.
2
mp mp p
88
Cournot ( 1838 [1971], p. 99).
89
Cournot ( 1838 [1971], p. 100).
90
Cournot ( 1838 [1971], p. 100–101).
91
Cournot ( 1838 [1971], p. 101).
453
17 Antoine Augustin Cournot
The equilibrium price of the fi rst will be equal to
=
1
1
,
2
p
p
m
and the equilibrium price of the second seller will be
=
2
2
.
2
p
p
m
The addition of the equations of the above system gives
+′=
1
() () 0,
2
F p pF p
which leads to
=−
′
1()
.
2()
Fp
p
Fp
“The composite commodity,” writes “Cournot,”
92
“will always be made more expensive,
by reason of separation of interests than by reason of the fusion of monopolies. An
association of monopolists, working for their own interest, in this instance will also
work for the interest of the consumers, which is exactly the opposite of what happens
with competing producers.” That is, in the case of complementary commodities, it is
better for the consumer to be at the mercy of one of monopolist than two.
A levy of a tax on one of the two component commodities will raise the price of that
commodity and of the composite commodity, but will lower the price of the other
component.
93
The Theory of Social Income
The solution of the problem of price determination was affected by Cournot under
ceteris paribus conditions, which included the condition that incomes remain
unchanged. But Cournot felt that this was only an approximation and that the ideal
thing would be “to take the entire system into consideration.”
94
This, he estimates
92
Cournot ( 1838 [1971], p. 103).
93
Cournot ( 1838 [1971], pp. 112–116).
94
Cournot ( 1838 [1971], p. 127).
454 C.P. Baloglou
beyond the powers of mathematical analysis and he chooses to make another
approximation and investigate how changes in prices of consumer’s goods directly
affect individual incomes and by implication the national income.
95
Cournot defi nes social income
96
or national income
97
as “the sum total of indi-
vidual incomes, of rents, of profi ts and of wages of every kind, in the whole extent
of the national territory
98
and it includes ‘the annual amount of the stipends by
means of which individuals or the state sustain those classes of men which eco-
nomic writers have characterized as unproductive, because the product of their labor
is not anything or salable.’”
99
Let us D denote the entire consumption of a “commodity for consumption” and
p the price, “the product pD will express the sum to the extent of which this com-
modity co-operates in making up the social income.”
100
If
00
pD
be the value of this
product at one time, and
11
pD at another, the difference between them,
−
00 11
pD pD
expresses the diminution of social income. This diminution occurs in the incomes
of the various persons contributing to the production of the commodity in question;
and Cournot argues that the incomes of all other persons may be considered
unchanged, for perturbations in the prices of other commodities are apt to occur as
much in one direction as in the other.
101
According to this reckoning, a dearth of a necessity of life may cause an increase
of social income if the price rises faster than the quantity consumed falls. To over-
come this diffi culty, Cournot distinguishes between the “nominal” reduction of
income
−
00 11
pD pD and a real reduction of income. He attempts to describe this
real reduction of income without describing any “real income.” The real reduction
is found by taking into account the sacrifi ces that consumers of the commodity suf-
fer in paying higher prices. Although it was already shown that the incomes of
consumers, as a whole, may be considered as unchanged, still those who continue
to buy after the price has risen have to pay the rise
−
10
pp on their purchase D , thus
expending
−
101
(),ppD
more income for precisely the same return. Hence they “are really in just the same
situation as to fortune as if the commodity had not risen and their incomes had been
diminished by
−
101
()ppD
. ”
102
Adding this loss of income for consumers to the loss
already shown for producers
95
Theocharis ( 1983 , p. 182).
96
Cournot ( 1838 [1971], p. 128).
97
Cournot ( 1838 [1971], p. 150).
98
Cournot ( 1838 [1971], p. 150).
99
Cournot ( 1838 [1971], p. 128).
100
Cournot ( 1838 [1971], p. 128).
101
Cournot ( 1838 [1971], pp. 129–132).
102
Cournot ( 1838 [1971], p. 134).
455
17 Antoine Augustin Cournot
−
00 11
.pD pD
Cournot obtains
−
00 1
(),pD D
as the total real loss.
103
He confesses, however, that, even with this amendment, he
has not taken account of the loss to consumers who have ceased to buy the com-
modity because of the increased price, or of part of the loss to those who do buy,
but buy less. He pleads in extenuation of this omission: “But this kind of damage
cannot be estimated numerically [….]. Here comes in one of those relations of size
which numbers can indicate, indeed, but cannot measure.”
104
Edgeworth remarks at
this point, that if Cournot had reached the conception of “consumers’ rent,” he
would have seen that numbers can measures as well as indicate the damage in
question.
105
The Theory of International Trade
Cournot’s contribution to the theory of international trade is elaborated in the last
chapter of the Recherches entitled “Of the variations in the social income, resulting
from the communication of markets.”
106
The target of this chapter according to
Cournot, is to prove “how commerce between two markets[….] causes the value of
the social income to vary, as well in the importing as in the exporting market.”
107
It
is worth to note that, like in previous chapters, he again introduces losses and profi ts
of the various involved agents.
108
Thus, Allais appears fully justifi ed when he affi rms:
“Augustin Cournot should be credited with the merit of having introduced the con-
cept of loss in economy (…) in 1838, i.e., 6 years before the fi rst article of Dupuit,
and of having approached the calculation of the fi rst differential in simple cases.”
109
His analysis of the effects of international trade consists of three parts. In the fi rst
he develops a “highly ingenious,”
110
theory of foreign exchanges
111
the second deals
with the effects of trade between markets, which were previously isolated, on
103
Cournot ( 1838 [1971], p. 134).
104
Cournot ( 1838 [1971], p. 134).
105
Edgeworth ( 1898 , p. 628). Cf. Fisher ( 1898 , p. 132).
106
Cournot ( 1838 [1971], Ch. XII, pp. 150–171).
107
Cournot ( 1838 [1971], p. 150).
108
Alcouffe ( 2002 , p. 10).
109
Allais ( 1981 , p. 168), quoted in Alcouffe ( 2002 , p. 10).
110
Edgeworth ( 1925 , p. 446).
111
Cournot ( 1838 [1971], pp. 151–155).
456 C.P. Baloglou
prices.
112
Finally, the third part seeks to apply Cournot’s ideas about social income
and its variations to the theory of international trade.
113
It is this chapter that had had the most negative critiques. The fi rst critique was
made by Karl Heinrich Hagen (1785–1856), a professor of Political Science and
Economics at the University of Königsberg, in a booklet entitled Die Nothwendigkeit
der Handelsfreiheit für das Nationaleinkommen, mathematisch nachgewiesen ,
114
the professed aim which was to demonstrate, through the use of mathematical anal-
ysis, the necessity for free trade. In its concluding part Hagen
115
acknowledged that
he had been led to his demonstration through the study of Cournot’s Recherches and
discussed the latter’s treatment of the effects of international trade on social income.
With the aid of a very crude analysis of the relation between price, quantity
demanded, and costs, Hagen was led to an “importation” and an “exportation” for-
mula, which according to him would express the national income effects of interna-
tional trade.
116
Cournot himself had already employed an approach similar to that
used by Hagen in order to analyze the effects of international trade or national
income, through its effects on prices and quantities produced or consumed, that, is
on gross revenue.
117
One criticism leveled by Hagen against Cournot’s treatment
concerned the latter’s use of gross revenue for measuring national income, without
taking costs into account.
118
He also criticized the fact, that Cournot had failed to
take into account in examining national income effects the fact that, when a branch
reduced its activity, the funds previously employed by it would fl ow to other activi-
ties, and the contrary would happen when a branch expanded.
119
Cournot himself attempted later in his Principes
120
to answer Hagen’s criticism.
He argued that through his “principle of compensation of demands” he had taken
into account “in the appreciation of average results, of the transfer of funds
withdrawn from the demand of article A, to the demand of articles E, F….”
121
But
to the observation of Hagen that the increase in the production of a branch can come
about only at the expense of other branches, he concedes that “there may be circum-
stances when an industry will not be able thus to develop except at the expense of
another.”
122
112
Cournot ( 1838 [1971], pp. 155–160).
113
Cournot ( 1838 [1971], pp. 161–171). For an extensive analysis of Cournot’s theory of international
trade, see Theocharis (
1983 , pp. 185–194), Baloglou ( 1995 , pp. 111–118).
114
Hagen ( 1844 ) . On Hagen’s critique see Theocharis ( 1983 , p. 196, 1990 , p. 924), Baloglou ( 1995 ,
pp. 128–129).
115
Hagen ( 1844 , pp. 30–32).
116
Hagen ( 1844 , pp. 11, 13). Cf. Theocharis ( 1993 , pp. 170–172), Baloglou ( 1995 , pp. 119–124).
117
Cournot ( 1838 [1971], pp. 150–171), Theocharis ( 1983 , pp. 191–199).
118
Hagen ( 1844 , p. 31), Theocharis ( 1983 , pp. 196, 231).
119
Hagen ( 1844 , p. 31).
120
Cournot ( 1863 [1981]).
121
Cournot ( 1863 , p. 212), quoted by Theocharis ( 1990 , p. 924).
122
Cournot ( 1863 , p. 213).
457
17 Antoine Augustin Cournot
The main criticism that could be leveled against Cournot’s and Hagen’s analysis
123
is that their discussion of the effects of international trade is carried in a partial
equilibrium context.
Cournot in 1863
In 1863, 25 years after the publication of his Recherches , A. Cournot published his
second economic work, the Principes de la théorie des richesses.
124
Deeply disap-
pointed that his fi rst work had not gained the recognition it deserved, he felt that
what had gone wrong had been his use of the mathematical method. He declared in
his work, that “I would like to see today whether I have erred basically in my ideas
or only formally; and for this purpose I have again taken up my work of 1838 by
correcting it, by developing it where the developments were missing, by complet-
ing it in those points which I had obtained from touching, and above all by abso-
lutely stripping it of the algebraic apparatus which scares so much in these
matters.”
125
Cournot considered that his Principes were his way of appealing against the
sentence of non-appreciation imposed on his Recherches . “Since,” he wrote,
126
“it
has taken me 25 years to appeal against the fi rst sentence, it goes without question
that I do not intend, whatever may happen, to use another way of appeal. If I lose
my case a second time, the only consolation left for me will be that the judgment,
which condemns them, will be quashed 1 day in the interest of the law, that is, the
truth.”
It should be noted that, despite the above declaration of his intentions, 14 years
later he published the nonmathematical Revue Sommaire des Doctrines
Économiques ,
127
which was his fi nal attempt to reach the ever elusive goal of wider
recognition.
Whereas, the Recherches did not provoke any reaction among the French circle
of economists, the Principes were immediately commented by various authors, who
did not share the same views on political economy: liberals such as Roger de
Fontenay (1863), actuaries such as Chauveau (1864), and even the young Walras
(1863).
128
Behind the Principes, their observations were mainly dedicated to the
Recherches . Thanks to the Principes , Cournot’s major economic work, the
Recherches came to be recognized by several members of the French economic
community a quarter of century after its publication. Unfortunately, however, this
123
Theocharis ( 1983 , pp. 138–139).
124
Cournot ( 1863 [1981]).
125
Cournot ( 1863 , p. II).
126
Cournot ( 1863 , p. II).
127
Cournot ( 1877 [1968]).
128
All these reviews have been reprinted in Cournot ( 1982 ) .
458 C.P. Baloglou
late interest of the Recherches was overcompensated by a lack of sympathy, rapidly
transformed into a total loss of interest in the Principes . In his last publication,
Cournot summarized the situation in the following skeptical words:
Mais voyez mon guignon. Si je gagnais un peu tard sans m’en être
mêlé mon procès de 1838, je perdais mon procès de 1863 si l’on
voulait bien faire rétrospectivement quelque cas de mon algèbre,
me prose (j’ai honte à le dire) n’ obtenait pas chez le libraire un
meilleur succès.
129
According to a long and still dominant tradition, the Principes would be only a pale
translation in words of the mathematical content of the Recherches for strategic
considerations of communications. More recently, a careful reading of the Principes
leads to an opposite appreciation: Cournot would have changed his ideas on eco-
nomics from the Recherches to the Principes , in their substance as well as in their
methods .
130
It is worth to note that the Principes had been received by Léon Walras, who as a
student had become acquantainted with Cournot’s Recherches . Walras underlined
Cournot’s contribution to introduce the mathematical method and emphasized them.
In the Preface of the Principes , Cournot underlined the continuity between the
Principes and the Recherches . Several chapters of the Principes concerning the Law
of Demand (Chapter VI), Monopoly and Competition (Chapter VII, Book 1), the
Communication of the Markets (Chapter IV, book II), and the Social Revenue
(Chapter V, Book II), are directly derived from the Recherches . On the other hand,
Book II of the Principes entirely devoted to a criticism of economic optimism is
quite new. The main argument in favor of a discontinuity is provided by the many
digressions extracted from the philosophical Traité de l’ enchaînement des idées
fondamentales dans la science et dans l’ histoire incorporated by Cournot in the
Principes . As, for example, Cournot made a distinction between an absolute and a
relative Maximum (or Minimum) and contest the possibility of an optimum, because
of our limited knowledge of the economic order. Such views, which do not appear
in the Recherches , reutilize previous developments on the same topic in the Traité
de l’enchaînement des idées . Going through philosophy Cournot offered an opportunity
for new insights into economics.
131
Fact that Cournot “linked with an attempt to apply mathematics to Political
Economy, a serious and honourable attempt, the fi rst and only one of its kind which
has been made, and about which it is impossible for us not to say a word, because it
is of interest to a high degree for the future of Political Economy.” Referring to the
Principes , Walras expressed his disappointment at the abandonment of the mathe-
matical method. He felt that if Cournot had chosen the course “of renewing his
economic principles in order to apply again to the mathematical analysis” there
might at last result, “if not a complete and defi nitive theory of change and of social
129
Cournot ( 1877 , p. 111).
130
Ménard ( 1978 ) , Vatin ( 1998 ) .
131
Jaffé ( 1935 ) in Walker 1983 p. 18.
459
17 Antoine Augustin Cournot
wealth, at least a new and precious chapter of pure political economy.” Instead
Cournot had rejected the original and fruitful mathematical element of his 1838
work, while he had retained and excessively developed its economic part.
132
A second lengthy review of the Principes was published in 1864 by Roger de
Fontenay (1809–1891), a graduate of the École Polytechnique and editor of F. Bastiat’s
works.
The reviewer started his essay by referring to Cournot’s preface in the Principes
where that author had explained why he had decided to present again the ideas of his
original work of 1838 without the mathematical apparatus. Cournot had written in that
preface that he had been wondering whether the failure of his Recherches had been
due to basic errors in the ideas contained in that book or only in the form used. Fontenay
expressed the opinion that the economic content in both of Cournot’s books has not
been quite up to the mark, as it was incomplete and sometimes wrong. Since he [sc.
Cournot] has been able, as he says himself, to recast, correct, and even complete the
fi rst essay, said Fontenay, “by stripping it completely of the algebrical form, the ordi-
nary economist appears to me to be entitled, up to a certain degree, to tell, him: Why
have you amused yourself to talk to us in scary hieroglyphics, since you could present
all this to us, and even better than this, in simple French prose and without algebra!”
According to de Fontenay, the algebraic process may either depart from precise
and defi nes relations in order to arrive at numerical results and applications – this
he calls the “triumphant” algebra; or, this process may involve the operation on
vague formulas expressing relations, which are not reducible to numbers, in order to
derive from them other theoretical forms and general laws – this he calls the “militant”
algebra “of research, of progression and of theory.” It was the second kind of alge-
bra that Cournot chose to use in his Recherches by introducing functions of an
indefi nite nature and using the differential and integral calculus.
De Fontanay was a defender of the use of the mathematical method in economics.
Algebraic analysis is a tool. It is “without doubt, the most powerful and the most
extraordinary instrument of reasoning and investigation which the human genius
has invented,” and it was natural and absolutely justifi ed for the able mathematicians
to seek to apply their method to every science whose stage of development had
reached a point where such application appeared feasible.
I t is worth to note that de Fontanay recognized the disadvantages of the use of
mathematics. First, there is the need of constantly seeking verifi cation of the results
obtained through this method. More important though is the limited scope and the
uncertain nature of the results obtained. The application of the mathematical method
requires right from the start the precise defi nition of all the initial data of the prob-
lem; it requires what we would today call the introduction of a model. This leads to
the adoption of various devices, of subsidiary or simplifying assumptions etc. All
these affect the result in such a way that in most cases the fi nal conclusions reached
are nothing else “but formulas which apply only to exceptional cases.”
The most serious objection, according to de Fontanay, against the mathematical
method is the fact that its very precision may be a serious handicap when it is applied
132
Theocharis ( 1993 , pp. 234–235).
460 C.P. Baloglou
to sciences which have not yet been fully developed. In order to use mathematical
analysis in such cases and in view of the inadequacy of the available data, one may
either decide to make arbitrary assumptions, which would lead to uncertain and
faulty results; or one may use only evident and incontestable, but inadequate, data,
in which ease his base would be so thin as to lead to insignifi cant or null results.
It was the time when the economic science had not been fully developed at the
time of writing the Recherches that, according to de Fontenay, Cournot’s intro-
duction of the mathematical method, despite its merits, could not be successful.
“A political economy is not yet a nature and made up science in any of its part and
as it was infi nitely less in 1838,” commented de Fontanay, “we must not be surprised
that despite all his talent as dialectician and algebraist, M. Cournot has only arrived
at results which are very mediocre from the point of view of economic interest, and
which are sometimes more than questionable, as far as exactitude is concerned.”
The reviewer emphasized and underlined the merits of the work, although he
objects the acceptance of the Ricardian doctrine and Cournot’s treatment on interna-
tional trade. According therefore to de Fontenay “the important and capital thing is
… the attempt made to give to political economy a mathematical foundation,” which,
as he said, explains why he devoted the major part of his review to the work of 1838
and not to the Principes of 1863. As far as the Principes concerns, he observed that
it is the Recherches deprived of the conciseness and generality of its mathematics;
and the second, which is interwoven with the fi rst, is a presentation of ideas funda-
mental in the sciences and in history. The reviewer mentioned that Cournot intro-
duced in Principes the concept of “economic equivalents,” in the sense that such
equivalents produce the same amounts of product. De Fontenay criticized Cournot’s
views regarding the effects of the introduction of machinery on the employment of
workers. He also criticized Cournot’s thought in the Principes against the system of
economic freedom and its effi cacy to obtain the optimum results from the point of
view of human happiness. He even accused Cournot of not believing in the principle
of economic liberty and in the ability of the economic system to self-adjust satisfac-
torily, as that author rejected both the existence of an organic economic harmony
and the possibility of a mechanical adjustment of economic interests.
133
Conclusion
A. A. Cournot’s Recherches sur les Principes mathématiques de la théorie des
richesses , which appeared in 1838, is the fi rst consistent and systematic application of
mathematical analysis, not simply to a single problem but to a number of topics – and
this differentiates that book from earlier contributions to mathematical economics.
134
133
This part is based on Theocharis’ treatment. See Theocharis ( 1993 , pp. 235–240).
134
For a detailed analysis of the contributions of the authors to the mathematical economics prior
to Cournot (
1838 ) , see Moret ( 1915 , pp. 64–78), Weinberger (1930 , pp. 36–42), Robertson ( 1949 ,
pp. 523–536), Reichardt (
1954 , pp. 67–69), Bousquet ( 1958 ) , Theocharis ( 1961 ) . On the German
authors prior Cournot see especially Homberg (
1971 ) , Baloglou ( 1995 , pp. 29–53), Baloglou ( 2003 ,
pp. 127–134), Vázquez (
2006 , pp. 533–541).
461
17 Antoine Augustin Cournot
Cournot’s book has the dual distinction of being the fi rst economic treatise where,
on the one hand, the calculus has been applied consistently and successfully through-
out and, on the other hand, diagrams have been used extensively as an accepted
form of exposition and analysis. The same can be said for Gossen’s book.
Cournot is also the fi rst author to put in clear mathematical terms the notion, that,
ceteris paribus, the quantity demanded and the prices are functionally related; and
to develop the concept of elasticity of demand long before Alfred Marshall. In dis-
cussing the conditions of supply, he introduces the idea of total and marginal cost
and points out that under free competition the condition of equilibrium for the indi-
vidual producer is the equalization of his price to his marginal cost.
Cournot determines, both analytically and graphically and under conditions of
free competition, the static partial equilibrium of price, at the point where the total
quantity demanded equals the total quantity supplied. He was the fi rst to show that
monopoly price would be fi xed at the point where marginal cost equals marginal
receipts and net revenue is a maximum. Cournot’s approach to monopoly is very
much alive today.
We have to underline that Cournot’s contribution to the theory of oligopoly sur-
vives to the present day and it is truth, as R.D. Theocharis
135
has pointed out that
“every author who has dealt with the problem of oligopoly price determination since
the appearance of the Recherches , has not escaped the temptation to comment upon
Cournot’s solution, either critically or favourably.”
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465
JG B kh ( d) HdbkfhHi fE iTh h
The general idea among contemporary university-trained economists (“cutes”) of
what Léon Walras (1834–1910) has contributed to analytical economics may be
summarised in modern notation as follows: Let a system of equations be given:
e ( p ) = 0 , where the symbol p denotes an n -dimensional vector of prices of goods
brought to the market and e is a vector-valued function of the prices representing the
n excess demands in the market for the goods. The equation expresses market
equilibrium and the generally accepted view seems to be that there is a so-called
auctioneer who takes care that such an equilibrium will occur. To that end, he, the
auctioneer, announces an initial vector p ¢ of prices. The people who bring the goods
to the market in order to exchange (part of) them for other goods react on these
initial prices by establishing certain quantities of goods demanded or supplied. The
auctioneer aggregates all this into a vector e ( p ¢ ) of excess demands. If this vector of
excess demands is not a vector of zeroes only, then no trading takes place and the
auctioneer announces another price vector p″ by increasing somehow in p ¢ all prices
of goods with a positive excess demand and by decreasing those with a negative
excess demand. The function e has such properties that the new excess demand
e ( p ″) will be closer to zero than e ( p ¢ ). If there would not yet be equilibrium at prices
p ″, the auctioneer announces other price vectors p ¢ ″, p
iv
, …, until eventually a vector
p * is obtained with e ( p *) = 0 . Then trade will take place, at prices p *. The process
of groping from the arbitrary initial price vector p ¢ to the equilibrium vector p * is
known as Walras’s tâtonnement process. Below we shall see that there is much more
to say on tâtonnement. Let us already now point out that Léon Walras himself never
made use of the fi ction auctioneer.
All standard mainstream textbooks deal with the essence of this system; sometimes,
a word on production in Walras’s work is added. The standard general perception is
J.A.H. Maks ()
School of Business and Economics , Department of Economics, Maastricht University,
P.O. Box 616, 6200 MD Maastricht , The Netherlands
e-mail: h.maks@maastrichtuniversity.nl
Chapter 18
Léon Walras: What Cutes Know and What
They Should Know
J.A. Hans Maks and Jan van Daal
466 J.A.H. Maks and J. van Daal
that he ignores, among other things, capital, savings and money and that any
allusion to dynamics is lacking. A possible explanation for this situation might be
the publication, in the fi fties of the last century, of Gerard Debreu’s Theory of Value
(
1959 ) . In this infl uential book, and in preceding articles, general conditions for the
existence of a (unique) general economic equilibrium are presented in an elegant
and modern mathematical way. In fact, however, Theory of Value is restricted to a
model with exchange and production only. Since then, textbooks confi ne themselves
mainly to reproduce general economic equilibrium theory more or less rigorously in
this narrow setting. In the last decades, however, there is a growing awareness that
Walras contributed much more than is generally recognised and that the problems
he was concerned with are still vital issues for contemporary economists. In this
paper, we want to substantiate this.
In the next section, a short sketch of Walras’s life will be presented. This small
biography already makes the indefensibleness of the above narrow view apparent.
Then outlines of his various contributions to the several domains of economic sci-
ence follow: pure economics (§§ 3–7) and applied and social economics (§§ 8–11).
Some secondary literature on Walras will pass the review in § 12. We end with a few
concluding remarks (§ 13).
Some Biographic and Bibliographic Facts
Léon Walras was born in 1834 in Évreux (Normandy).
1
In about 1854, he went to
Paris where he became a student at the École des Mines. Largely due to his father’s
infl uence, he was greatly interested in what was called the “Social Question”, that is
the misery of the poor, and the problem of how to alleviate their situation. This and
his Bohemian temperament made him hardly fi t for the mining business. The conse-
quence was that he was a student only in name. It seems that as such he did not pro-
duce any papers. Instead, he felt a calling to become a man of letters. He thought this
was the best way to put himself at the service of the Social Question. Indeed, by 1858
he had written a novel, entitled Francis Sauveur (with a long introduction on the
Social Question), a short story and much more prose expressing his social ideas. The
reaction of the public outside Walras’s own circle was not, to put it mildly, encourag-
ing, so that making a living out of these activities did not seem to be very hopeful.
The reaction of his father, the economist Antoine-Auguste Walras (1801–1866),
an able literary man himself, was severe, but not altogether negative. On the one
hand, Auguste judged his son unfi t for literature: Léon should not go on. Accordingly,
he stopped paying for his son’s university training. On the other hand, however, he
1
Walras’s great-grandfather was born in Arcen in the Southern part of The Netherlands, under the
name Andraeas Walravens and migrated to the South of France. His son became a kind of lower
magistrate in the city of Montpellier. In between, the name was shortened into Walras. Because of the
Dutch origin of the name, the s in Walras has to be pronounced (see Walras
1965 , Letter 999).
467
18 Léon Walras: What Cutes Know and What They Should Know
respected Léon’s aspiration to contribute to the solution of the Social Question.
Therefore, he suggested that his son should set up a career as a publicist on economic
matters. With his father’s help, Léon found a job as a kind of junior editor of the
Journal des économistes . Furthermore, and that was most substantial, Auguste put
his library and his vast collection of unpublished writings at his son’s disposal, after
which the two started a comprehensive and broad correspondence on economic
matters. This provided Léon with a large number of subjects and ideas.
For Léon Walras, twelve hard, laborious and studious years in Paris followed.
From the very beginning, he was a prolifi c writer and moreover, he was active on
many other fronts. During this period, he wrote more than 80 books, articles, bro-
chures and other papers altogether (Walker
1987b ) . Nevertheless, it was diffi cult to
earn a living. His employers were not always happy with the ideas expressed in his
writings and so he was often obliged to look for another occupation. There were
several failures and only a few successes. One of these successes, however, was
decisive for the rest of his career. In 1860, he participated in a conference on taxation
in Lausanne, where he attracted some attention. There he encountered a young
Swiss lawyer, Louis Ruchonnet. They became friends and met several times after-
wards. Ruchonnet’s career developed successfully and by 1870, he had risen to the
function of chief of the department of education of the Swiss Canton Vaud. In that
quality, he was responsible for the reorganisation of the Académie de Lausanne and
this led him to suggest that Léon Walras should apply for the new professorship of
economics. Indeed, Walras was nominated, although he had no academic degrees
and in spite of the fact that he did not make a secret of his interest in the Social
Question, which made him simply a socialist in many people’s eyes but not in his
own. The run up to the professorship was, therefore, not a walkover. Three of the
seven members of the Nomination Committee eventually considered his allegedly
socialist ideas as insurmountable for the function. Some of the other members hesi-
tated, too. Consequently, he was in fi rst instance nominated for 1 year only, with the
lowest possible majority of the committee. On December 16th, 1870, his 36th birthday,
he started his lectures in Lausanne. Ruchonnet, however, stood squarely behind
Walras. To people who know the working of the university system, then and now, it
was therefore not very surprising that 1 year later Walras obtained his tenure. He
lectured until 1892; then he retired because of serious health problems. He continued
his research until about 1900 and died in 1910.
Léon Walras was a dutiful lecturer. He wrote out all his lessons in full (see Walras
1996 ) . His oral presentation, however, does not seem to have been brilliant, to say the
least. His political ideas did not gain him distinction, either. It is his research that has
made him famous, especially on general economic equilibrium, as we shall see
below. It should not be forgotten that the Social Question was thereby the leitmotiv.
Auguste Walras’s main message to his son was that if one wants to raise people,
and in particular those in misery, to more favourable conditions, then one must fi rst
study their economic circumstances. Léon apparently believed it was necessary, to
devise a theoretical economic framework in which each person, or at least each fam-
ily, is considered an individual entity because the happiness of every person counts.
Walras did so in his pure theory. This part of his research is well known and his fame
468 J.A.H. Maks and J. van Daal
rests on it. It is set out in his Éléments d’économie politique pure, ou théorie de la
richesse sociale (fi rst edition, in two instalments, 1874–1877). In the Éléments , he
presented his theory of the utility maximising consumer and that of general
economic equilibrium under the regime of free competition, the former being the
ferment to the latter. The book was to be the basis for his further work on applied
and social economics. Walras’s intention was to deal with these two topics in two
other broad, systematic treatises.
As so many fi rst-generation academic economists, Walras felt (and indeed was)
obliged to provide an overall picture of the whole fi eld. Starting with pure theory,
however, he ran out of time (and his health deteriorated). So he did not succeed in
completing the other treatises envisaged. Instead, he consolidated the bulk of his
other research in two volumes, entitled Études d’économie sociale (Walras
1896 )
and Études d’économie politique appliquée (1898). Both volumes consist of papers
already existing. In this form, they could not compete with the Éléments d’économie
politique pure and, therefore, the latter book received more attention. The four edi-
tions of the Éléments and the two Études contain the essence of Walras’s work.
2
Free Competition and Laisser Faire
For Léon Walras, the basic economic phenomenon was exchange of scarce, useful
goods between freely competing parties. Therefore, he saw as his basic task the
explanation of ratios of exchange, i.e. prices. Consequently, neither the Robinson
Crusoe economy, nor the two-goods-two-exchangers economy was an appropriate
starting point for his analysis. His assumption of free competition may look, indeed,
more reasonable if each good or service would be offered and demanded by at least
two persons, in other words, a group. Free competition means, according to Walras,
that demanders and suppliers of goods and services are free to engage in processes
of higgling and haggling in the markets, which will equalise supply and demand of
these goods and services, and that entrepreneurs are free to enter into or withdraw
from all branches of industry to seek benefi ts or to evade losses. All these activities
take place simultaneously and infl uence each other. Free competition, Walras says,
is a self-regulating mechanism that brings about equilibrium in the markets at unique
prices per good or service, and equality of selling prices to cost prices in all the
branches of industry. Walras was interested, as we shall see, both in the fi nal result
of free competition, i.e. the equilibrium situation, and the process of bringing about
2
After the fi rst edition of the Éléments , three revised editions followed, in 1889, 1896 and 1900.
Walras did not live to see in print the revisions he made after the fourth edition. These appeared in the
posthumous, fi fth edition of 1926. An English translation, by William Jaffé, of the latter edition
appeared in 1954. From 1987 onwards, the “Centre Auguste et Léon Walras”, Lyon, republished
(with Economica, Paris) Léon Walras’s complete works in nine volumes as part of the fourteen vol-
umes of AUGUSTE AND LÉON WALRAS, ŒUVRES ÉCONOMIQUES COMPLÈTES , completed
in 2005. See also the Walras bibliography in Walker 1987, where 239 titles are mentioned.
469
18 Léon Walras: What Cutes Know and What They Should Know
this equilibrium, i.e. what actually happens in the markets. Furthermore, he wanted
to be able to study these two aspects of free competition separately.
The question rises:
“Was Léon Walras a partisan of unlimited free competition?”
The answer should be “No, absolutely not!” At the very fi rst page of his very fi rst
analytical publication on the subject (a paper presented at a meeting of Parisian col-
leagues in 1873), Walras makes his position clear (see Walras
1874a, b, 1987 : 262).
He wants to study theoretically the phenomena of production and exchange of goods
and services “under the regime of the most free competition, the most absolute lais-
ser faire, laisser passer , abstraction made from any consideration of interest or
justice”. However, he continues: “I am absolutely not saying [that I am doing this]
because free competition would be more useful or more equitable, but I only want
to know what would happen”.
Laisser faire, laisser passer , i.e. free competition under all circumstances, was
the order of the day among “les économistes” at that time, whereas the “socialists”
abhorred it. Both groups restricted themselves to slogan mongering, instead of
underpinning their opinions with sound arguments. Here, Walras saw a task. He
compared himself with a medical researcher who tries to learn everything about a
certain drug, not because he wants it to be used under all circumstances, but in order
to know, as a doctor, when to prescribe it and when not.
3
Therefore, Walras set out
to fi nd conditions for and consequences of free competition. This became the core
of his pure theory. However, he was quite aware of the existence of alternatives and
of the need to study their effects. Below, we shall sketch his analysis of monopoly
and his remedy of its unwanted effects. But now we will turn to Walras’ analysis of
general economic equilibrium in a period.
General Economic Equilibrium in a Period:
Temporary Equilibrium
To make things more comprehensible, Walras stylised the economic process as a
sequence of periods of time where production and trade per period take place deter-
mined by the working of a carefully devised mathematical model. Walras wrote, as it
were, a spectacle of economic activities approaching a situation of free competition as
3
Walras expressed it as follows in a letter to W. Lexis du 17 mars 1883 (Walras 1965 , letter 548):
(....) il m’a semblé que vous me considériez comme un partisan de la libre concurrence absolue
(en raison de ce fait que j’étudie très attentivement et très minutieusement les effets de la libre
concurrence). Quoi qu’il en soit, je tiens à vous faire savoir que, tout au contraire, c’est plutôt le
désir de repousser les applications mal fondées et inintelligibles de la libre concurrence, faites
par des économistes orthodoxes qui m’a conduit à l’étude de la libre concurrence en matière
d’échange et de production. Un médecin qui aurait analysé dans le dernier détail les effets
physiologiques d’une substance serait à la fois, par ce fait, très partisan de son emploi dans
certains cas et très opposé à cet emploi dans certains autres cas. Telle est ma position (…).
470 J.A.H. Maks and J. van Daal
accurately as possible. He did this for two reasons. First, he hoped to gain more insight
into the working of the economic world of his time. Second, he hoped to obtain a theo-
retical basis for social reform. The analogy with a play or, if one wishes so, a drama,
goes further. The “acts” are the periods and they consist of various scenes, as we shall
see. The accessories, i.e. the stage properties, are the goods and services and their
prices, including wages and the rate of interest. The actors are the people in the roles
of consumers with their preferences of the period in question, producers with the tech-
nology of that period, capitalists with the stocks of that period and entrepreneurs.
At the outset of the period under consideration, both individual quantities of
capital and the parameters of the model are given: technology in the form of the
production coeffi cients and preferences of the consumers in the form of utility functions.
Moreover, the composition and size of the population are considered as given. All
these data are assumed to remain fi xed during the period. Then the “play” starts with
the fi rst “act”, i.e. the fi rst period. There will be a break at its end, when the concern-
ing period’s equilibrium is reached. Endogenously determined quantities of newly
constructed capital goods result to be used in the next period. Together with what
remains of the existing capital goods and with the (possibly changed) exogenous
variables, they form the initial conditions for the next period, the second act. A new
equilibrium emerges and this goes on in subsequent periods. Apparently, capital
endogenously transfers wealth from period to period.
Like his father, Walras made a distinction between consumption goods and
capital goods, i.e. production factors. He thereby distinguished three types of capital:
(1) land, (2) human capital and (3) capital proper (fi xed capital: houses, machines,
etc., and circulating capital: stocks of products and money).
During a period, the entrepreneurs hire capital of all three types, that is to say, they
buy services of this capital and use it during the period in question. One of the entre-
preneurs’ tasks is to take care that services bought are transformed into consumption
and capital goods proper. The price they pay for these capital services to the owners
is used by the latter to buy consumption goods, from the entrepreneurs, or to save.
Accordingly, there are four types of agents: (1) landowners, (2) labourers, (3)
capitalists and (4) entrepreneurs. One or more of these types may be united in one
and the same person.
Walras clearly pointed out this in the competitive markets of his model
simultaneously:
1. Demanders will bid higher prices in case of excess demand and suppliers will
ask lower prices in case of excess supply; this will eventually, in equilibrium,
reduce excess demand and supply in all markets of goods and services to zero.
2. If in a certain branch the cost price is higher than the selling price, entrepreneurs
in this branch will leave it or will decrease their production, and if the cost price
is lower than the selling price, the opposite will take place; this will make the
cost price of each product equal to its selling price and bring equilibrium profi t
rates to zero.
3. Similarly, the use of capital services and the formation of new capital will be
shifted by entrepreneurs and capital owners from one application to another, until
eventually the ratios of the net revenue (after having taken account of wear and
471
18 Léon Walras: What Cutes Know and What They Should Know
tear) per unit of some capital good and the selling (= cost) price of it are the same
for all capital goods; this will make the total amount of gross savings equal to the
total value of newly produced capital, and all capital goods equally profi table.
4. This same ratio, fi nally, will be the equilibrium rate of interest that equalises total
demand and supply in the money market.
These four points together describe a situation of economic equilibrium in the period
considered in its most comprehensive form. They generate what a spectator sees in
this “theatre of economic life”. Walras presented them as separate “scenes” in his
play, but in reality, they take place simultaneously, of course. They result from the
mathematical model (to be dealt with in the next sections), which, as such, is invis-
ible on the stage. It is, therefore, invisible on the stage that in the equilibrium situa-
tion, each individual’s utility is at its maximum given the equilibrium prices.
Furthermore, these prices are for each individual proportional to his marginal utili-
ties. Walras reserved a special name for this marginal utility: rareté .
Approaching the Reality of Free Competition
Walras had a whole sequence of models from simple to highly complicated. Above,
we were talking about the last one of this sequence, the most complicated and most
complete model. We chose to start with presenting this one, because we wanted to
start with the end since most students never come to it. With his chain of cumulative
models of general economic equilibrium, Léon Walras was one of the fi rst econo-
mists to make use, for pedagogical reasons, of the method of decreasing abstraction.
In order to explain his ideas on economic equilibrium, he fi rst devised, in Part II of
the Éléments , a model dealing with a group of people possessing a quantity of some
good (A) who want to exchange this, whether or not partly, for some quantity of
good (B) owned by the people of a second group who, on their turn, want to exchange
this against good (A). These exchanges take place, of course, under a regime of free
competition. Adding up the individual demand curves, based on utility maximisa-
tion, Walras obtained aggregate demand functions for (A) and (B) and from these,
he came to aggregate supply functions for (B) and (A) respectively. In equilibrium,
there is equality of aggregate demand and supply. This was extended, in Part III of
the Éléments , into a model of exchange of an arbitrary number of goods, the one we
started with in the introduction.
Walras’s next step (Part IV) was building his “model of production”, in which
only consumer goods are produced, by using services of land, human capital and
capital goods proper (i.e. no circulating capital). Production is, as we know, char-
acterised by fi xed coeffi cients of production. All capital services are used up in
either production of consumer goods, or in personal consumption (leisure, riding
their own horses, living in their own houses, etc.). The model of production was
enlarged in Part V to the “model of fi xed-capital formation” in which production of
capital goods proper was included. Finally, in Part VI, the model of capital forma-
tion was expanded into two models, one with circulating capital and fi at money
472 J.A.H. Maks and J. van Daal
(e.g. paper money) and one with circulating capital and commodity-based money
(gold, e.g.). All these models, except the last one were intended as pedagogical
devices, to explain this last one, to be used for policy recommendations. For all
Walras’s models, modern proofs of the existence of a solution exist now (see § 7).
Below, the models have been placed in a scheme that represents their hierarchy.
E
2
indicates the model of exchange of two goods only, E
n
the model of exchange of
n goods only, P the latter extended with production of consumer goods, C denotes
model P extended with formation of fi xed capital, Mf signifi es model C extended
with circulating capital and fi duciary money and, fi nally, Mc stands for model C
extended with circulating capital and commodity-based money (Fig.
18.1 ) .
4
We end this section with some considerations concerning the relevance of
Walras’s successive models for present-day economics. With his method of decreas-
ing abstraction, Walras attempted to approach the reality of a situation of free com-
petition. Note that equilibrium in a period is followed by equilibrium in the next
period, equilibrium in the then next period, etc. As stated above, the subsequent
equilibria may differ in initial conditions. Preferences may change and technology
may improve exogenously, whereas stocks of capital goods will change endoge-
nously. Walras assumed thereby that the equilibrium prices of the present period are
expected to persist.
5
This implies that we have agents with highly myopic expecta-
tions: in a given period, future capital income is assumed to be constant over all
periods to come. Changes in preferences, technology and available capital and its
future income are not foreseen. Hence, the sequence-of-periods equilibria (or tem-
porary equilibria) are not likely to be coordinated over time. So, we note that a
general inter-period equilibrium is not implied by Walras’ analysis. Agents are not
assumed to have rational expectations in Muth’s sense.
6
Mc
Mf
C
P
E
n
E
2
Fig. 18.1 Walras’s equilibrium
models
4
The hierarchy is not complete (see Van Daal 1994 ; Van Daal and Jolink 1993b , Chaps. 14 – 16 ).
5
See Van Witteloostuijn and Maks ( 1988 and 1990 ) .
6
In the case of Walras, a non-econometric, or perhaps pre-econometric case, we mean with the
expression “rationality in Muth’s sense” that economic agents are (supposed to be) at least as
clever as the economist who is modelising their behaviour concerning the formulation of expecta-
tions for the (near) future. See Muth (
1960, 1961 ) . Walras’s agents seem to be much more stupid.
473
18 Léon Walras: What Cutes Know and What They Should Know
It is more and more acknowledged nowadays that Walras’ analysis of free com-
petition only offers a scope for a sequence of uncoordinated temporary equilibria.
7
This might play a role in the debates on free competition and economic progress.
8
One of the most serious failures of “free competition” is perhaps its apparent inability
to coordinate events over time, which may substantially reduce free markets’ capacity
to generate steady decreases in scarcity or, in more familiar terms, to increase society’s
welfare. If the free markets would follow capricious animal spirits, serious damage
may occur in terms of volatility, recessions and crises, and substantial losses might
result.
9
Most important, fundamental economic debates are related to this question
now and will be in the near future.
But this is not all. Walras takes a further step in approaching the reality of free
competition. Probably, this is best demonstrated by the following quotations
( Éléments , §322):
Finally in order to come still more closely to reality, we must drop the hypothesis of an
annual market period and adopt in its place the hypothesis of a continuous market. (…)
Such is the continuous market, which is perpetually tending towards equilibrium with-
out ever actually attaining it, because the market has no other way of approaching equilib-
rium except by groping, and, before the goal is reached, it has to renew its efforts and start
over again, all the basic data of the problem, e.g. the initial quantities possessed, the utilities
of goods and services, the technical coeffi cients, the excess of income over consumption,
the working capital requirements, etc., having changed in the meantime. Viewed in this way
the market is like a lake agitated by the wind, where the water is incessantly seeking its level
without ever reaching it. But whereas there are days when the surface of the lake is almost
smooth, there never is a day when the effective demand for products and services equals
their effective supply and when the selling price of products equals the cost of productive
services used in making them. The diversion of productive services from enterprises that
are losing money to profi table enterprises takes place in several ways, the most important
through credit operations, but at best these ways are slow. (…)
For, just as a lake is, at times, stirred to its very depths by a storm, so also the market is
sometimes thrown into violent confusion by crises, which are sudden and general distur-
bances of equilibrium. The more we know of the ideal conditions of equilibrium, the better
we shall be able to control or prevent these crises.
It might be worthwhile to read and reread these quotations, realising that these lines
have not been written by Keynes or a Keynesian economist, or by a neo-Austrian or
an evolutionary economist, but by Walras, much more than one century ago.
7
See Van Witteloostuijn and Maks (1988 and 1990), Mckenzie ( 1987 ) : 503 and Van Daal and Jolink
(
1993b ) : 74.
8
Walras defi ned this as follows ( Éléments , § 327): “Progress (…) consists in a diminution of the
raretés of the fi nal products along with an increase in population”. See also Lionel Robbins’s
seminal An Essay on the nature & Signifi cance of Economic Science (Robbins
1932 ) , where scar-
city “means limitation in relation to demand” (p. 46). This book perhaps caused the breakthrough
of the neo-classical (Walrasian) defi nition of economics: “Economics is the science which studies
human behaviour as a relationship between ends and scarce means which have alternative uses”
(p. 15.).
9
See for similar wordings Keynes’s General Theory (Keynes 1936 , Chap. 13 ).
474 J.A.H. Maks and J. van Daal
Systems of Equations and Existence of a Solution
Let us now concentrate on the systems of equations and their foundations. The
solution of the equations of the most extended model yields the most general of the
situations of economic equilibrium considered by Walras, as we have seen in sec-
tion 4: prices, wages and the rate of interest at which markets clear (demand equals
supply); further, they yield market-clearing quantities of all goods and services in
the period in question. In underpinning these equations, Walras paid most of his
attention to consumers’ behaviour. In 1900, in a letter to Knut Wicksel, he wrote
“[My theory] is the pursuit of Grenznutzen [marginal utility] in the last details of
economic equilibrium”. At the same occasion, he declared to leave further develop-
ment of the production side (marginal productivity, for instance) to his successors.
Since the individual consumers own the capital goods, entrepreneurs can only pro-
vide themselves with capital services by renting land from landowners, by employing
workers or by hiring capital. Of course, as we already said, combinations of two or more
of the roles of landowner, worker, capitalist or entrepreneur in one person may exist.
Selling capital services procures the individual an income that permits him to
buy consumption goods and capital services, and to repair or replace pieces of capi-
tal to keep his stock at the level of the period’s beginning. The rest of this income is
per defi nition net savings (negative, zero or positive). Walras assumed that positive
net savings are used to buy newly produced capital proper in order to assure the sav-
ers in question a future income increase. Hence, three kinds of variables appear in
the (additively separable) individual utility functions: fi rstly, quantities of the vari-
ous consumption goods; secondly, quantities of the services of capital goods to be
consumed by the individual himself and thirdly, the amount of expected additional
future income.
10
From these utility functions, Walras derived individual demand and
supply equations, by assuming that consumers maximise utility, given their income
and the prices. One may consider these demand and supply functions as schedules
from which a consumer can infer, at every price constellation, the quantities of the
various goods and services that will yield him maximal utility at these prices. With
these schedules in mind, as it were, he enters the markets. Aggregated, i.e. added up
per good or service over all the individuals, these schedules enter into the model. We
stress once more that Walras was aware that preferences (as described in the utility
functions) might change from period to period.
The production side of the models is less developed. For simplicity’s sake, Walras
supposed constant coeffi cients of production in his formal models. So he assumed
that for production of a unit of some product, fi xed quantities of productive services
1 0
By introducing present utility of the expectation of future additional income, Walras was able to bring
himself “as close as possible to the dynamic point of view” in his formal models (Éléments, editions
4 and 5, §272). Here is meant “inter-period dynamics”, in contradistinction to the “intra-period dynamics”
of tâtonnement. It is again to be emphasised that the expected future income is based on a very simple
myopic expectations scheme: agents assume that the equilibrium prices of the period considered will
also hold in the future; see Maks and Van Wittteloostijn (1987, 1988, 2001).
475
18 Léon Walras: What Cutes Know and What They Should Know
are needed, irrespective of the level of production. It may be that at Walras’s time,
this was less arguable as it appears to be now. Anyway, the result is a set of relatively
simple production functions. But, of course, he was aware that the coeffi cients of
production, constant within a period, may change over the periods. Moreover, in his
analysis of the conditions and consequences of economic progress, he emphasised
the variability of the production coeffi cients. In Part VII of the Éléments , editions
4 and 5, lesson 36, § 326 (Walras
1988 : 589), he set out how the production function
in the regular fl exible form of the textbooks can be introduced.
11
He concluded there
the following:
1. Free competition brings the cost of production down to a minimum.
2. In a state of equilibrium, when cost of production and selling price are equal, the
prices of the services are proportional to their marginal productivities, i.e. to the
partial derivatives of the production function.
To the production functions (with the fi xed production coeffi cients) and the
(aggregated) demand and supply functions are added equations expressing the fi nal
result of free competition: market clearing for all goods and services, money
included, equality of selling price and the cost price of each product, equality of the
interest rate to the ratio of net revenue and the cost price of every capital good. To
give an idea of the size of Walras’s system in the version without money, let us sup-
pose that there are ten types of consumption goods, three types of land, three types
of human capital, three types of capital proper and four types of raw material. Then
Walras’s most comprehensive model consists of 88 equations, with 88 variables.
Using the individual demand and supply equations, individual quantities demanded
and supplied can be found. The latter quantities are amounts of goods and services
that maximise the individual consumers’ utility, given the equilibrium prices.
Now we turn shortly to the existence problem. Since the coherence of his theory
depends on it, the existence of a solution of his systems of equations was most
important for Léon Walras. In his days,
12
the method of counting equations and
unknowns was widely used in pure mathematics and in economics, although one
was aware that systems might be inconsistent and equations redundant. The equality
of the number of the variables of the model to the number of independent equations
was, therefore, important enough to Walras for meticulously counting equations and
variables. Nevertheless, he dealt quite subtly with this question. As Jaffé rightfully
observes in a translator’s note (Walras
1954 : 502), Walras does not belong to those
economists who only count equations.
13
In the context of the exchange model
( Éléments , §§ 65–68), Walras analyses the possibilities of having a unique solution,
a multiplicity of solutions or no solution at all. This follows from an interesting
11
While staying within the realm of constant returns to scale.
12
And later; see Bowley ( 1924 ) .
1 3
Or (Schumpeter 1954 : 1006): “Of all the unjust or even meaningless objections that have been levelled
at Walras, perhaps the most unjust is that he believed that the existence question is answered as soon as
we have counted ‘equations’ and ‘unknowns’ and found that they are equal in number”.
476 J.A.H. Maks and J. van Daal
fi gure in the Éléments (Plate I; Walras 1954 : 110–111; 1988 : 86) in which supply
and demand intersect in three points. The point in the middle is an unstable
equilibrium. The other two are locally stable.
14
In discussing the situation depicted
in this fi gure, Walras fi rstly points out that the shape reveals the possibility of
several, in this case three, equilibrium points. Then he goes on to explain that one of
the intersection points is instable because ( Éléments , § 67):
[I]n this case, to the right of the point of equilibrium, the demand for the commodity in
question is greater than its offer, which must lead to a rise in price, that is, to a movement
farther and farther away from the point of equilibrium. And, in this same case, to the left of
the point of equilibrium, the offer of the commodity in question is greater than the demand
for it, which must lead to a fall in price, that is, to a movement once again away from the
point of equilibrium.
He goes on explaining the nature of the other two equilibrium points. Both are
locally stable. One is associated with a high quantity and a low price, the other with
a small quantity and a high price. From these observations, one may safely conclude
that Walras knows that counting (independent) variables and equations is neither
suffi cient nor necessary for the existence of a unique stable equilibrium. He even
distinguishes stable and unstable equilibria, as we saw. He was also the fi rst econo-
mist to associate an instable equilibrium with a backward bending supply curve and
a more steeply falling demand curve (Jaffé, translator’s note, 1954: 504).
Later, existence proofs meeting the most rigorous standards of modern advanced
mathematics have been found.
15
This, however, is of such a technical nature that it
is impossible to deal with it within the scope of this article. Having dealt with the
existence of equilibrium in a period, the question rises how such equilibrium might
be brought about, starting from the period’s initial situation. Let us, therefore, pass
to Walras’s tâtonnement.
Tâtonnement
There is a great discrepancy between Walras’s tâtonnement and what is called
Walrasian tâtonnement in the literature. He devised it as a means “to establish that
the theoretical solution and the solution of the market are identical” ( Éléments ,
§124), but it has become one of the most misunderstood notions of his heritage. In
devising the notion of tâtonnement, his intention was to show that the outcome of the
equations of the model is, indeed, the same as the outcome of the market process in
the period under consideration. The essence of the process of tâtonnement is that buy-
ers will bid up prices in case of excess demand, sellers underbid in case of excess
supply and entrepreneurs withdraw from the industries where they incur losses
and enter those where benefi ts may be expected. In Donald Walker’s (
1996 ) book,
14
See also Van Daal and Jolink ( 1993b ) , Fig. 4.5 (p. 26).
15
See Van Daal ( 1998 ) , where proofs are presented for all Walras’s models.
477
18 Léon Walras: What Cutes Know and What They Should Know
it has been made clear that it is not some authority above the groups to determine
prices (and quantities); the groups themselves do this. This means that there is no
need for an auctioneer in Walras’s models. Thus, the word “auctioneer” is absent in
all Walras’s writings. It is an invention by later authors, attempting to grasp and
explain the working of Walras’s models, in particular those from the fourth edition
of the Éléments onwards. Tâtonnement, furthermore, is something that entirely
takes place within a certain period and is connected with the existence and the
nature of equilibrium in that period only. It has, therefore, nothing to do with the
transition from equilibrium in a period to that in the next one (see below).
The idea of Walras’s tâtonnement is as follows. For simplicity’s sake, we restrict
ourselves to the case of simple exchange, unaffected in all editions of the Éléments .
As a matter of fact, this case is the only one that is generally known in some form
or another to present-day economists. There are m goods to be exchanged, indicated
by (A), (B), (C), (D)…; (A) is the numéraire. For the non-numéraire goods, there
are m –1 excess demand equations; further, there is the budget equation. Hence, if
there is zero demand for m –1 goods, then excess demand for the m
th
good is also
zero. A vector p
1
of prices of the m –1 non-numéraire goods is cried at random (the
price of (A) is equal to 1). These prices will in general not produce equality of
demand and supply in all markets. Hence they are not equilibrium prices and trade
will not take place. Starting from this vector p
1
, Walras presented a procedure to fi nd
a second vector p
2
more close to the equilibrium prices. This was done in several
steps. The fi rst step was to replace the fi rst price of p
1
, the price of (B), by one that,
together with the other prices of p
1
, brings about market clearance for (B). By a
mathematical argument, he made plausible that such a new price for (B) exists.
16
The second step was replacing the price of (C) by one that brings about equality of
demand and supply in the market for (C), together with the changed price of (B) and
the rest of the prices of p
1
. This change will most probably disturb the equilibrium
in the market for (B). Going on, a new vector p
2
of prices results. It will in general
not bring about general equilibrium, because continuing the construction of p
2
will
offset an equality just fulfi lled. But Walras argued (or, rather, supposed) that these
latter, so-called secondary effects might be expected to have a smaller impact on a
price than the primary effect, i.e. the effect from the change of this price itself.
Moreover, secondary effects do not all have the same signs and may, therefore, cancel
more or less. So Walras concluded that p
2
lies nearer to the equilibrium price vector than
p
1
in the sense that all excess demands for p
2
are closer to zero than those for p
1
.
Similarly, starting from p
2
, a vector p
3
of prices can be obtained that will bring
the inequalities of demand and supply still nearer to equality, and so on. Hence,
Walras concluded, there are prices that will bring to zero the excess demands of
all the m goods. These prices – obeying the equations of the model – are the
equilibrium prices and transactions may start. This process of tâtonnement, as
Léon Walras baptised it from the fi rst edition of the Éléments onwards, refl ects
reasonably well the phenomenon of outbidding and underbidding as it happens
16
Walras supposed that demand and supply curves are so located and shaped that they intersect.
478 J.A.H. Maks and J. van Daal
in well-organised markets. In the Bourse of Paris, for instance, transactions were
only allowed if demand equals supply for all shares and bonds. See Walker
1997 .
The way in which this was brought about was Walras’s inspiration for the reason-
ing above. It cannot be denied that Walras’s idea of the primary and secondary
effects is highly suggestive, but he did not work it out into a rigorous proof of the
convergence of tâtonnement. Later generations of economist had to complete it
in this respect.
17
In the fi rst three editions of the Éléments , Léon Walras developed very compli-
cated tâtonnement processes for the other models of his sequence, those with pro-
duction. In these cases, the initial situation was not a vector of prices only, as p
1
above, but a vector of prices of productive services together with quantities of prod-
ucts to be produced in fi rst instance. In these fi rst three editions of the Éléments ,
Walras admitted of disequilibrium production . The goods produced in disequilib-
rium were exchanged according to a tâtonnement process, as described above. The
announced vector of prices and quantities is unlikely to generate a situation of gen-
eral economic equilibrium, but Walras was able to derive from it a new situation
closer to equilibrium. This situation was then used as a new initial situation to fi nd
a third situation still more close to equilibrium, and so on. The details are highly
complicated, while the idea of primary and secondary effects is profusely applied.
See Van Daal
2000 . So, in fi rst instance (i.e. in the fi rst three editions of the
Éléments ), tâtonnement was really intended to refl ect dynamics of daily economic
life during a period. Consumers work, get money, buy goods and consume them;
producers hire workers, buy raw materials and intermediate products, produce prod-
ucts and sell them; capitalists save and the money saved is invested in capital goods.
Between all these things, there exists some order, and it is this what Walras tried to
model by means of the tâtonnement in the fi rst three editions of his Éléments .
From the fourth edition of the Éléments onwards, Walras removed disequilib-
rium production from his models because it might lead to inconsistencies.
18
Instead
the agents respond now with written “pledges”.
19
These pledges present actions that
1 7
Indeed, later authors have elaborated on it, proving rigorously the convergence of the sequence p
1
,
p
2
, p
3
, … of prices to equilibrium prices. Allais ( 1943 , vol. 2: 489 ff.) was the fi rst to provide in this
way a proof of the existence of equilibrium in the case of exchange only: he had to impose the condi-
tion of so-called gross substitutability. See also Morishima (
1977 ) , Chap. 2 .
Nevertheless
,
there is somewhat more to say. Walras assumes that his rareté functions only depend
on the quantity of the own commodity and are always (dis)continuously decreasing in that quantity.
This can be seen in all graphs depicting rareté curves, ( Éléments , §§ 74–84). Hence, the rareté func-
tions do not shift if the quantities of the other commodities change. Starting from this concept and
assuming that the marginal utility elasticities of all commodities vary (on the average) in their normal
range between 0 and −1, it can be proved that gross substitutability holds and that the prices p
1
, p
2
, p
3
,
… indeed converge to equilibrium prices (see Maks
2006 ) .
1 8
For that same reason, Walras had discarded from the outset the possibility of disequilibrium trans-
actions in the case of exchange only.
1 9
Walras’s French word was “bon”. Jaffé translated it as “ticket”. We prefer the translation “pledge”,
proposed in Walker (
1987a ) .
479
18 Léon Walras: What Cutes Know and What They Should Know
the agents would undertake in answer to the “crying” of prices and quantities and
that should be binding if they generate equilibrium. Generally, this is not the case in
fi rst instance, and then these pledges give rise to new cries. The play of crying and
pledging will continue until equilibrium prices are reached. Then production and
exchange are permitted to take place according to the “equilibrium pledges”.
20
As a
consequence of this unhappy modifi cation, however, Walras had to suppose in his
models of the last two editions that the whole economic process of a period, in all
its complexity, had to take place simultaneously and instantaneously. This means an
enormous decrease of the degree of reality of the models.
21
The way Walras amended tâtonnement in the fourth edition of the Éléments has
reduced it, in fact, to a mathematical device for an alternative proof of the existence
of equilibrium, no more, no less. Walras’s original tâtonnement, of the editions
2 and 3, has become so unknown that it has been reinvented under the name
“non-tâtonnement” , of all names.
We observed already that tâtonnement has nothing to do with inter-period dynam-
ics. This latter kind of dynamics deals with the transition from a period to the next
one, in particular what happens in a certain period may depend on what happened in
preceding periods; see above, § 5. It is, however, in the context of inter -period
dynamics that tâtonnement has sometimes been (mis)understood in the literature.
Walras himself did not explicitly elaborate inter-period dynamics, though it was
certainly in the back of his mind. He was rather dealing with what may be called
intra -period dynamics, viz. his tâtonnement. Where the interpretation in the context
of inter -period dynamics seems to be incorrect, it is not surprising that tâtonnement
started an own life and evolved into a direction that, however interesting, does
not have much to do with Walras’s work itself. As it stands now, he would hardly
have recognised it.
22
Alternatively, some authors went as far as associating tâton-
nement with the problem of stability of equilibrium, which Walras had only taken
up for the case of exchange of two goods; in fact, this is simply studying stability of
tâtonnement itself, no more, no less.
Now we turn to Walras’s applied economics. We start with monopoly.
2 0
For a comprehensive and authoritative discussion of all tâtonnements and of Walras’s way of trying
to embed this in an institutional framework, we refer to Walker (
1996 ) . In particular, we refer once
more to Walker’s explanation of how the market agents can do without an auctioneer.
2 1
At the same time, it means a complete change of what happens during a period. The models with
production (i.e. all models after those of pure exchange) of the third edition describe quite other
“events” during a period than those of the fourth.
Walker,
too, considers the new tâtonnement as unfortunate. He appears to be a partisan of its
predecessor. Personally, we think that both are problematic (see Van Daal 2000).
2 2
The mechanism that transforms a price vector into the subsequent one differs in most modern text-
books from that invented by Walras himself. Walras’s procedure works consecutively, price by price,
and the process goes through a number of intermediate situations. In the textbooks, all prices change
mostly instantaneously and simultaneously in one single non-stop fl ight from the initial value to the
equilibrium prices (see Van Daal 2000).
480 J.A.H. Maks and J. van Daal
Free Competition and Monopoly; Private and Public Goods
Walras drew some general principles from his equilibrium models that might be
used in economic policy. A highly important conclusion in this respect was that free
competition should be the rule, provided that its conditions be fulfi lled . In a situation
of equilibrium under free competition, each consumer obtains the highest possible
utility, given the equilibrium prices. His income follows from them, because then
there are only incomes from capital, i.e. from land, human capital and capital proper;
there are no profi ts, or losses. Walras saw all this as highly attractive, and he was of
the opinion that the eventual state of the economy should resemble as most as pos-
sible a situation of free competition, at least in its outcome.
Which are these conditions? Walras mentioned two necessary conditions: (1) the
goods must be susceptible of private ownership, and (2) they must be produced by
a large number of enterprises. The fi rst condition means that public goods cannot
belong to the realm of free competition. Hence, Walras paid a lot of attention to
these goods in his social economics. In particular, he had to deal with the production
of and the payment for them. The latter aspect brought him upon the subject of
taxation. The second condition led Walras, in his applied economics, to investigate
monopoly and negative effects of monopoly profi t. Under what circumstances might
monopoly be admitted and how should it, then, be regulated? There are three situa-
tions to be distinguished regarding the two conditions above:
1. Both conditions are fulfi lled.
2. Condition (1) only is fulfi lled.
3. None of the conditions is fulfi lled.
We shall consecutively deal with these three situations.
In the fi rst situation, free competition can do its work. This does not mean that
things can be left to themselves. No laisser faire in this case. Instead, free competi-
tion implies active participation of the State. In his Études d’économie politique
appliquée (further to be called EPA ), Walras left no room for misunderstandings,
when he says, for instance (Walras
1992 : 426–427), the following:
Saying free competition is absolutely not saying absence of all State intervention , as one
will see. First, this intervention is necessary for establishing and maintaining free competi-
tion there where it is possible. Landowners, labourers and capitalists are inclined to estab-
lish monopoly of services. Entrepreneurs are inclined to establish monopoly of products. If
such monopolies would be against public interest, then the State has to stop it in any case
that it is not based on natural right. (…)
(…) Nevertheless, let us repeat here that instituting and maintaining free competition in
economics in a society is an undertaking of legislation, very complicated legislation,
belonging to the State.
Thus, Walras advocated a kind of regulated free competition, a framework of rules
in which the economic agents interact in relative freedom. These rules regard a wide
variation of issues: minimum prices, mutual price agreements between the enter-
prises, advertising, product information and consumer credit.
481
18 Léon Walras: What Cutes Know and What They Should Know
In the second situation, there are private goods that cannot be produced by a great
deal of relatively small enterprises. Walras’s examples were water, gas and railway
transport. All kind of price manipulations, as monopoly price fi xing and price dis-
crimination, should be subject of State intervention to ensure equality of the, single,
selling price of each product to its cost price. Walras says it as follows ( EPA , p. 268;
1992: 247–248; capitals and italics in original):
Furthermore, the functioning of economic competition presupposes essentially “the possi-
bility of a shift of entrepreneurs to enterprises who make profi t and withdrawal from enter-
prises at loss”. There are several reasons that may prevent that this shift will take place and
that will turn an enterprise into monopoly. This may be the case from the beginning onwards
as we have seen with respect to bringing of water or gas into a city, or the construction and
exploitation of a railway between two cities. It may also occur after a certain time because
of special features of the enterprise in question: for instance, in an industry where general
costs are at the same time considerable and sensibly fi xed. In both cases competition would
not work. A few entrepreneurs disposing of huge amounts of capital would fi rst kill the
small ones. After that, they would contest till the extermination of all by one of them or by
a coalition of two or three surviving fi rms until monopoly will occur anyhow. Monopoly
procures maximum satisfaction of the needs only under the reservation of maximum benefi t
of the entrepreneur. Hence:
— In the interest of society and excluding exceptions founded on natural right, the STATE
should undertake production at cost price of SERVICES AND PRODUCTS OF PRIVATE
INTEREST, NOT SUSCEPTIBLE TO INDEFINITE COMPETITION, or it should con-
cede this production, under a monopoly on its behalf, to the lowest bidder at an auction on
the selling price .
23
As an example of an exception founded on natural right, Walras mentioned the case
of an inventor of a new product or of a new production technique, benefi cial to soci-
ety. Such an inventor should be granted to benefi t from his invention by permitting
him to keep his secret for himself during a certain period.
In addition to the economic monopolies of the foregoing situation, there are also
so-called State monopolies , in case of situation three. No individual appreciation of
the goods and services in question through the notion of individual utility exists.
Their wants are collective, public. One could think of defence, police, administration
2 3
Presumably, Walras meant here that enterprises interested in producing and distributing, say, gas
under monopoly in some city, meet in an auction to try to get the concession. This auction might be
organised as follows. The interested parties are invited by the auctioneer to propose a price at which
they will produce and supply the product. The price proposed by the fi rst bidder will perhaps exceed
the cost price of one or more of the parties. Then the auctioneer tries to solicit a lower selling price.
Let us suppose that somebody makes such a bid, possibly still above one or more cost prices. A third
selling price might then be proposed, and so forth. Under certain conditions, this process might con-
verge to a bid equal to the cost price of the most effi ciently producing party. Here, we cannot speak
of a Dutch auction, where the auctioneer starts with a high, unacceptable price and then proposes
prices gradually lower and lower and where the fi rst participant who calls “mine” at a certain price is
bound by it. In an “English auction”, the auctioneer tries to solicit higher and higher bids from the
participants, till nobody wants to make another bid. The highest bidder is then bound by his bid. Both
systems are aimed at the achievement of a fi nal price as high as possible. See, for instance, Vickrey
(1961). The procedure indicated above in the case of Walras might perhaps be called an “inverse
English auction”.
482 J.A.H. Maks and J. van Daal
of law, infrastructure and so on. The production of these goods can hardly be
expected from the particular initiative. Walras suggested that the State should engage
in their production ( ibid ., capitals and italics in original):
Individuals appreciate services and products of private interest and the State services and
products of public interest. Individuals feel and measure wants for bread, meat, clothing,
furniture; the State for troops, courts, schools, and roads. Since there is in general an indefi -
nite number of consumers of services and products of private interest, there will, as a result,
be an indefi nite number of entrepreneurs, whereas there will be no entrepreneur for services
or products of public interest, for there is in general only one single consumer. Who will
think of something as constructing a stronghold or organising a university for selling it or
renting it out to the State? Hence:
— In the interest of society, the STATE should undertake production of SERVICES OR
GOODS OF PUBLIC INTEREST THAT ARE NOT PRODUCED BY PARTICULAR
INITIATIVE.
Ownership and Taxation
In the foregoing paragraph, we dealt with Walras’s preoccupation with the right
conditions for an abundant production of social wealth. However, how should this
wealth be distributed among the members of the society? An important part of
Walras’s Études d’économie sociale ( EES ) deals with this problem of (just) distribu-
tion, which can be separated into the problems of ownership and taxation ( Éléments ,
§ 8; 1988: 31):
[T]he theory of property and the theory of taxation are simply two aspects of one and the
same theory of distribution of wealth in human society, the fi rst representing this society as
composed of separate individuals and the second representing it as a collectivity in the form
of the State.
Walras’s point of depart in dealing with the notion of property was that “the owner
of a thing is the owner of the services of it (…) as well as of the [money] price of it”
( EES , pp. 206–207; 1990: 178). Hence, property rights of products originate through
exchange from those of the capital goods, land, personal capital and capital proper.
The latter kind consists of products as well and should, therefore, be owned by those
who have manufactured them. So the problem was reduced to ownership of land and
personal faculties. Personal faculties clearly belong to the concerning individuals
themselves. The times of slavery are past. Remains land. According to Walras, this
belongs to all of us, not only to this generation but to all generations. Since all
people have the same rights to pursue their destiny, they should all benefi t equally
from resources offered by nature to accomplish these destinies. Land, Walras argues,
must therefore belong to the community, i.e. to the State. The State as owner of the
land will be the owner of its services, and of the products obtained by these services.
This provides it with an own income. In that (ideal) situation, taxes can be abol-
ished. Rent received will enable the State to pay its expenses, and to pay back
the former owners because rents will increase considerably, land becoming
483
18 Léon Walras: What Cutes Know and What They Should Know
increasingly scarce in future. This increase, incidentally, belongs certainly to the
community as a whole and not to the individuals who happen to be the owners of
the land in question. For Walras, this was another reason for putting all the land
in the State’s hands.
Taxation, either on income, or on capital other than land, either direct or indirect,
is unjust, says Walras, because it is a claim by the State on a thing it does not pos-
sess. Taxes, or subsidies as negative taxes, will always lead to some aberration from
the pursuit of giving each economic agent what is rightly his. Wealth is the reward
for labour and savings; poverty is the consequence of and penalty for idleness and
prodigality ( EES , p. 438; 1990: 404):
Individual moral will have its natural sanction and the State may leave it to the individuals
to ask freely to religion or philosophy the aid they need to endure hardships of nature or to
overcome own weakness. Taxation will bar the way to that ideal.
Accordingly, the State might consider both a land tax and the expropriation of land.
In the fi rst case, the State would be, in fact, a kind of co-owner of the land. In the
other case, a rightful repurchase of it must take place.
This repurchase takes a long period. The actual situation in Walras’s time was
one in which the land was privately owned, even though the French revolution could
have changed this, as he contended. The question was how the State can obtain
privately owned land. It should be prevented that a factual injustice be remedied by
another injustice. The actual situation is not the present landowners’ fault. Gossen,
who claimed on similar grounds nationalisation of land, already dealt with the ques-
tion.
24
He, too, pointed to the continually rising prices of land (services). Walras
read Gossen’s book (in fact, he rediscovered it, together with Jevons) in the seven-
ties of the nineteenth century. In 1893 (Walras
1965 , Letter 1172), he wrote:
The point of tangency of moral economics with pure economics can be found in the law of
the surplus value of the rent of land in a progressing society.
Blueprint of the Ideal
We saw that Léon Walras extensively dealt with monopoly and other market organi-
sations, public goods, taxation and ownership, in particular State ownership of the
land. It was always his intention to insert these elements in a comprehensive system,
in which public goods would be produced by the State and this same State would be
the demander of them. This may be inferred from the following citation ( EES ,
p. 433; 1990: 400, emphasis added):
The idea of want curves or utility curves of the products and services of public interest
would be indispensable for completing the mathematical theory of the economic
equilibrium .
24
Gossen (1854), pp. 250–273; Chap. 23 of the English translation.
484 J.A.H. Maks and J. van Daal
This same idea can also be found in many other places throughout the EPA and
the EES . See, for instance, the passage in the last citation of § 8 above: “Individuals
feel and measure wants for bread, meat, clothing, furniture; the State for troops,
courts, schools, and roads”.
As already indicated above, Walras paid so much attention to pure theory that he
ran out of time and the synthesis was never achieved. Some time ago, an attempt has
been made to fi ll this lack. A broad design for the economic framework of the ideal
envisaged by Walras could be synthesised in what was called “ general general eco-
nomic equilibrium models”.
25
In these models, the above elements have been
inserted:
All fi rms produce with fi xed coeffi cients of production. This applies to production •
of both private goods (under free competition or (regulated) monopoly) and
public goods.
All goods are supplied at cost price, both under free competition and under •
monopoly.
The State enters on the scene as an individual that plays a role that mathemati-•
cally does not differ from that of an individual. The abolition of taxation
combined with State ownership of land and the fi ction of a social welfare
function with quantities of public goods as variables has the effect that the State
has a real budget constraint with rent as income and that it has a utility function
just as all individual consumers.
Hence, the general economic equilibrium models can be fashioned such that they
have the same mathematical structure as the models discussed in the Éléments . This
is not amazing because, fi rstly, the assumption of constant returns to the scale of
production, expressed in the assumption of fi xed coeffi cients of production, is main-
tained and hence marginal costs and average costs will always coincide. Secondly,
the demand side does not change formally. Consequently, regarding optimality,
these extended models do not differ from the models exposed in the Éléments .
Walras believed that under these circumstances, people have more chance than in
any other economic order to come to a situation of wealth by using their own abilities
and their own gifts . This, we think, is Léon Walras’s solution to the Social question.
26
Digression on Money
In the ideal situation envisaged by Léon Walras, where misery belongs to the past,
prices should not fl uctuate unexpectedly, haphazardly. Therefore, he proposed a
system of global price control. Any particular price should neither be controlled nor
25
Van Daal and Jolink ( 1993a, b ) , pp. 120–126; see also Van Daal ( 1999 ) .
2 6
Albert Jolink ( 1991, 1996 ) perhaps was the fi rst to present a complete view of Walras’s oeuvre from
an evolutionist standpoint with the Social Question as the continuous thread running through it.
485
18 Léon Walras: What Cutes Know and What They Should Know
prescribed, but measures should be taken such that the price system as a whole will
“behave well”. Therefore, Walras proposed his well-known project for reform of the
monetary system. The essence of his proposal was that (1) gold should be the money
commodity, with the same value both as money and as merchandise, (2) there should
be silver money
27
to be brought into circulation or withdrawn in adequate quantities
by the State in order to stabilise the price level. In addressing himself to the meeting
of the Latin Union (Belgium, France, Greece, Italy and Switzerland; a fi rst European
monetary union), he said it as follows ( EPA , p. 17; 1992: 16, italics added):
The silver token should be minted by the State; it will only circulate within the country of
its emission and will only be accepted for payments up to a certain amount. The quantity of
token that may be issued by each of the States forming the Latin Union will be determined
by international conventions. This should be done (…), as regards to the regulating token,
for assuring a regular variation of the value of money . Every State of the Union will benefi t
of profi ts and will bear losses coupled with issue or retreat of its token .
In many papers, Walras went at length to explain this “open-market policy avant
la lettre”. He thereby introduced the ephemeral notion of the “economic tides”, bor-
rowed from Jevons. The monetary authorities should be well aware of the time of
ebb and fl ood in the economic tides. Therefore, Léon Walras pleaded for better sta-
tistics. He gave thereby many practical hints and stressed some fundamental ideas.
Highly important, he said, is the fact that the issue of banknotes can be part of the
cause of instabilities. In his “Théorie mathématique du billet de banque” ( EPA , pp.
339–375, dating from 1879; 1992: 311–342), he went at length in analysing the
nature of banknotes and in exposing their disadvantages.
The economic tide as such is according to Walras a natural phenomenon that
should not be infl uenced as such. It is the variation of the tide that must be managed,
as is exemplifi ed by Fig.
18.2 below (1992: 144). Without the introduction of the
regulating token, the price level would have been represented by curve ABCDE.
Introduction of silver token at the right moments would result in the curve
ABCcD ¢ d E ¢ .
This process evolves in time and can easily be associated with an underlying
sequence of Walras’s temporary (or periods’) equilibria uncoordinated over time.
This lack of coordination is caused by the lack of foresight of Walras’s economic
agents. See also § 5 above.
Another issue of importance in this respect is formed by Walras’s ideas on mono-
metallism and bi-metallism. As often, here also he takes a middle position, which
made him unpopular in all champs. The following citation makes this clear (Walras
1886, 1992 : 138):
The fi nal result of this whole study is that the greatest possible stability of prices cannot be
obtained by trying to fi nd it [exclusively] in one or another of these four systems: gold-
monometallism, silver-monometallism, bimetallism, regulating token, but by making an
alternating use of all four of them. One should imagine the four systems as placed in the
following order […]:
Silver-monometallism — Bimetallism — Regulating token — Gold-monometallism.
27
Or, rather, silver token , because its real value must be somewhat less than its nominal value.
486 J.A.H. Maks and J. van Daal
Walras’s Infl uence
The Period Before 1954
In reviewing Walras’s reception in the literature, it makes sense to distinguish the periods
before and after 1954. The most important reason for this separation is the publication in
that year of Jaffé’s translation of the Éléments . In the same year, both Schumpeter’s
History of Economic Analysis and Arrow and Debreu’s seminal Econometrica article
“Existence of equilibrium for a competitive economy” saw the light.
Before 1954, we can hardly speak of a substantial direct “interschool” infl uence
of Walras. During Walras’s career, Alfred Marshall (1842–1924) was undoubtedly
the most important economist. His Principles of Economics was published from
1890 until 1920 in eight editions. In the fi rst edition, in the last paragraph of a foot-
note in Appendix H, § 2, dealing with unstable equilibria, Marshall acknowledges
Walras and himself as independent inventors of the theory of unstable equilibrium.
In all later editions, this is omitted.
One would expect references to Walras’s Éléments in book V of the Principles :
“General Relations of Demand, Supply, and Value”. Marshall is dealing here with
topics clearly related to Walras’s Éléments . But no word is spent on the Éléments .
Marshall only refers 2 times to Walras’s “Économie Politique Pure” if he addresses
10 20 29 40
1.10
1
0.90
0.80
0.70
A
B
0.94
0.915
0.86
C
C′
c
0.78
D
D′
D′′
d
E
E′
0.907
X
Fig. 18.2 Introduction of regulating token at time 20 and at time 29
487
18 Léon Walras: What Cutes Know and What They Should Know
the question of how to defi ne production factors as labour (note 1, p. 138, 8th ed.)
and capital (note 1, p. 788, 8th ed.). Finally, he mentions Walras without any speci-
fi cation as one of the authors who criticise classical value theory (p. 821).
28
One
would at least expect a comment by Marshall, as the “master of partial analysis”, on
Walras’s critical attitude regarding this type of analysis; see Éléments , Appendix II,
from the third edition onwards.
On the other side of the Atlantic Ocean, we focus upon John Bates Clark (1847–
1938). In the preface (p. x) of his Essentials of Economic Theory ,
29
Clark acknowl-
edges the infl uence of authors like Irving Fisher, Friedrich von Wieser and Eugen
von Böhm Bawerk, but nowhere in the book a reference to Walras can be found.
Leaving these two “champions” of the Anglo-Saxon marginalists, we return to
the old continent, to “the” representative of the Austrians: Eugen von Böhm Bawerk
(1851–1914). His chief work is Kapital und Kapitalzins , published in 1884.
A revised and enlarged edition was published from 1909 until 1914. The unchanged
fourth edition appeared in 1921. It contains 1384 pages in three volumes. Its main
topic is also covered by Walras, mainly in part V of his Éléments . Altogether we can
fi nd eight references to Walras. Two relate to his defi nition of capital, one deals with
his defi nition of labour, two further references acknowledge Walras’s contribution
to value theory, one classifi es his capital theory as related to Menger’s and, in a note,
Von Böhm Bawerk agrees with Walras’s opinion that the marginal utility principle
also applies to altruistic actions. In the last reference (Vol. II, book 1: 458, note 1),
Von Böhm Bawerk agrees with a conclusion of Walras’s capital theory. But he adds
that this conclusion is deduced from an essentially fl awed theory, although with
valuable details. This is not further elaborated. Remarkably, in his third edition, von
Böhm Bawerk refers only to the fi rst and second editions (Walras
1874a, b, 1889 )
of the Éléments , although the fourth one was available.
From these observations, the impression emerges that the spread of Walras’s
ideas into the direction of the “other schools of the marginal revolution” was not
very substantial. This impression is corroborated in what perhaps still is by far the
best “History of Economic Analysis”: Joseph A. Schumpeter’s, History of Economic
Analysis (1954; see especially part IV, Chaps. 5 and 7 ).
Fortunately, there are exceptions. Indirect international infl uence originates from
Italy with Enrico Barone (1859–1924) and Vilfredo Pareto (1848–1923). Firstly, it
is not exaggerated to link the so called calculation debate to Walras, via Barone,
30
who asserts that for each economy, a central socialist plan can be calculated with the
2 8
This meagre result is the more striking because Marshall has read the Éléments. The copy of the
book in the Oxford University Library reveals Marshall’s hand written notes (stopping at page 169).
29
E.g. the unchanged 1924 edition; the book was fi rst published in 1907.
30
And others like, e.g . O. Lange. The original version of Barone’s paper was published in 1908, in
Italian. It became generally known after the publication of its English translation, “The Ministry of
Production in a Collectivist State” in F.A. von Hayek (ed.), Collectivist Economic Planning
(Barone
1935 ) .
488 J.A.H. Maks and J. van Daal
same outcome as a perfectly competitive equilibrium for that economy. Theoretically,
the plan might be implemented by a central social agency. Barone obviously was
inspired by the Walrasian systems of equations and without Walras’s insights, those
of Barone would have been impossible to develop.
The most important critical reaction on the calculation debate inspired by
Barone’s ideas came from Ludwig von Mises.
31
He emphasises that informa-
tion about the basis on which the agents can decide and revise their demand
and supply decisions only can be produced by the functioning of free markets.
Without this, the necessary information about scarcities in the economy will
not be revealed and, hence, will never become available to a central social
agency. This implies that such an agency will never be able to calculate (in
theory or in practice) the allocation corresponding to a perfectly competitive
equilibrium.
32
Next we should deal with Pareto, Walras’s successor at the University of
Lausanne. His most important contributions to economic science
33
are his gener-
alisation of the extreme simple utility concept used by Walras, Jevons and Gossen,
the notion of ordinality based upon Edgeworth’s indifference apparatus and, of
course, what nowadays is called the Paretian welfare criterion. It is obvious again
that Paretian welfare economics was based upon the essence of the Walrasian
equation systems and that its development would not have been very likely with-
out Walras’s perception.
Finally, it is inevitable to step outside the marginalist schools. In section seven,
Chap. 7 (pp. 998–1020) of his History of Economic Analysis , Schumpeter reviews
Walras’s general equilibrium theory. This review, written in the last year (probably
the last months) of Schumpeter’s life, is a highly enlightening introduction to part I
to VI of the last edition of the Éléments . For the fi rst time, we see that the structure
of the Éléments is exactly followed and exposed by a reviewer: exchange, produc-
tion, capital and money. Unfortunately, Schumpeter does not pay attention to the
parts devoted to growth, imperfect competition and taxes. Schumpeter takes much
care in this exposition to point out the relations with Marshall expert John Maynard
Keynes’s General Theory of Employment, Interest and Money (1936); see page 999,
34
3 1
L. Von Mises, “Die Wirtschaftsrechnung im Sozialistischen Gemeinwesen” translated as
“Economic Calcualation in the Socialistic Commonwealth” in F.A. von Hayek, ed., Collectivist
Economic Planning (Von Mises
1935 ) .
3 2
Von Mises further developed his reputation as a critic of socialism. He published in 1932 his revised
second edition of Die Gemeinwirtschaft, Untersuchungen über den Sozialismus . Since we know that
Walras was advocating State ownership of the land, one might expect some reference in Von Mises’s
book to this idea. But in the whole book, one cannot fi nd any reference to Walras. Even in discussing
“Das Gemeineigentum an den Produktionsmitteln” (pp. 25 ff.), he does not refer to Walras.
3 3
See Manuel d’économie politique (1981[1909]), translated from his Manuale di economia politica
(1906).
3 4
Here, Schumpeter emphasises that it is a misunderstanding to think that Walrasian micro-analysis
is in need of a supplement by a Keynesian income or macro-analysis.
489
18 Léon Walras: What Cutes Know and What They Should Know
page 1001, note 7,
35
page 1013, note 38,
36
page 1017, note 49
37
and page 1023, note
65.
38
Dealing with monetary theory in Chap. 8 , Schumpeter concludes (1954: 1082)
that Walras’s theory of money “simply did not exist for the overwhelming majority
of economists”, and he emphasises Lange’s 1938 conclusion that the “Keynesian
analysis of the General Theory (…) is but a special case of the genuinely general
theory of Walras”.
So, considering all the observations of Schumpeter’s, one might want to know to
what extent Keynes himself in his General Theory refers to Walras. In the whole
book, there is precisely one reference to Walras, on page 177: Keynes classifi es
Walras as an economist in the “classical tradition” in one breath with Marshall,
Cassel, Taussig and others who believe that “the rate of interest is the variable which
brings [saving and investment] together”.
To be fair, we should also check Keynes’s reaction to Knut Wicksell (1851–
1926). Apart from Walras’s successor in Laussanne, Pareto, Wicksell is one of the
few economists on whom Walras had a substantial infl uence in this period via his
monetary theory. Walras wanted to maintain the separation of the real part of the
economy from the part where the money interest and the money prices are deter-
mined, to be able to work with a kind of “quantity theory”. Wicksell was probably
the fi rst to observe that, in this sense, money could not be neutral in the Walrasian
model .
39
So one would expect Keynes to comment on Wicksell.
40
Keynes refers 2
times to Wicksell in his General Theory, but not very pertinently. First, he points
out, without further specifi cation, that the contemporary economists’ neutral interest
rate differs from Böhm Bawerk’s and Wicksell’s natural rate. The second reference
is more relevant where he explains (pp. 242–243) that in his Treatise on Money , he
attempted to clarify and to further develop Wicksell’s natural rate theory, but that his
Treatise ’s intuition appears to be untenable in the light of his General Theory . He defi nes
(1936: 243) the neutral interest rate of money in a situation of an output-employ-
ment equilibrium in which the output elasticity of employment is zero. But we do not
see a discussion of Wicksell’s or Walras’s ideas about the (non)-neutrality of money.
41
35
Here, Schumpeter stresses that Walras was prepared to admit that capitalists lend money and not
capital goods. He concludes that this observation is important to see the affi nity between the
Walrasian and Keynesian systems.
3 6
In this note, Schumpeter warns us against making individual demand only dependent of the own
price and income for pedagogical reasons. This deeply obscures Walras’s approach and, in the end, it
does not help the student to understand the relation between Keynesian and Walrasian economics.
3 7
In this note, Schumpeter points out that it is not true that Walras neglected the infl uence of income,
but Keynes neglected the infl uence of prices.
3 8
Here, Schumpeter observes that the precautionary and the speculative motive for holding cash can
be inserted in the Walrasian theory.
3 9
See Wicksell’s “Zur Zinstheorie” in “Die Wirtschaftstheorie der Gegenwart” ed. H Mayer, III,
1928 (Wicksell
1928 ) .
4 0
And on Pigou, who also adhered to non-neutrality of money in his Theory of Unemployment
(Pigou
1933 ) .
41
Or to the related considerations in Pigou ( 1933 ) .
490 J.A.H. Maks and J. van Daal
When Keynes discusses the “quantity theory of money” (esp. pp. 304-4-306), he
comes up with a number of equations that might or might not be compatible with
Wicksell’s work.
42
However, Keynes does not address this question at all.
From 1954 Onwards
In the year 1954, as mentioned above, three relevant publications appear. Firstly, we
refer to Jaffé’s translation of the last edition of the Éléments . The translation made
this book accessible for a much wider audience, especially in the Anglo-Saxon
world. Next, we point out the appearance of the already discussed History of
Economic Analysis by Schumpeter. Here, we see probably for the fi rst time an ade-
quate appraisal of Walras’s Éléments in a(n advanced) text book. To a certain extent,
these publications can be seen as a fruitful basis for what since then happened with
Walras’s legacy.
Especially after the seventies of the previous century, we see
43
an increasing
number of publications, substantiating that this legacy is much more than the simple
static general equilibrium model reproduced in most micro-economic textbooks.
We should like to memorise here especially the ongoing efforts of Donald Walker
that resulted in the publication of two impressive volumes The Legacy of Léon
Walras (2001) under his editorship. These volumes bundle a considerable part of the
publications that appeared since the seventies and are preceded by a valuable intro-
duction to which we readily refer. Nevertheless, still a minority among the econo-
mists fully appreciate Walras’s legacy in its fundamental aspects as has been exposed
above. This brings us to the third relevant publication in 1954.
In 1954, Econometrica publishes the article “Existence of equilibrium for a com-
petitive economy” by Arrow and Debreu. They concentrate in this paper on the
conditions of static equilibrium under perfect competition in the context of an econ-
omy with exchange and production. They do not focus upon capital, saving and
money.
44
Nor do they acknowledge another essential feature: the context in which
Walras develops his argument by introducing additional complexity in his subsequent
models to analyse periodical or temporary equilibrium of a free market system.
45
In
1959, Debreu published his Theory of Value in which the same theory was set out once
more. This booklet became most infl uential. Remarkably, almost every contemporary
42
Probably because the Keynesian analysis neglects relative prices.
43
Together with a substantial decrease in weight of Keynesian macro-economics.
4 4
Pascal Bridel devoted his Money and General Equilibrium Theory (Bridel 1997 ) to this important
part of Walras’s oeuvre; see also Van Daal and Jolink (
1993b ) , Chaps. 10 – 16 .
4 5
This is completely in line with the interpretation of Walras by Hicks ( 1934 ) . Hicks claims to be the
fi rst to analyse a sequence of temporary equilibria (Hicks
1939 ) . The previous sections have clarifi ed
that this claim is unjust.
491
18 Léon Walras: What Cutes Know and What They Should Know
micro-economics textbook contains a reproduction of what is presented as
Walrasian general equilibrium theory that is much closer related to the Arrow and
Debreu simplifi cation than to the much richer original. This applies even to advanced
textbooks as, e.g. Mass-Colell et al.
1995 . This tendency in the textbooks explains
to a large extent the poor state of “Walras knowledge” among what we have denoted
as “cutes”.
Concluding, we can say that on the one hand, we observe a growing awareness
of the signifi cance of Walras in all his ideas, as we have attempted to sketch in this
contribution, especially from the seventies onwards.
46
This growing awareness
inspires a rich research programme varying from the role of the entrepreneur in the
imperfectly competitive process (towards and away from the moving temporary
equilibrium and welfare properties of such a process), to the properties of sequences
of uncoordinated temporary equilibria with agents acting with less than rational
expectations.
47
On the other hand, we observe that the majority of cutes are still
trained by the narrow Debreu approach as reproduced in most textbooks.
Conclusion
Léon Walras bequeathed to us three substantial, major books; nine smaller books
and more than two hundred other publications; see Walker
1987a . Having gone
through all this, we may say that his oeuvre forms a narrative on the subject of
economic life that can be considered as a complete account in the sense that it deals
with the functioning of practically all aspects of the economy as he saw it in his
days. When one reads Walras’s works, one understands soon that persuasion cer-
tainly was one of his aims. We hope to have made evident on what points he tried to
convince his readers. This could raise the question whether it would be worthwhile
to subject Walras’s oeuvre, in particular its rhetoric, to an examination à la
McCloskey.
48
A thorough analysis of Walras’s writings from the viewpoint of rheto-
ric would certainly give us an answer to the question why there is and always has
been such a considerable gap between, on the one hand, the part of his message that
people caught and, on the other hand, the totality of this message. This analysis
could very well be carried out by means of the six points of Donald McCloskey’s
1994 book on persuasion. Where these points fi nd their origin in rules for the struc-
ture of Greek discourses, Léon Walras, well versed in the classical languages, would
46
See Walker ( 2001 ). This collection (65 articles in two volumes) is the third of its kind. Mark
Blaug published a volume with 25 articles in
1992 and in 1993 , John Cunningham Wood a three
volume set of 68 papers. Further, the volume with 19 articles by William Jaffé on Walras, edited
by Donald: Walker (
1983 ), should be mentioned. Altogether, these bundles contain 148 different
articles. Walker’s two collections stand out because of excellent editorial work, especially the
original introductions.
47
See, e.g. the mentioned volumes of Walker ( 2001 ), but also Schinkel ( 2002 ) .
48
See MacCloskey ( 1985) , 1994) and also Henderson ( 1995 ) .
492 J.A.H. Maks and J. van Daal
undoubtedly have approved of such an analysis. Till now, nobody had the courage
to take such an enormous job upon him.
Another interesting point regarding Walras’s work in its entirety as a narrative
is the question how it has been structured and whether this structure is unique,
typically Walras’s, or rather similar to that to be found in the other great econo-
mists’ texts. In a doctoral thesis, submitted in Évry (Fréjaville 2001 ) , fi rst results
of a study in this line have been reported. After having studied and analysed the
notion of a narrative in general (and of fairy tales in particular), the author of this
thesis leads us to the economic narratives. In those that may be considered as
complete, one can always distinguish the following fi ve elements: (1) individual
norms, (2) collective norms, (3) behaviour, (4) mechanism and (5) the State. In
Walras’s oeuvre, too, these elements are clearly present. We have seen how the
individual consumers’ and the individual entrepreneurs’ norms (maximal utility
and maximal profi t) lead to their behaviour in the markets. This, in its turn, gives
rise to a mechanism leading to equilibrium. The outcome of this equilibrium does
not always correspond with collective norms (public goods and market forms)
and, therefore, we need a State to redress this. Like Adam Smith, Léon Walras
must be considered as an “invisible hand economist” in the sense that individuals
are considered to be ignorant of the consequences of their behaviour on the col-
lective level; they are even uninterested in such consequences. Of course, this
does not apply to the State in its roles of market regulator, consumer of the public
goods and owner of the land.
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495JG B kh ( d) HdbkfhHi fE iTh h
Introduction
What I have to say about Alfred Marshall is very different from what you read in the
literature, either in brief references or in longer biographical studies. My graduate
work was done at Harvard in the 1930s, and I was enamoured with the mathematical
approach to economic analysis. But in mid life I became interested in the employment
effects of automation and devised a new approach, which seems to be more realistic
than the abstract analyses that characterize current work. This approach got me
into arguments with colleagues and rejections by editors. I had been teaching a
course on the history of economic thought and re-examined the fi eld. Marshall
came into focus. I re-read his Principles, and some parts of the book many times.
Marshall’s economics is not understood in one reading.
1
His interest in realism is
not being appreciated.
As a further introductory note I should like to say, also, that I am addressing
myself to graduate students, as instructed, rather than to a more general professional
audience. As a person who has slowly learned a great deal in a long life, my approach
Chapter 19
Alfred Marshall
Earl Beach
†
E. Beach (*)
Charles Beach, Department of Economics, John Deutsch Institute , ON , Canada
e-mail: [email protected]
1
Students who do look into Marshall’s Principles read Book V and perhaps peek into the
Mathematical Appendix. Marshall suggested that the heart of his theory lay in Book V, but that was
for a particular reason. His success with the integration of supply and demand theory led to an
emphasis on a balancing of forces. Marshall explains in terms of an equilibrium concept. As it
turned out, this has been very unfortunate, as will be explained. The student, who is willing to
make the effort, should read carefully the Prefaces, Book I and Appendix A. Other parts will be
suggested below. He should read with more than the usual care because Marshall was very deliber-
ate with his composition.
†
Deceased.
496 E. Beach
is that of a perpetual student. A recently published book (Beach 1999 ) shows these
later “down-to-earth” tendencies. It attempts to explain the causes and processes of
economic development, in which Marshall plays a very important role.
A recent biographer describes him as a “soaring eagle”. That description was a
fi tting evaluation a century ago, but few economists today would regard it as appro-
priate. This change in attitude by the profession is the result of a very different
approach to economics that today is deemed suitable. The difference lies in less
emphasis on realism in current analyses. Much importance is now given to abstractions,
often expressed in models. The idea or the construction is considered to be signifi cant.
Its application is left to others. This divorce of theory and practice has produced
rather poor results, at least in the minds of non-economists.
To Marshall, on the other hand, realism was essential. He wished to understand
how economic events actually happened. He sought to appreciate the unfolding of
the minutiae of economic life and sense their interrelations. He recognized that an
equilibrium position is unrealistic in economics, although equilibrating forces are
very realistic. Thus his general setting is that of non-equilibrium conditions,
i.e. realistic dynamics.
This reverence for abstraction has been unfortunate for the profession, whose
self-evaluation is not echoed by outsiders. Allyn Young warned us about the danger
in 1928, over 70 years ago. I shall try to start a re-evaluation of this great man to the
soaring status, of which Young himself would have approved.
Biography
Alfred Marshall was born in 1842 and grew up in London, England. His father was
a cashier at the Bank of England, so that the family had no great wealth. Yet he had
a good public school education with an academic record, which was good enough
to allow him into Cambridge University.
His father wanted him to take up the ministry, but he wished to continue with his
education, and fi nancial help from an uncle allowed him to complete a Cambridge
degree in mathematics. He paid back his uncle when he began to teach mathematics
at the University. He took a very good degree, becoming second wrangler in math-
ematics, which means that he was second highest.
He had a continuing interest in the welfare of mankind and studied a number of
fi elds before he came to economics, specifi cally John Stuart Mill’s Principles of
Political Economy, which had been published some 2 decades before, and was then
widely read. He applied mathematics to testing the propositions he found in Mill’s text.
He must have found the results to his liking. He made economics his life’s work.
During this period Marshall would usually spend a part of his holidays walking
in the Swiss Alps. He would carry books in a packsack and occasionally sit and
read. I have found this to be a useful habit in my own work. After a bit of serious
reading, one should allow the mind to dwell upon the subject for a while rather than
497
19 Alfred Marshall
dash off to some other activity. Walking alone is a good way to allow the mind to
continue to work on the material. Sometimes surprising thoughts occur.
2
Marshall married one of his women students, Mary Paley,
3
and had to vacate his
fellowship at the college. The couple moved to Bristol where he took on the leader-
ship of Bristol College. The administrative work in a new university was not to his
liking and the demands of the job were found to be burdensome. He developed an
illness that bothered him the rest of his life. He resigned from his position at Bristol
and enjoyed a year of recovery in Italy where he returned to writing economics.
He spent a year of study at Berlin, interested particularly in the German eco-
nomic historians and philosophers. He had also made a trip of exploration to the
United States. Later, he spent a great deal of time on government work, writing
submissions, giving evidence or acting as commissioner ( Groenwegen
1996 ) .
Clearly he felt that his understanding of economics required close observation of
current economic activity and of the historical past. With mathematics as his basic
study at the university, this is a very interesting and important development. Few
economists have the ability to do such careful analysis and then make use of such a
wide understanding of social reality. Even his vacation trips were scheduled to
include visits to factories.
4
He returned to Cambridge in 1882 to lecture on economics and in 1885 became
the Professor of Political Economy, where he remained until he retired in 1908. He
died in 1924 at the age of 81. He spent much time in revising his Principles, the
eighth edition appeared in 1920. He published two more books. Industry and Trade
is a substantial volume which some found more readable than the Principles. His
last book, Money Credit and Commerce ( Marshall
1923b ) , was mostly a collection
of his many notes. He did not get around to writing a book on economic progress.
This is unfortunate because it would have given him a basis for presenting his mon-
etary theory, which had been carefully excluded from his Principles, as an essential
ingredient in the process of development, as Schumpeter recognized. This could
have established Marshall’s claim to economic dynamics in a realistic context.
There has been some discussion of his teaching. His students were expected to
read the Principles on their own. His lectures dwelt on current events, trying to get
the students to think for themselves. Sometimes he might provoke them with ram-
blings. He gave much attention to students who would ask questions, having them
2
Twice in my lifetime this technique has produced remarkable results. Walking through the stacks
of Widener Library at Harvard as a graduate student, a thought came which became my doctoral
dissertation. Later in life I was reading Ben Seligman’s Most Notorious Victory, lamenting the loss
of work to computers. As a respected economist, he should have offered a more balanced view of
the goods and bads. As I walked to the university, I was suddenly taken by the thought of a formula
that would offer such a solution. It has proven to be very useful.
3
Mary Paley, of good family, was very helpful to Marshall. She was in the process of writing an
introductory textbook in economics, which became a joint publication, and Marshall’s fi rst effort
in the fi eld. After Marshall’s death she was for many years in charge of his papers, which became
the Marshall Library at Cambridge.
4
Adam Smith also was keenly interested in current business affairs.
498 E. Beach
to tea and lending them books for further reading. His method was successful in that
many of his students went on to hold chairs at other universities in Britain. However,
they showed limited understanding of his basic thought when attacks came from
Sraffa and others.
Keynes wrote an excellent obituary for the Economic Journal (Keynes
1924 ) , of
which he was the editor at the time. Guillebaud has a shorter note (Marshall
1961 )
in his 1961 edition of Marshall’s Principles. Groenwegen has recently given us a
thorough study ( Groenwegen
1995 ) . Guillebaud quotes Homan ( 1928 ) who gives us
an assessment of the man as he began his life of economic study:
It is possible thus to see what manner of young man it was who ceased his mathematical
lectures in 1868 and took up a new lectureship in the Moral Sciences, specially founded for
him at St. John’s College at the instance of the master, Dr. Bateson, where his weight listed
the ship sharply to the side of political economy. A brilliant mathematician, a young philoso-
pher carrying a somewhat undigested load of German metaphysics, Utilitarianism and
Darwinism; a humanitarian with religious feelings but no creed, eager to lighten the burdens
of mankind, but sobered by the barriers revealed to him by the Ricardian Political Economy –
one sees the background of the man who was to be to his students sage and pastor as well as
scientist; whose objective scientifi c approach was to give economics a renewed public stand-
ing; whose sympathy for social reform was to rout its enemies; whose high gifts were to be
as zealously devoted to his intellectual mistress as any artist’s to his muse.
Context
Marshall’s Principles of Economics was published in 1890, which was, in time,
about half way between the appearance of The Wealth of Nations in 1776 and the
present day. Before Marshall there were Malthus (
1798 ) , Ricardo, John Stuart Mill
and a number of lesser fi gures. Contemporaneous were Walras and Menger, who,
with Marshall, were important contributors to the “marginal revolution”. With them,
the concept of the margin became a key concept in economic analysis. There has
been some quarrelling about priorities, but we shall not be concerned. Marshall’s
mathematical background suggests that the concept was not new to him. Furthermore,
he had been playing with such ideas for some years, and he was slow to publish
because he wanted to avoid misunderstandings. He had good reason for such fears,
as history has demonstrated.
A major contribution of his Principles was his solution to an old problem with his
marrying of the concepts of supply and demand for the determination of value. For
this he was widely proclaimed. In a sense he tried to marry economics with history, in
economic analysis, but with very little acceptance by either historians or economists.
This failure was about as spectacular as his earlier victory. The study of economics
was becoming popular and an increasing demand developed for its professionaliza-
tion, in which Marshall played a role. This trend brought a desire for increased preci-
sion and this, in turn, inspired a greater use of mathematics and abstraction.
Marshall was one of the leaders in this trend towards the increased use of math-
ematics, but he kept his mathematical skeletons hidden in his language. He felt that
499
19 Alfred Marshall
if the mathematics had been appropriately used, the results could be explained in
ordinary language. For him, mathematics was an aid to his thought and not an end
in itself.
Those who followed did not favour this careful approach. Sraffa’s (
1926 ) article
attempted to “tidy up” Marshall’s “imprecise” expressions. Samuelson’s Foundations
(
1947 ) attempted to “reverse” this “dictum” of Marshall, suggesting that the math-
ematical solutions were taken to be “economics”. Brems (
1986 ) illustrates this
Samuelsonian approach very well. He attempts to put into mathematical language
the abstract concepts of leading economists. For Marshall, such formulations were
but a beginning in understanding good economics.
Shortly before Samuelson began writing his dissertation at Harvard, Allyn Young
expressed dissatisfaction with this trend to mathematical abstraction. He had moved
from Harvard to London to replace Cannan (
1893, 1917 ) who had made economic
theory an important part of the London curriculum. Young must have been highly
regarded for the Brits seek a foreigner to continue Cannan’s work (
1930 ) . Of course,
most other theorists in Britain were Marshall’s products.
Young was soon asked to head the British Association. His presidential address
was published as a lead article in the Economic Journal in 1928. In it he expressed
misgivings about the direction that the works of leading economists was taking.
Remember, Young was the person who reviewed the fi rst edition of Pigou’s (
1928 )
great work and questioned its lack of realism. Here he expressed great appreciation
of the work of Smith and Marshall.
Unfortunately he died shortly thereafter, apparently the victim of London’s
climate, and his message was forgotten. It did not gibe with the current trend. This
message was a very important one. He expressed the fear that “the apparatus that
economists were erecting … would stand in the way of a clear view of the more
general aspects …” of the problem. Many examples are to be found in Beach (
1999 )
showing that such fear was justifi ed.
Even if Young had lived, he would have probably been unsuccessful in stemming
the fl ow of mathematical abstraction. Like Marshall, his students did not appreciate
his message. At Harvard he had been the supervisor of a dissertation by Chamberlin,
which was to become a well-known text on imperfect competition. Chamberlin
(
1932 ) used static tools with dynamic pretensions. At London, Young supervised
the work of Kaldor who, not long after, published an article (Kaldor
1932 ) in which
the concept of equilibrium was central to his analysis of technological unemploy-
ment. Salter was later to point out that the equilibrium assumption had little place in
the analysis of technological change (Salter
1960 ) . Some years later Kaldor ( 1972 )
recanted on the concept of equilibrium, expressing appreciation of Young’s (
1928 )
article. These three references, Young, Salter and Kaldor, are not given their due in
the economic literature.
In summary it may be claimed that Marshall marked the start of modern eco-
nomic analysis and suggested paths of progress towards realistic analysis.
Unfortunately the profession chose to march off in a very different direction, towards
abstraction, and is now facing an unbelieving and critical public.
500 E. Beach
Another matter that should be considered is the idea that Marshall was unduly
nationalistic. In Victorian England that is perhaps understandable, if not forgivable
in an economist. However, the whole Marshallian context should be considered.
Central to Marshall’s thought, as to that of Adam Smith (
1776 , 1904) , was the ques-
tion of how did the country achieve its economic status, and where was it likely to
be going in the years ahead. The Wealth of Nations appeared just as the Industrial
Revolution was reaching a high level of activity, and Marshall was teaching in the
great period of Victorian England, the great empire period. These things had hap-
pened in England. He wished an explanation.
An important part of his answer was entrepreneurship in the form of businessmen,
those ceaselessly striving, calculating people of the modern world. The English
learned some important things from the Dutch in the sixteenth and seventeenth
centuries. Knowledge of accounting and banking came earlier from northern Italy.
During the nineteenth century, Englishmen were spreading their expertise across
Europe.
5
It is particularly interesting that Marshall sensed a strong trend to improve-
ment in morality among able businessmen.
6
Winch was critical of Marshall (
1969 , 32): “He … had what many would regard
as an exaggerated regard for the ‘captain of industry’ as a character type …
Marshall’s anxiety to maintain these virtues, rather than any specifi c economic doc-
trine, was the chief factor underlying his attitude to questions of individualism and
socialism”. This interpretation is quite wrong. The “captain of industry” was the
instrument of change and development, which made the industrial revolution happen.
Moreover the activities of these captains were an integral part of his “doctrines”.
This misinterpretation by such a respected economic historian is surprising.
Parsons (
1932 , p. 335) was more biting than Winch:
Englishmen have often ridiculed Hegel for supposing that the evolution of the Weltgeist had
taken place solely for the purpose of producing the Prussian state of the early nineteenth
century. And yet Marshall, good Englishman that he was, supposes that the whole process
leads to the production of the English businessman and artisan of the latter part of the same
century. With all due respect to these worthy gentlemen, does anyone really suppose that
they alone will inherit the earth? I am not here concerned with disputing the validity or
propriety of Marshall’s ethical conviction of the supreme value of one type of character.
What is important is whether such subjective ethical convictions should be allowed to color
the whole prospect of the past and present tendencies of social development as it undoubtedly
does in the case of Marshall. The complete disregard of most other things which it entails
is a narrow-mindedness hardly compatible with the ideal of scientifi c objectivity … he cannot
be interpreted otherwise than as taking a position of the highest importance on the funda-
mental question he professes to ignore …
5
When I fi rst went to McGill University in Montreal, Canada, in 1940, many of the top brass were
British – the principal, the dean of the faculty of graduate studies, the registrar and the secretary of
the Board of Governors. Shortly afterwards we acquired two more who soon became vice princi-
pals. During my stay these offi cials were replaced by Canadians – many of whom had received
some part of their training in other countries. Canadians wanted to run things themselves.
6
Marshall wrote ( 1890, 1920 , p. 303): “It is strong proof of the marvelous growth in recent times of
a spirit of honesty and uprightness in commercial matters, that the leading offi cers of great public
companies yield as little as they do to the vast temptations to fraud which lie in their way …”
501
19 Alfred Marshall
Parsons ( 1931 ) continues in his fashion, arguing that Marshall wrote poor sociology.
Marshall could have replied as he did to Cunningham’s accusation that his history
was inadequate. He was trying to write economics, not sociology, and certain
factors were of special importance. Thus it could be said that Parsons wrote poor
economics; indeed his sociology, in a broad sense, could be questioned. However
one judges Marshall’s appraisal of English businessmen, their importance in the
development of the industrial revolution must be recognized.
In Industry and Trade (
1923a , pp. 172–5) Marshall discusses “national character”.
It may be noted, in passing, that a feeling that Marshall is being nationalistic has
alienated many readers, yet as emphasized elsewhere in this book, differences in
national character are crucial to the question at issue, economic development. The
Teutons did approach matters differently from the Latins.
Parsons’ tirade on Marshall contrasts with the good things he wrote about Weber in
his Translator’s Preface (Weber
1958 ). Apparently, here he does not seem to appreci-
ate the similarities in their themes. In an earlier article Parsons (
1932 ) he clearly recog-
nizes this similarity but suggests that Weber’s analysis was based on rationality whereas
that of Marshall seems to be little more than sentiment. It is interesting to note that
Marshall makes no reference to Weber, and Weber does not refer to Marshall, although
he mentions Petty several times. Perhaps it should be mentioned here that Weber’s
(
1930, 1976 ) great work was on Religion and the Rise of Capitalism in which the ideas
and habits of the people played a major role in the Industrial Revolution.
Maloney (
1985 , p. 198, 9) criticizes Parson’s treatment of Marshall’s handling of
evolutionary and ethical questions,
7
as did Matthews (1990, p. 40). Coase ( 1990 ,
p. 164): “Given Marshall’s ‘religion of self respect’ the long run interdependence
and compatibility of economic, social, characterological and ethical changes seemed
assured; and this constituted the basis of Marshall’s belief in the superiority of
late nineteenth-century British society by comparison with both its past, and the
contemporary state of less developed nations”.
Marshall’s praise of the character of the participants in the industrial progress
of the nation stands in contrast to Smith’s tendency to emphasize the undesirable
traits of businessmen. Marshall was more appreciative of the contributions of such
people, despite their faults, and perhaps of the environmental factors shaping
that behaviour.
Contributions
Marshall established economics as a major subject for university study and he laid
out the structure of analysis and programmes for study and research. He established
a high respect for the subject, and his students became professors at other British
7
O’Brien wrote ( 1990 , p. 140) that “economists may have cited [Parsons] a little too uncritically”.
502 E. Beach
universities. Cambridge became the university of choice for those who wished to
study economics and so Keynes had a receptive audience in the 1930s.
We may take notice of specifi c areas of interest to illustrate these statements.
First, we note that he recognized the importance of history in the study of economics.
He had spent some time in Berlin, interested particularly in the German economic
historians, and from Schmoller ( 1884 ) he took the phrase “walking on two feet”.
8
The early editions of his Principles had a good deal of historical material in the early
pages. In later editions he relegated most of this material to an appendix in recogni-
tion of criticisms, though he defended his approach against Cunningham (Marshall
1898 ) . He stated that he was not trying to write history like an historian, but seeking
material that is needed in the building of good economic analysis.
The study of economic history has all but disappeared from graduate studies in
the leading universities. Even the study of the history of economic thought is disap-
pearing, which is most unfortunate, because the history of the treatment of Marshall
after his death illustrates that this history is not a simple linear accumulation, as in
the sciences, but subject to serious aberrations and detours (Loasby
1971 ) .
The current rage for modelling has produced models that are ahistorical, or
worse, anti-historical. A case in point is one produced by Samuelson (
1978 ) on
Adam Smith’s theory of economic growth. Hollander published some well-considered
criticisms 2 years later, but they had no effect on Samuelson’s conviction that he had
captured the essence of Smith. He even went so far as to state that the classical
political economists, Ricardo (
1821 ) and J.S. Mill, did not know much about the
real world. It is interesting to note that the latter was a longtime secretary of the East
India Company and the former had made himself wealthy at an early age on the
London markets, and has a history of notable speeches in the House of Commons.
One of Samuelson’s colleagues, Robert Solow, once suggested (Solow
1965 )
that economics was much like physics in that each had low-powered theory and
high-powered theory. There was an important difference, however, in that young
physicists worked on their low-powered theory before they progressed to more
diffi cult work – and the result had been very gratifying in the progress made in the
understanding of physics. In economics, he said, he would not trust his students
with low-powered theory until they had proven their merit with high-powered the-
ory. Thus, he used abstract, mathematical analysis as a sieve. That is, of course, an
accepted way to test the fundamental intelligence of students. Marshall himself
stated that mathematics was perhaps the best preparation for the study of economics.
But I can think of a number of areas where other studies are also important, and the
theory of economic development is one of them. Moreover, Marshall’s interest in
mathematics did not preclude his ability to appreciate the broader context, as it
seems to have done in many others.
Let us turn now to another area to be considered, that of mathematics itself. I have
long struggled with this subject. In 1957 I published a book on Economic Models in
8
Marshall did a much better job of it than Schmoller who “was extremely hostile to the abstract
axiomatic-deductive method …” (Hagemann and Trautwein
1999 ).
503
19 Alfred Marshall
which I recommended the use of more mathematics in order to sharpen up the
arguments. Since then I have been suggesting more care with its use. I had long
forgotten Marshall’s cautions in the use of mathematics until I turned to his work
later in life. I was surprised to fi nd in his work, not the “static analysis” so often
proclaimed by the critics,
9
but an approach that offers a live, dynamic concept of the
real world. His simple abstractions are for instruction. In order to understand,
repeated readings are necessary. The Prefaces of his Principles are purported to
explain this. A comparison of the fi rst and the eighth are instructive. Of course, the
critics claim that this is but a statement of unfulfi lled hopes. That is not so.
Marshall is, perhaps, himself to blame for some of this misunderstanding because
he stated that the heart of his theory lay in Book V where he presents his static
analysis of a market. He wished to emphasize the importance of the concepts of
equilibrium and equilibrating forces. Careful study of the Principles reveals that he
has much to say about these equilibrating forces, but little is done with the static
concept of an equilibrium position. On page 461 of the 1920 edition we read: “The
theory of stable equilibrium … when pushed to its more … intricate logical conse-
quences … slips away from the conditions of real life … The statical theory of
equilibrium is only an introduction to economic studies; and it is barely even an
introduction to the study of progress and development of industries which show a
tendency to increasing return”.
These points may be brought out by some relevant examples. Pigou’s fi rst and
probably his most important work which became known as The Economics of
Welfare fi rst saw light in 1915 ( Pigou
1920 ). It was Pigou’s re-working of Marshall’s
Chap. 13 of Book V on Maximum Satisfaction. Marshall was very cautious. Pigou
was ambitious. He used the static concepts of supply and demand to derive far-reaching
conclusions.
In 1922 Sraffa expressed his dissatisfaction with Marshall’s analysis and sought
more precise answers. In the course of the article he started with Marshall’s concept
of “free competition”, which is a dynamic concept of people entering and leaving the
markets for their many different reasons. But as Sraffa’s argument progressed, the
concept gradually transformed into the concept of “perfect competition”, a static
concept implying uniformity of price. Sraffa’s conclusion that the monopoly concept
be given more prominence is based upon this static concept. The subsequent publica-
tions by Robinson (
1933 ) and Chamberlin are based on such static concepts.
In 1928 Pigou again illustrated his misunderstanding of Marshall. He suggested
that the concept of “representative fi rm” ( Robbins
1928 ) be replaced by the concept of
“equilibrium fi rm”. The former is a dynamic concept, inserted to simplify the compli-
cations of a moving complex of fi rms growing and failing, making changes daily. The
latter concept kills any hope of dynamic analysis. Pigou’s next goof was his Theory of
Employment during the early depression years. He attempted to analyze employment
with the concept of elasticity. This is certainly a static concept, even though Hicks
9
See for example Hutchison ( 1953 , pp. 79, 80).
504 E. Beach
tried to generalize it to “elasticity of expectations”, with limited success. It is notable
that this book by Pigou was the one which was subjected to severe criticism by Keynes
in his General Theory. Keynes put Marshall in with the “classical” economists, but he
could not fi nd much in Marshall to base his criticisms.
Perhaps an aside may be injected. It is ironic that Pigou was so central in the
growing use of static concepts. He was, after all, Marshall’s choice of a successor to
his chair, much to the discomfort of Marshall’s friend, the economic historian,
Foxwell (Coats
1972 ) . But to Marshall at that time it was important to fi nd a theorist
to continue the momentum, which he had established at Cambridge in the development
of economic theory. Unfortunately, Pigou reduced economic theorizing to a static
level and missed a great opportunity for continuing Marshall’s realistic analysis.
Clearly Pigou could not match Marshall’s talents.
And so Marshall’s analysis has been condemned widely for being static, whereas
it is his successors who have developed static theory. When Harrod (
1946 ) was writing
his lectures on Economic Dynamics, he re-read Marshall and found “no trace” of
the kind of dynamics he expected. By that time Harrod was thinking, like Hicks,
that dynamics was to be found in macroeconomics.
We tend to read his Principles too quickly without really tasting it. After all he
spent long hours in revising the book, with eight editions. We should savour his
words carefully. He thought that it was preferable to meet the arguments of critics
by perfecting his presentation. But it should be noted that his students could not
stand up to Sraffa’s arguments.
It is interesting that two of his students, Robertson (
1930 ) and Shove ( 1930 ) ,
were unable to counter Sraffa’s arguments in the famous symposium. One of them,
Shove (
1933 ) , soon thereafter showed his Marshallian spirit. His 1932 review of
Hicks’ Theory of Wages was important. He notes Hicks’ invention of the “elasticity
of substitution” as a “nice bit of theory” but that it was not suitable for the purpose
of analyzing actual events, as Hicks intended. Hicks felt the criticism and attempted
a revision. This turned out to be in macro terms which Hicks felt represented dynam-
ics. Schumpeter was later to proclaim (Schumpeter
1954 , p. 684) that Hicks’ static
theory of labour substitution stilled the long and bitter argument over the matter of
“compensation” because “it left nothing to argue about”. How wrong he was can be
seen in the continuance of that dispute.
This section may be concluded with more emphasis on Marshall’s sense of realism.
Schumpeter (
1934 ) felt that it was misplaced. Yet his forecasts stand up well relative
to those of Schumpeter (
1942 ), who worried in Capitalism, Socialism and Democracy
that social forces would undermine capitalism. He was too much infl uenced by
Marx’s social dynamics. In that book, before he presents Marx’s dynamics, he has a
chapter on Marshall explaining his concept of Marshall’s dynamics, which is, of
course, quite false.
Schumpeter’s (
1941 ) fascination with Marxian ideas, refl ected again in his
Capitalism, Socialism and Democracy, stands in contrast to the great postwar surge
of capitalist vigour. Schumpeter’s evaluation contrasts with Marshall’s evaluation of
the fundamental weakness of a controlled economy (Marshall
1907 ) that has not
received its share of recognition. Marshall had long been interested in general welfare.
505
19 Alfred Marshall
He had associated with the labour movement and with socialism movements. He
sympathized with the interests of these groups, but felt that their economic analysis
was defi cient. In this 1907 article he stated that if a system were based on altruism
rather than the drive of personal gain, it would fail because the work would not be
done and rules and regulations would increase so as to smother the economy. Thus
he forecasted the downfall of the communist system 10 years before it began.
Other Great Economists
An appreciation of Marshall’s achievements can be expressed by considering his
work in relation to the work of other economists. The contrasts help to clarify some
very important issues in which Marshall’s reach towards realism is crucial. The list
need not be long.
Adam Smith
Smith’s great achievement was the idea of an economic system that has an indepen-
dent existence. Driven by market forces in the hands of energetic and far-sighted
individuals, it builds up and uses economic resources, continually improving tech-
nology, to provide an ever-expanding output. It asks government to provide social
stability and a rule of law, but little more – indeed this new system was created
largely despite laws, limitations and restrictions imposed by oppressive and self-
serving governments. It created a truly middle class, transforming society. A money
economy was created in Western Europe, which spread throughout the world.
Marshall followed Smith’s pattern of a continually unfolding society, driven by
market forces, in which changing technology was an important aspect. Thus he tried
“to present a modern version of old doctrines with the aid of the new work, and with
reference to the new problems, of our own age (
1890, 1920 ) ”.
Karl Marx
There are more of Marxian concerns in the Principles that may be apparent. In the
early pages Marshall states that religion and economics were the two great motivat-
ing forces of mankind. He considers not just how people offer work and consume
goods, but how these activities affect the people, which was an important concern of
Marx (
1867 ) .
Marshall did not give much attention, in his Principles, to Marx. He might have
helped his students if he had considered Marx’s dynamics more specifi cally. Perhaps
he did not consider Marx’s interpretation of economic growth, in terms of accumula-
tion based on greed, to be suffi ciently respectable. Or perhaps he had little sympathy
506 E. Beach
for a Marxian world that was driven by psychological or philosophical forces, with a
sense of certainty, and with little place for market forces with all their irregularity and
unpredictability. Certainly Marx was interested in how a society developed, as was
Marshall, and some comments on Marxian methods and ideas would have been
helpful. After all, the Marxian ideas spread widely and became a powerful force;
and they were being presented to the world at the time that Marshall was forming his.
The contrasts in their approaches and in their results could hardly have been more
emphatic. Marshall was above all realistic. Marx’s forecasts may almost be consid-
ered surrealistic. The “withering away” of the socialist state is perhaps the most
dramatic, contrasting with Marshall’s forecast of the downfall of communism.
Increasing alienation is debatable, with so many people liking their jobs, and the
prospect of increasing choice and mobility in the future. There has been no great
decline in the rate of profi t – except, as competition has tended to limit monopolizing.
Joseph Schumpeter
The work for which he is to be remembered is his theory of economic development.
He was much enamoured with Marx’s dynamics, but he made substantial changes.
Marx’s grasping capitalist became Schumpeter’s entrepreneur with very constructive
implications. The simple reproduction became a circular fl ow; expanded reproduction
became a great leap forward in economic expansion. He kept with Marx’s pessimism,
as seen in a later work, Capitalism, Socialism and Democracy, in contrast with Smith.
His use of the concept of a macro equilibrium circular fl ow was confusing.
It has been claimed that Marshall’s emphasis on continuity has handicapped him
in respect to adjusting to a Schumpeterian expansion (Moss
1982 ) . The latter sug-
gested that simply adding mail coaches would not make a train. However, in order
to encompass a larger scene we need to simply enlarge the scope of the discussion.
In considering the market for the transportation of goods in a certain region, the
movement from horse-drawn wagons to trains is but an incident, like opening a new
canal. Marshall’s concept of economic progress can handle small and large change,
and it should be noted that a multitude of small changes make a large difference.
Some of these changes come in depression times. Salter tells us (
1960 , p. 5) “… in
fact, many experienced observers rate the cumulative effect of small unnoticed
modifi cations and improvements as equally great as the more signifi cant changes
normally regarded as innovations …”
J.M. Keynes
J.M. Keynes’ General Theory ( 1936 ) changed the landscape of economics towards
macroeconomics. A new generation of economists grew up thinking that Keynesian
economics was essentially the whole of economics and that micro theory was but a
small sideshow.
507
19 Alfred Marshall
Keynes had a strong sense of reality as shown in his evaluation of the peace
settlement of the First World War. He later played an important role in post Second
World War monetary and fi scal international arrangements. His path-breaking
General Theory was essentially realistic, recognizing an aspect of economics that
had been neglected, but it was a strange mixture of statics and dynamics, and not
easily understood. It is notable that many interpretations, expressed in models,
emphasized statics, losing much of Keynes’ attempt to emphasize dynamics.
F.A. von Hayek
This Austrian economist is noted for his opposition to Keynes’ ideas. He seems to
have missed the signifi cance of the use of macro variables, lost in the worries about
macro controls (von Hayek
1949, 1954 ) . He is notable for reaching beyond eco-
nomics in the narrow sense. In his writing of the Road to Serfdom (von Hayek
1944,
1972
) , he seems to have been quite unaware of Marshall’s 1907 article. Like his fel-
low compatriot, Schumpeter, he seems to have been out of sympathy with Marshall.
It could be that these continentals felt strongly Marshall’s supposed racial bias. Both
of them could have benefi ted from a true understanding of Marshall’s ideas, and we
would all of us have been better off.
Paul A. Samuelson
Samuelson is a great star of modern times, and he epitomizes the modern trend to
the elaboration of the apparatus of analysis. A key to his thought is that the essence
of a problem may be captured in some precise mathematical formulation, in contrast
to Marshall’s thought that when that abstraction is captured, the student has just
begun his studies of the real problem. Sometimes, Marshall thought, the abstraction
can mislead, and in such a case it should be discarded. Whitaker (
1975 ) tells us that
Marshall had worked out, quite early, a mathematical model of growth, much like
some of the modern ones, but he seems to have discarded it because there is no
vestige of it in his Principles. It would have some descriptive value, but its analytical
value is limited.
Samuelson has argued that exchange and distribution are but facets of the same
thing (1978). Such an argument requires that the elements be in equilibrium and in
real life this is not so. In Marshall’s 1898 article there are quotes to be found that
might be seen as supporting Samuelson’s position. On p. 66 we read: “… I venture
to adhere to the opinion that distribution and exchange are fundamentally the same
problem, looked at from different points of view”. This statement should be read in
the light of the controversies that had taken place over the years, and to be taken as
an attempt to relate these elements as he did in using the scissors to integrate supply
and demand in the case of value theory.
508 E. Beach
An important implication of this difference in analysis is the place of the theory
of value. To Samuelson, the theory of value is central to all economic theory, and
other aspects are derivable from it. For Marshall, economic progress is the “high
theme” and an understanding of the theory of value is an essential step along the
road to understanding how economic progress takes place. The concept of equilib-
rium is a tool to be used with care in analyzing these questions.
Further examples of the difference between the Samuelson and Marshall meth-
ods may be seen in Kuenne (
1967 ) and Frisch ( 1981 ) . Of special interest is
Samuelson’s classical canonical model (1978) in which Smithian growth is said to
reach a plateau. He fi nds enough in The Wealth of Nations to support his theory,
and will not be dissuaded (1980) by Hollander’s careful presentation (
1980 ) of
evidence to the contrary. Dorfman (1991, p. 575) states a version of the Smithian
model, which is that of Samuelson. However, Smith himself casts doubt on this
model when, in discussing “the profi ts of stock” in Book I Chap. 9 writes: “But
this complement [of stock] may be much inferior to what, with other laws and
institutions … might admit of. A country which neglects or despises foreign com-
merce …” He continues in this fashion for many more lines. It should be noted,
also, that the very important opening pages of The Wealth of Nations gives no hint
of such general limitations on growth.
It appears that Samuelson should be regarded as a theorist who is unwilling to
stay long with the grubby details of life. He is, at heart, a simplifi er. In a letter to
Edgeworth (Pigou
1966 , p. 437) Marshall wrote: “… the work of the economist is
to ‘disentangle the interwoven effects of complex causes’; and that for this, general
reasoning is essential, and that a combination of the two sides of the work is ALONE
economics PROPER. Economic theory is, in my opinion, as mischievous an impos-
ter when it claims to be economics proper as is mere crude unanalyzed history”. The
careful statements of the last two chapters of the Principles may be contrasted with
Samuelson’s less useful conclusions. In these two chapters we fi nd the results of
Marshall’s “composition”, his combining abstract theory and observation. There is
much here for those interested in economic progress, but it has been ignored by both
economists and historians.
Assessment
It has been thought that Keynesian theory sealed Marshall’s coffi n. We have not
fully realized how much good macroanalysis must be based on good microanalysis.
Any medical scientist would certainly agree. Microanalysis has been left for
technicians. It should be re-evaluated.
Marshallian economics has been called obsolete. For economists generally his
theory has the reputation of being static, fuzzy and even bankrupt. Such descriptions
are inappropriate. We should turn, rather to Young’s forgotten 1928 presidential
address, which expresses admiration for the two great founders of realistic econom-
ics, Smith and Marshall, and explains misgivings about the work of the technicians
509
19 Alfred Marshall
who were more concerned with the “apparatus” of analysis rather than its substance.
We must ask once again: What is economics? What is needed for its analysis? To
what extent does economics differ from the natural sciences, and how should our
approach differ from theirs?
In recent years there has been a good deal of attention given to differences of
method, but I do not think that these discussions will lead very far until an alternative
can be offered to current approaches. It is being suggested here that such an alterna-
tive can be created on the basis of Marshall’s carefully thought out ideas. We need,
fi rst of all, the concept of an active, dynamic market such as Smith suggested, with a
mixture of exogenous and equilibrating forces, producing changes continually.
Such a market as a strong active force is not the allocating market of Robbins
(
1932 ) , Vickers ( 1995 ) , and others, but a creative force pushing change and prog-
ress. A fall in supply brings alternative supplies. An increase in supply pushes down
prices and leads to increased use of the product. An increase in demand brings more
supply, and a fall in demand puts pressure on producers to lower prices. Inducement
to improve production and provide new products is continuing.
Such an active market is not found in the early chapters of Marshall’s Book V,
because he concentrated on explaining the concept of equilibrium and the equili-
brating forces. Such explaining was probably wise a century ago.
10
A dynamic mar-
ket is seen in the rest of the Principles where the equilibrium condition is little used,
but equilibrating forces are ubiquitous. Students should read carefully the Prefaces,
and especially the Preface to the last, the eighth edition. Then they should be sure to
read the very fi rst chapter of the book, where there will be found material that is
seldom seen in modern textbooks.
In addition there is a need for an understanding of the process of creation of real
capital. When Marshall decided not to discuss money and credit in his Principles, it
became diffi cult for him to produce a model of the process of development.
Schumpeter has fi lled this need, with his portrayal of the expansion periods in
business cycle history. However, his portrayal was fl awed in his attachment to equi-
librium situations, his theory of interest and his emphasis on explosive leaps as
the whole story. This part of the theory of economic development remains to be writ-
ten defi nitively.
It was Marshall who put together the technical analysis that is needed in a more
satisfactory statement of the process of development. That is not to say that his
techniques need not be improved, but the basis has been laid
11
with the help of
Smith’s beginning.
12
Marshall did not think in terms of producing a “model” of
economic development. He wished to explain the nature of economic reasoning,
and economic progress was the “high theme”.
10
Cf. Jevons’s use ( 1871, 1931 ) of A causes B, which causes C.
1 1
Marshall’s contributions include the concepts of representative fi rms and internal and external
economies, which have a place in a Smithian dynamic world. The key role of the businessman
is established.
1 2
Smith’s contributions include the concepts of an active market, technical improvement, and with
continuing change, the need for social and political fl exibility.
510 E. Beach
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513
JG B kh ( d) HdbkfhHi fE iTh h
Introduction
After briefly sketching the life and times of Knut Wicksell, three primary lines of
contribution are examined to illustrate Wicksell’s contemporary relevance. The first
is Wicksell’s treatment of capital and production in relation to the theory of mar-
ginal productivity. The second is Wicksell’s contribution to monetary theory,
economic stability, and coordinationist macroeconomics. The third is Wicksell’s
contribution to just taxation and the theory of public finance. While portions of each
of these three examinations will be purely descriptive, considerable attention will
also be given in each part to some contemporary themes that can plausibly be
claimed to reflect a Wicksellian orientation.
Suppose someone were to compile a list of all economists whose published work
spanned the nineteenth and twentieth centuries, and were then to ask contemporary
economists to rank those earlier economists. I am positive that Knut Wicksell would
appear in the top ten in that subsequent ranking. He would most likely make the top
five, and would surely receive a good number of votes for number one. This strong
reputation was achieved, moreover, by someone who turned to economics only around
the age of 40, and who then pursued economics mostly on a part-time basis because
journalism and social agitation were continually making claims on his time. I shall
begin this presentation by sketching briefly Wicksell’s life and work, after which I
shall describe and examine the three areas of Wicksell’s work that account for most of
his scholarly reputation. These are his contributions to marginal productivity theory,
his integration of capital and money to provide a framework for exploring macro
fluctuations, and his theorizing about public finance and collective action.
I should perhaps note that it is not my intent here to engage in any effort at
historical reconstruction. Rather, my intent is to undertake a form of contemporaneous
R.E. Wagner (*)
Department of Economics, George Mason University, Fairfax, VA 22030, USA
e-mail: [email protected]
Chapter 20
Knut Wicksell and Contemporary
Political Economy
Richard E. Wagner
514 R.E. Wagner
reflection upon some of the places where Wicksell’s work speaks to contemporary
issues in economic theory, thereby placing Wicksell within the “extended present,”
to use a term from Kenneth Boulding (
1971). Let me give a brief illustration of the
distinction I have in mind. David Davidson was a contemporary of Wicksell’s who
engaged in a substantial controversy with Wicksell over the conditions for monetary
stability. Where Wicksell argued that stable prices would promote stability, Davidson
argued that Wicksell’s own framework required falling prices. An effort at historical
construction would seek to bring the reader into the context of those debates, giving
the reader a sense of watching the action unfold. My focus on contemporaneous
reflection would seek only to explore whether Wicksell’s formulations have any
relevance for contemporary discussion.
1
Knut Wicksell’s Life and Work
The facts surrounding Knut Wicksell’s life, while probably more interesting than
those of most economists, can be relayed briefly. He entered this world in 1851, on
the 20th of December. He departed nearly half-way through his 75th year, on the 3rd
of May 1926. He was the youngest of five children, three of whom were girls. His
mother died when he was six. When Knut was ten, his father brought a stepmother
into the house. Five years later, Knut’s father died.
Wicksell was always an outstanding student, and in 1869, he entered the
University of Uppsala. He graduated in 1872, and then continued with advanced
studies in mathematics and physics. In his early ears, Wicksell was religiously
devout and participated regularly in Church services. In his 23rd year, in 1874, he
experienced a crisis of faith, brought on by his belief that he could not reconcile the
claims of religion and the requirements of science. Wicksell chose for science, and
ejected the Church from the rest of his life. He did, however, receive a Christian
burial, though this was his wife’s doing.
Wicksell might have seemed poised on the verge of a scholarly career in 1874, but
this didn’t happen. A quarter of a century would pass before Wicksell would take a
place within the academy. This quarter of a century was a period of energetic activity,
mostly of a journalistic nature. While he continued his mathematical studies, he
became increasingly interested in the neo-Malthusian orientation toward population
questions. Wicksell became increasingly active in lecturing and writing on popula-
tion, immigration, birth control, alcoholism, and a variety of related issues that so
firmly established his standing as a social agitator that he became a subject for
cartoonists. Wicksell’s fervently radical nature did not wane as he aged. In his 57th
year, for instance, he was convicted and imprisoned for 2 months for blasphemy.
2
1
For a contemporary statement of the issues that were joined in this debate, see George Selgin
(
1997).
2
To be sure, Gardlund’s (1958, 249–250) description of Wicksell’s prison quarters creates an
image of a minimun security, country club type of arrangement, where he could have his own
furniture and food. He had to scrub the floor of his cell once a week, and other than that was able
pretty much to read and write as he chose
515
20 Knut Wicksell and Contemporary Political Economy
In late 1885, Wicksell went to London, sponsored by a grant from the Lorén
Foundation. There, he studied such economists as Walras, Jevons, and Gossen, and devel-
oped an appreciation for the application of marginalist theory to economics. He continued
his journalism, but thereafter his attention was drawn increasingly toward economics,
which he continued to pursue by visiting a number of European universities.
In 1893, at age 41, Wicksell saw the publication of his first book-length contribution
to economic theory. This was Value, Capital, and Rent, which quickly became a
well-regarded statement of marginal utility, capital, and the structure of production.
Despite the book’s outstanding achievement, Wicksell recognized that the univer-
sity authorities were not going to award him the doctorate for it. So he changed
fields of study to fiscal law, and wrote a study on tax incidence that brought him the
doctorate in
1895.
3
While turning to the study of law and moving through the curriculum at twice the
normal pace, Wicksell continued to pursue his economic investigations. He published
a second classic-to-be, Interest and Prices, in
1898. This was a substantial statement
on monetary theory, where Wicksell presented his alternative to the quantity theory of
money and developed the distinction between the natural and the loan or market rate
of interest that came quickly to occupy a prominent place in monetary theory. Despite
possessing a publication record that would ensure him a secure place in anyone’s
Economics Hall of Fame, Wicksell still had no academic position, though he was now
getting close. He finally received a docent position in Uppsala in 1899, and then took
a temporary position in Lund in 1900. That position became permanent in 1901, the
same year that the first volume of his Lectures on Political Economy was published.
He stayed there until his retirement in 1916, when he returned to Stockholm.
Wicksell died 10 years later, and his wife, Anna Bugge, whom he married in Paris
in 1889, died 2 years later. They had two sons: Sven, born in 1890, and Finn, born in
1893. Anna and Knut fell upon one of the most painful of life’s possible experiences,
when they had to bury one of their children. This they did in 1913, when Finn,
a 19-year-old medical student at the time, did not survive his fall from a window. Sven,
by contrast, lived to bury both of his parents, surviving his mother by 11 years.
Primary Analytical Contributions
While Wicksell’s contributions to economic analysis are dispersed across more than
100 items, the central features of the contributions on which his reputation rests can
be found in five books. Two of these have already been noted, Value, Capital, and
Rent (1893) and Interest and Prices (1898). Refinements and extensions of the
themes portrayed in those volumes were presented in his two volumes of Lectures
on Political Economy (
1901, 1906), with the first volume exploring value and distri-
bution and the second volume exploring money. The fifth volume was Wicksell’s
contribution to public finance, Finanztheoretische Untersuchungen (
1896).
3
In what was normally a 4-year program of study, Wicksell completed all the requirements in 2 years.
516 R.E. Wagner
This book contained three essays, the second of which made Wicksell a household
word among public finance scholars after it was translated and published as “A New
Principle of Just Taxation” in the Classics in the Theory of Public Finance (
1958),
edited by Richard Musgrave and Alan Peacock.
In the presentation and discussion of Wicksell’s work that follows, I organize
the material into three parts. First, I consider Wicksell’s contribution to theories
of capital, production, and marginal productivity. Wicksell followed Eugon
Böhm-Bawerk (1884–89) in adopting an orientation that conceptualized produc-
tion as a sequence of stages, where consumer goods at the bottom are supported
by a structure of capital goods. Some of those capital goods are close in time to
where they will yield consumer goods, while others are far away. What governs
this structure of production, what might loosely be called the length of the pro-
duction structure, is the rate of time preference held by people within the society
in conjunction with the potential yield from new forms of capital goods. This
Wicksell described in Value, Capital, and Rent, along with further examination
in Lectures on Political Economy, I.
Second, I examine Wicksell’s contribution to money, interest, and economic
stability. In Wicksell’s formulation, as well as in Böhm-Bawerk’s, interest was not
just one more price to take its place with all other market prices. Rather, interest
infused itself throughout the entire network of prices. Indeed, the structure of
production was what it was and not something else, because the rate of interest
was what it was and not something else. For instance, a decline in interest that
followed a fall in time preference would alter the entire structure of prices. This,
in turn, would make the production of relatively higher order capital goods more
profitable relative to lower order capital goods, which would bring about a change
in the structure of production. Monetary changes could thus affect production
relationships throughout a society, through changes in the market rate of interest.
Wicksell’s contributions on these matters are presented in Interest and Prices and
Lectures on Political Economy, II.
Third, I examine Wicksell’s contribution to public finance. His major book on
public finance was published in 1896, Finanztheoretische Untersuchungen. The
first of the books’ three essays undertook an analysis of tax incidence while mak-
ing use of Böhm-Bawerk’s framework of a structure of production. This essay on
tax incidence has been vastly overshadowed by his second essay on a new prin-
ciple of just taxation. This essay asked what kind of institutional framework for
parliamentary governance might make it possible for the state to act as a produc-
tive participant within the economic life of a society. Hardly anyone would dis-
pute the statement that a government should expand its services so long as the
value that is created exceeds the cost that people must bear through the value they
must sacrifice to pay for those services. But how might this situation actually be
achieved? The difficulty of the challenge has led many scholars to avoid it, either
by refusing to examine government or by asserting that the appropriate budgetary
magnitudes are tautologically those that governments establish. In contrast to
those scholars, Wicksell approached the topic directly. He advanced an institutional
517
20 Knut Wicksell and Contemporary Political Economy
framework for accomplishing this end, and in so doing showed how the Pareto
principle could be made applicable to the state, which is something that Pareto did
not think possible.
4
Capital, Production, and Stationary States
A huge turn-of-the-century controversy developed among economists over the laws
of return.
5
The marginal productivity theory of factor pricing held that the prices
paid to inputs were equal to the values of their marginal products. All units of a like
input receive the price received by the marginal input. This formulation brought the
problem of adding up or product exhaustion to the foreground of analytical attention.
Let total output be produced by the two inputs, labor and capital. Each unit of labor
is priced at its marginal product, and so is each unit of capital. The total amount paid
to labor is the product of the marginal product of labor and the amount of labor.
Similarly, the total amount paid to capital is the product of the marginal product of
capital and the amount of capital.
The problem of product exhaustion concerns whether the total amount paid to
the inputs adds up to the total amount of product. Logically, there are three possi-
bilities. One is where input payments are exactly equal to the total product. This
would seem to be a happy situation, much like a clerk whose cash box balances at
the end of a day. As with the case of the clerk, there are two situations that are not
so conducive to a restful repose. One is over-exhaustion of the product. Not enough
product is available for factors to be paid according to their marginal products.
People will have to accept less than the values of their marginal products to cover
the deficiency. The other unhappy situation is under-exhaustion. In this case, there
is product left over after factors have been paid according to their marginal
products. There is a surplus value for someone to capture or otherwise distribute.
The theorists of the time were attracted to the nice properties of exact exhaustion.
A regime of free competition would seem more pleasant if it turned out that pay-
ments according to marginal productivity were to equal exactly the amount pro-
duced within the economy. A theorem from Euler showed that this would happen if
output in a society were generated according to a production function that was lin-
ear and homogeneous. The aggregate production function acquired significance in
economic discourse that it has never lost, despite its obviously fictive character.
Where some authors were content to postulate linear homogeneity as an assumption
and proceed, Wicksell took the argument further. Suppose exact exhaustion did not
prevail. This would mean that some people were getting too much or too little, in
comparison with their marginal products. Under free competition, this situation was
4
On Wicksell and Pareto in this respect, see Hennipman (1982). More generally on the Pareto
principle, see Backhaus (
1980). For a general treatment of Wicksell’s thought, see Uhr (1960).
5
The various historical contributions are presented and assessed in George Stigler (1941).
518 R.E. Wagner
not consistent with a stationary state. People would be repelled from situations
where they were asked to take less than their marginal products. They would be
attracted into situations where they could receive more than their marginal products.
Hence, a stationary equilibrium will require product exhaustion. This does not
require some production function to be linearly homogeneous, but only that an
existing production function shares a point of tangency with such a function.
Product exhaustion under free competition was thought by many to be an impor-
tant attribute of a social order based on free competition. Many of the turn-of-the-
century economists participated in the controversy over marginal productivity
ethics, as illustrated by a claim to the effect that justice resides in free competition
and a linearly homogeneous production function. Such notables as Leon Walras,
Vilfredo Pareto, and John Bates Clark argued that free competition was a process
that maximized welfare within a society. If each trade improves the welfare of the
traders, and if free competition is just a name for a gigantic network of such trades,
it would seem tempting to advance such a claim.
Wicksell did not join those who advanced this claim. He rejected marginal productiv-
ity ethics on the grounds of what is now known as the second theorem of welfare
economics. The first theorem reflects what was just stated, namely that free competition
generates an allocation of resources where it is impossible to make one person better off
without making someone else worse off. The second theorem states that there are an
indefinite number of such competitive allocations, with one such allocation being
transformable into another through an appropriate set of lump sum taxes and transfers.
The second theorem makes any welfare evaluation of free competition contingent upon
an evaluation of the initial starting points possessed by the various participants.
The tenacious hold of marginal productivity theory on the allegiance of econo-
mists is simultaneously troubling and instructive. It is troubling because of its read-
ily apparent inadequacies. It is a totally logical construction that is disconnected
from any movement of a society through time. To be sure, stationary state modeling
commanded stronger allegiance among economists a century ago than it does now.
Wicksell, for his part, seemed to think that a model of a stationary state was not too
bad of an approximation. He thought that the nineteenth century was a period of
rapid invention that was not likely to be repeated in the future. It is notable that
marginal productivity theory has been subject to precious little effort at direct
testing that would develop independent estimates of marginal productivity and
check those observations against actual factor payments. To the contrary, their typical
procedure is to take observed factor payments as a measure of marginal products.
At the same time, the experience with the survival of marginal productivity theory
provides excellent instruction about the often-made point that it takes a theory, not a
criticism, to displace a theory. While marginal productivity theory has no independent
claim to scientific validity, it is an essential building block in the edifice of contempo-
rary general equilibrium theory. Take away marginal productivity theory, and theo-
ries concerning factor markets and business firms loose their explanatory punch.
While Wicksell developed his analysis of marginal productivity within the
framework of a stationary state, he also worked with the notion of a structure of
production. Within a stationary state, however, a structure of production adds nothing
519
20 Knut Wicksell and Contemporary Political Economy
but analytical clutter. Consider a simple process where wine is aged 8 years before
it is consumed. In the stationary setting, wine that is 8 years old is replaced each
year by new wine, with the older wine then consumed. A Böhm-Bawerkian or
Wicksellian production function would state that
,,,XfLKt
where L denotes
labor input, K capital input, and t the passing of time.
In the stationary state, however, the incorporation of time adds complexity
without changing anything else, and so, following the razor principle articulated by
William of Ockham, time should be dropped from consideration. In the same year
that new wine is laid down, wine that is 8 years old is consumed. The production of
wine can be written more simply as
,.XfLK
This ability to eliminate time
from a structure of production, and to characterize the process of production as a
circular flow instead, was articulated strongly by Joseph Schumpeter (
1934) in his
Theory of Economic Development. The economics of stationary states generated far
greater analytical tractability with the mathematical techniques that economists were
using, which may help to give some account for the popularity of stationary state
economics throughout the twentieth century. To do this, of course, is to allow eco-
nomics to be driven by its techniques rather than by its phenomena.
6
A focus on a structure of production in place of a circular flow requires a vision
of the economic process other than that of a stationary state. The methods that
economists have used throughout most of the twentieth century, however, were
more suitable for the examination of equilibrium stationary states. With the growing
interest in evolutionary and other forms of non-equilibrium modeling that is now
underway, I think it is quite likely that economists will come more fully to incorpo-
rate structural formulations of production into their models.
7
Money, Interest, and a Coordinationist Macroeconomics
The structure of production within a society is governed by time preferences and the
opportunities for the productive employment of capital. Consider such an elemental
aspect of life as the ability to consume potable water. The supply of potable water
that is available within a society can be expanded by the development of bottling
facilities, the construction of reservoirs, and through research into such matters as
the treatment and recycling of waste water and technologies for reducing evaporation.
An expansion in bottling capacity will result pretty quickly in an increased
availability of water. The construction of a reservoir will require a longer wait
before increased water is available for consumption. The creation of a laboratory to
6
Schumpeter, to be sure, did not take a stationary state seriously as a description of reality. Rather
he had a modeling strategy were a stationary state was continually punctuated by episodes of
entrepreneurial creativity.
7
For one interesting effort to pursue non-equilibrium, as distinct from either equilibrium or dis-
equilibrium, see Donald Katzner (
1998).
520 R.E. Wagner
conduct research into methods of treatment, and the technologies to implement
those methods, will involve a still longer period before the fruits show up in an
increased availability of water for current consumption. Research into evaporation
may take even longer to yield increased supplies of potable water.
What governs the concrete structure of production within a society is the willing-
ness of people to delay consumption, which is represented by time preference, in
relation to the returns from doing so. A society whose members truly believed that
the end of the world was at hand would construct neither laboratories nor reservoirs.
Whether water might be bottled would depend on just what concrete duration “at
hand” might refer to. In any case, lower rates of time preference within a society
would correspond generally to a structure of production that included a larger num-
ber of projects whose contribution to consumption resided in the future.
8
Time pref-
erence would also play a part in governing such things as how many resources are
placed into bottling and otherwise storing water, relative to resources placed into
such activities as research into water purification or evaporation.
To this framework of a structure of production, Wicksell postulated the existence
of two distinct rates of interest. One was the natural rate of interest. This is a purely
analytical construct, as distinct from the interest rates that can be observed directly
on the financial pages of newspapers. It is the rate of interest that would generate an
equilibrium structure or pattern of production in light of time preferences and the
returns from the creation of capital goods. As an exercise in comparative statics, a
fall in the natural rate of interest would lead to a deepening of the structure of pro-
duction, whereas a rise would lead to a more shallow structure of production.
The natural rate of interest is a kind of analytical foil that accepts the contempo-
rary convention among economists that the real economy can be directly accessed
independently of money-assisted inference. There is no room in this formulation for
any recognition that money, like language, is a tool for reasoned thought. This con-
struction leads to a general equilibrium theory of a barter economy, where money is
introduced as an afterthought. The reality, of course, is that modern economic life
would have been impossible without money, just as it would have been impossible
without language. This formulation in terms of a general equilibrium of the real
economy injects a massive fiction to attain analytical tractability, though the nature
of this tradeoff is much clearer now than it was a century ago.
9
The natural rate of interest is the imagined rate of interest that secures equilibrium
within the structure of production, as this was modeled in the barter economy of
general equilibrium theory. Within this equilibrium constellation of relationships,
8
I think it is possible to acknowledge the general validity of this orientation toward a time structure
of production without professing any ability actually to develop some measure of the average
period of production within a society.
9
Ulrich Witt (1997) explains that F. A. Hayek fell into the same trap in his neo-Wicksellian for-
mulation of business cycle theory. He started from a model of general equilibrium, as that was the
only option that was available at the time. This point of departure was, however, inconsistent with
his work on the use of knowledge in society, particularly when put in the context of a process of
continual development, which he came subsequently to pursue.
521
20 Knut Wicksell and Contemporary Political Economy
the market rate of interest on actual loans would equal the natural rate of interest.
This equality was invoked as a necessary condition for equilibrium, just as product
exhaustion was invoked as a necessary condition for equilibrium.
Anything that disturbed the equality between the natural and loan rates of interest
would disturb the stationary equilibrium. Any divergence between the two rates would
set in motion a process of expansion or contraction. Which would occur would
depend on the direction of divergence. For instance, the invention of new tech-
nologies might increase the natural rate of interest. With a loan rate that now pro-
vided entrepreneurs with profitable borrowing opportunities that were not there
prior to the invention of the new technologies, a capital expansion will take place,
and will continue until the two rates are restored to equality once again. Wicksell’s
analytics in Interest and Prices were of real changes that led to changes in the structure
of production.
Wicksell’s work on capital and money helped to generate a new approach to the
explanation of business cycles. Ludwig von Mises (
1934) took the step in 1912, in
his Theory of Money and Credit, of letting the divergence of interest rates start from
an expansion in bank credit. In this case, what resulted was a change in the structure
of production that was only temporary. Hayek (
1932, 1935) extended this neo-
Wicksellian approach to business cycles in Monetary Theory and the Trade Cycle
and Prices and Production. Arising around the same time as this Austrian literature
on business cycles was a Swedish literature that was developed by such scholars as
Erik Lindahl, Gunnar Myrdal, and Erik Lundberg.
Both the Swedish and Austrian formulations of business cycle theory can be rea-
sonably designated as neo-Wicksellian enterprises. After the 1976 Nobel Prize was
awarded jointly to Myrdal and Hayek, I recall hearing and reading a number of com-
mentaries to the effect that this was an award grounded in lunacy. The reasons for this
alleged lunacy, however, were based on the political orientations of the mid-1970.
Myrdal was a social democrat. Hayek was a liberal in the classic tradition, or what
these days is called a libertarian in the US. In the 1930, however, Myrdal and Hayek
shared a similar orientation toward economic instability. At base, instability was
rooted in pricing problems due to the operation of money and credit that led to mis-
coordination in saving-investment relationships. Business cycles were conceptualized
as products of miscoordination among market participants. Whereas we normally assert
that market prices facilitate economic coordination, the neo-Wicksellian approach
to cycles sought to explore how market prices might generate miscoordination.
In the business cycle literature in the 1930, the Austrian and Swedish contribu-
tions commanded strong professional respect. This can be seen clearly by consult-
ing such treatises as Gottfried Haberler (
1937) and Alec Macfie (1934). To be sure,
these were not the only approaches that were discussed at that time. A version of
monetarism, associated particularly strongly with Ralph Hawtry, also commanded
professional respect. Twenty years later, the length of time that Rip van Winkle
napped, the professional landscape had changed dramatically. The Austrian
and Swedish approaches had disappeared from the analytical radar screens of
economists. Monetarism was still present, and now the Keynesian formulations also
had a mighty presence.
522 R.E. Wagner
This sudden change in 20 years is surely somewhat of a mystery, at least if it is
approached in terms of conventional notions about scientific procedure. Early in
this century, people believed in Piltdown Man. But those beliefs quickly vanished in
the face of massively disconfirming evidence that revealed the original story to have
been a hoax. There is nothing about the Great Depression, however, that constitutes
strong disconfirmation of the Austrian or Swedish formulations. There is nothing
about the Great Depression that would reveal obviously superior explanatory pow-
ers for monetarist or Keynesian formulations than for the Swedish or Austrian for-
mulations. And yet a description of the intellectual landscape written in the 1950
would differ dramatically from one written in the 1930.
10
It could be argued that the Keynesian orientation incorporated the Austrian and
Swedish orientations. After all, Keynes also located cycles as stemming from misco-
ordinations between saving and investment. This much is true. Yet there are also vast
differences between the two orientations. The Keynesian orientation divorces the
micro and macro realms, whereas the Austrian and Swedish orientations seek to
weave them into a seamless garment. For instance, Erik Lindahl (
1939, pp. 51–53)
distinguished micro from macro very differently than is done now. Micro referred to
individuals, whereas macro referred to all forms of interaction among individual units.
In this Swedish-Austrian orientation, macro emerges out of micro interactions. One
macro variable never acts directly upon another macro variable, for any such action is
intermediated through micro relationships. To be sure, there are a number of signs of
a growing awareness of bringing genuine coordination problems back into macro
theory, a good illustration of which is Leijonhufvud (
1981). I think there is a good
chance that people describing the state of business cycle theory 20 years hence will
refer once again to a neo-Wicksellian frame of reference, in one fashion or another.
11
Just Taxation and the Theory of Public Finance
Two principle approaches to public finance can be identified today, and Knut
Wicksell stands as the primary source of influence over one of those approaches. If
those two approaches were to be identified in terms of economists who wrote a
century ago, they could well be identified as the Edgeworthian and Wicksellian
approaches. The Edgeworthian approach to public finance locates the state outside
the economic process. The state is construed as an entity that intervenes into the
economy to promote its purposes; however, these might be defined. Usually, these
purposes are defined in terms of some notion of maximizing a social welfare function.
In any case, and most significantly, the phenomena of public finance arise out of the
choices of some maximizing entity and represent interventions into the economy to
bring about different outcomes from what would otherwise have resulted.
10
One such description that first appeared in 1952 is Robert Gordon (1961).
11
I expand upon this belief in Wagner (1999).
523
20 Knut Wicksell and Contemporary Political Economy
The Wicksellian approach construes the state as a participant within the eco-
nomic process. The state itself is a process or a framework of rules and procedures
that governs human relationships. Fiscal phenomena do not result from the optimiz-
ing choices of some exogenous being, but rather emerge through interactions among
participants within various fiscal and political processes. Those interactions, in turn,
are shaped and constrained by a variety of conventions, institutions, and organiza-
tional rules. Fiscal phenomena, like market phenomena, are catallactical and not
choice theoretic phenomena.
12
The size and extent of governmental activity, within
the Wicksellian orientation, is to be explained with references to the same principles
that are used to explain other features of economic activity within a society. The
same categories of utility, cost, demand, supply, productivity, and the like are to be
brought to bear upon the explanation of fiscal phenomena as are brought to bear on
the explanation of market phenomena.
Wicksell’s particular institutional interest was his effort to describe a network of
institutional relationships that would make it possible for people in their capacities as
taxpayers reasonably to say that their tax monies were directed as they wished. The
ability for people to say this would locate government on the same plane as other
economic participants. Wicksell assumed that through proportional representation it
would be possible to select a parliament that would serve reasonably well as a min-
iature model of the Swedish population. If this parliament were then bound by a rule
of unanimity, its decisions would conform closely to unanimity within the underly-
ing population. The state would participate within the economic process on the same
terms as other participants. Its size relative to that of other organizations in society
would depend on the effectiveness of its officers in gaining acceptance for proposals
in parliament, relative to the ability of other producers to gain favor from people.
Wicksell did not truly advocate a rule of unanimity. Rather he articulated a principle
of unanimity, which he relaxed to a practical rule of approximate unanimity, which he
illustrated by such notions as three-quarters and seven-eighths. Wicksell recognized that
this shift to approximate unanimity involved the creation of a tradeoff. True unanimity
would insure that people would not have to pay taxes for activities they were not willing
to support. But it would also prove costly to any effort of trying truly to work out
arrangements for collective support. Some modest movement away from unanimity
might, Wicksell thought, be a reasonable compromise to expediency. James Buchanan
and Gordon Tullock (
1962) subsequently converted this compromise to expediency into
a framework for constitutional analysis, and which can be traced through to the
contemporary scholarship on public choice and constitutional economics.
13
The Wicksellian tradeoff, as adumbrated by Buchanan and Tullock, shows some
important affinities between constitutional theory and statistical decision theory.
Within the framework of decision theory, there are two kinds of error. A proposition
12
I should note that I am not using catallactical as a synonym for voluntary, but as an antonym for
choice. Fiscal phenomena involve a mixture of exchange and duress, both of which I regard as
catallactical, as distinct from choice-theoretic phenomena. See, for instance, Backhaus (
1992)
and Wagner (
1997).
13
For an examination of the relation between Wicksell, Buchanan and Tullock, and contemporary
scholarship on public choice and constitutional economics, see Richard Wagner (
1988).
524 R.E. Wagner
can be called true when it is false, or it can be called false when it is true. The chance
of making one type of error can be reduced by imposing more stringent require-
ments, but this necessarily brings with it an increased chance of making the other
type of error. Perfection is not possible. Errors will be unavoidable, and all that can
be controlled is the relative mixture of the two types of error.
What holds for decision theory holds for the conduct of the state as well. In the
limit, a rule of complete unanimity will prevent the error of undertaking expenditure
programs that are not judged to be worthwhile to taxpayers. Unanimity will also,
however, lead to a failure to undertake some volume of programs that would have
been worthwhile to taxpayers, only they became buried beneath the complexities and
strategies of complex bargaining processes. A reduction in the degree of consent that
is required to undertake collective action reduces the error of failing to undertake
beneficial activities. At the same time, however, it necessarily increases the error of
undertaking activities that were not worthwhile to taxpayers, as against being worth-
while only to subsets of taxpayers because the costs were placed on others.
The Present Value of the Wicksellian Legacy
With the passing of time, a scholar’s influence must almost invariably wane.
Even if the scholar is dealing with eternal conundrums, his influence will almost
surely diminish as new scholars come to insert their efforts into the world. Some
of this will be due to new formulations, and some will be due to the development
of new technologies for thinking. In any case, a scholar’s influence is a wasting
asset. Very few old books in the libraries find readers, and this is as it must and
should be.
While Wicksell is less influential than he was a century ago, he continues none-
theless to exert a notable influence over significant precincts within economic schol-
arship, even if that influence is not always be recognized by contemporary
practitioners. This influence is surely most notable in public finance, particularly
that portion associated with public choice and constitutional economics. This influ-
ence, of course, does not reside so much in the details of Wicksell’s own analytical
models as in his orientation toward his subject matter. Wicksell’s influence likewise
remains notable in matters concerning money and the macroeconomy. This influ-
ence, moreover, may well experience some expansion in coming years, if coordina-
tion comes to exert an increasing claim upon the attention of economists concerned
with explaining general economic conditions.
References
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Backhaus JG (1992) The state as a club. J Publ Fin Publ Choice 10:3–16
von Böhm-Bawerk E (1959) Capital and interest, 3 vols. Libertarian, South Holland, IL [orig. ed.
1884–1889]
525
20 Knut Wicksell and Contemporary Political Economy
Boulding KE (1971) After Samuelson, who needs Adam Smith? Hist Polit Econ 3(Fall):225–237
Buchanan JM, Tullock G (1962) The calculus of consent. University of Michigan Press, Ann
Arbor
Gardlund T (1958) The life of Knut Wicksell. Almqvist & Wiksell, Stockholm
Gordon RA (1961) Business fluctuations, 2nd edn. Harper & Row, New York [orig. ed. 1952]
Haberler G (1964) Prosperity and depression, 5th edn. Allen & Unwin, London [orig. ed. 1937]
Hayek FA (1935) Prices and production, 2nd edn. Routledge and Kegan Paul, London
Hayek FA (1932) Monetary theory and the trade cycle. Harcourt, Brace, New York
Hennipman P (1982) Wicksell and Pareto: their relationship in the theory of public finance. Hist of
Polit Econ 14(1):37–64
Katzner DW (1998) Time, ignorance, and uncertainty in economic models. University of Michigan
Press, Ann Arbor
Leijonhufvud A (1981) Information and coordination. Oxford University Press, New York
Lindahl E (1939) Studies in the theory of money and capital. Farrar & Rinehart, New York
Macfie A (1934) Theories of the trade cycle. Macmillan, London
von Mises L (1934) The theory of money and credit. Jonathan Cape, London [orig. ed 1912]
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Selgin G (1997) Less than zero: the case for a falling price level in a growing economy. Institute of
Economic Affairs, London
Stigler GJ (1941) Production and distribution theories. Macmillan, New York
Uhr CG (1960) Economic doctrines of Knut Wicksell. University of California Press, Berkeley
Wagner RE (1999) Austrian cycle theory: saving the wheat while discarding the chaff. Rev Austrian
Econ 12:65–80
Wagner RE (1997) Choice, exchange, and public finance. Am Econ Rev, Proceedings 87:160–163
Wagner RE (1988) The calculus of consent: a Wicksellian retrospective. Publ Choice 56:153–66
Wicksell K (1954) Value, capital, and rent. Macmillan, London [orig. ed, 1893]
Wicksell K (1936) Interest and prices. Macmillan, London [orig. ed, 1898]
Wicksell K (1958) A new principle of just taxation. In: Musgrave RA, Peacock AT (eds) Classics
in the theory of public finance. Macmillan, London, pp 72–118
Wicksell K (1896) Finanztheoretische Untersuchungen debst Darstellung und Kritik des
Steuersystems Schwedens. Gustav Fischer, Jena
Wicksell K (1901, 1906) Lectures on political economy, 2 vols. Routledge & Kegan Paul, London
Witt U (1997) The Hayekian puzzle: spontaneous order and the business cycle. Scot J Polit Econ
44:44–58
527JG B kh ( d) HdbkfhHi fE i Th h
Introduction
1
The “conception of capitalism as a historical formation with distinctive political and
cultural as well as economic properties derives from the work of those relatively few
economists interested in capitalism as a “stage” of social evolution. In addition to
the seminal work of Marx and the literature that his work has inspired, the concep-
tion draws on the writings of Smith, Mill, Veblen, Schumpeter and a number of
sociologists and historians, notably among them, Weber and Braudel. The majority
of present-day economists do not use so broad a canvas, concentrating on capitalism
as a market system, with the consequence of emphasizing its functional rather than
its institutional or constitutive aspects” (Heilbroner
1988 , p 350b).
His opus magnum, Der moderne Kapitalismus (1863–1941), also tries to analyse
(the development of) capitalism as a historical phenomenon with distinctive politi-
cal, cultural and economic properties (Sombart 1916–1927,
1987 ). The third vol-
ume of his modern capitalism was completed in 1927 and is often considered as the
most comprehensive synthesis of the research of the historical school. As the last
major representative of the youngest historical school, he stood in the tradition of
“theoretical historicism … , a synthesis between historical empiricism and theoreti-
cal economics … Sombart’s principal interest was in the great tendencies of capital-
ist evolution, including the evolution of its institutions in time” (Chaloupek
1999 ,
pp 467, 470).
H. Peukert (*)
Faculty of Economics, Law and Social Science , University of Erfurt ,
Westerwaldstrasse 38 a , 99089 Erfurt , Germany
e-mail: [email protected]
Chapter 21
Werner Sombart
Helge Peukert
1
Many thanks to J. Backhaus for discussions and translations and to H. Bruhns for discussions and
a grant at the CNRS (Maison de l’homme) in Paris to write this paper.
528 H. Peukert
Sombart is missing in Heilbroner’s list and this is not surprising because his
oeuvre is very often neglected, criticized and rejected.
2
There are several reasons for
his bad personal and scientifi c reputation. One criticism is that he changed his basic
orientation several times, especially his alleged switch from the support of social
reform to a conservative cultural critique at the turn of the century.
3
Another point
is his never-ending production of new hypotheses without delivering suffi cient
empirical support, especially what the emerging conditions of capitalism are con-
cerned, often combined with the allegation of insuffi cient analytical rigour, e.g.
compared with Weber (Lehmann
1996 , Chap. 6). Others are wondering if he ever
escaped being “only” an economic historian in the tradition of the historical school
(Stölting
1986 , pp 109–110; Schefold 1992 , p 314).
A major point may also be his temporary support for national socialism, and in
fact, there are absolutely no excuses for his irresponsible Bohemian fl irtations.
4
A fi nal and in our opinion very important aspect of the prevailing more or less open
aversion against Sombart is the simple fact that Sombart – and this is a constant in
all of his writings – opposed liberalism and capitalism
5
and many if not most
social scientists today hold the opposite view (see his critical remark in 1987, II,
p 1137). For all these reasons, Sombart’s work is relatively neglected. No complete
bibliography of his writings exists,
6
not even a selected version of his many essays is
2
See for example from a Marxist-Leninist standpoint (Krause 1962 ; Pasemann 1985 ). But see also
the more positive reviews and discussions in Brocke (
1973 ), Schepansky ( 1979 ), Bobek ( 1979 ),
Schmidt (
1991 ), Grundmann and Stehr ( 1997 ), Glombowski ( 1998 ), and Backhaus ( 1996 , 2000 ).
3
See for example Harris ( 1942 ); Wayne ( 1950 ; Herf ( 1984 , pp 130–151; Loader and Tilman ( 1995 ;
Sieferle (
1995 , pp 74–105; Genett 1998 ). See also Mitzman’s thesis 1987 and 1988 of Sombart’s
collapse into kitsch-Nietzscheanism or Nietzschean Herrenmoral , and vöilkisch sentimentalism.
But compare the excellent study by Lebovics (
1969 , especially pp 49–78) who puts Sombart
besides Salin, Spann, Fired et al. in the German context of social conservatism to rescue the middle
classes. “Social conservatives were not crypto-Nazis; rather, the Nazis were vulgar social conser-
vatives” (
1969 , p 10).
4
For Sombart’s attitude from a sociological background, see Rammstedt ( 1986 , pp 55, 64, 74, 79,
95, 109–112). On the one hand, he underlines Sombart’s euphoric support for national socialism in
his letter to Plenge dated 24 September 1933 on p 79, fn. 60; on the other hand, he shows that in
1934 his enthusiasm already vanished and that after 1936 he openly criticized for example Freyer
for his substitution of sociology into Volkskunde as bad metaphysics, see Rammstedt (
1986 , p 74,
fn. 40). Against the common downplaying of the general Gleichschaltung of sociology after 1933,
Rammstedt (
1988 shows that the opposite is true. It should be mentioned that Sombart never
adapted to national socialism in an opportunist way in his writings. For Sombart’s extremely chau-
vinist position especially during the war, see Lenger (Lenger
1996 , 1997a , b ), and Lübbe ( 1963 ,
pp 207–219).
5
As we will see below, this is not to say that he was a “Marxist” or social democrat before 1900
which was his stigma at the time and may have coincided with his preference to épater le bourgeois .
In fact, six nominations for professorship have been turned down by the grand duke of Baden
mainly for this reason.
6
See Brocke ( 1987 , pp 435–443); Appel ( 1992 , pp 275–284; Lenger ( 1994 , pp 513–523); Backhaus
(
1996 , pp 359–367); and the reviews by Chaloupek ( 1994a , b , 1995a , b ). These contributions also
demonstrate a growing interest in Sombart in the 1980s and 1990s, mainly what his biography and
selected parts of his work are concerned. See also Blaug (
1992 ).
529
21 Werner Sombart
published in a critical edition; his modern capitalism was not published in English.
But Sombart is also considered as a founder of economic sociology (Reinhold et al.
1997 , pp 15–17). He was also admired for his style of writing, his universal knowl-
edge in the social sciences and humanities, his original and manifold hypotheses and
his quality as a speaker.
7
Taking this sceptical attitude as our starting point, we will fi rst give a short over-
view of Sombart’s life and discuss his fi rst scientifi c contribution and ask if we can
fi nd some overarching continuing principles that are the basis of his further research.
8
We will also have to include his specifi c early version of socialism and follow his
intellectual development regarding social reform. To fully grasp his endeavour, we
will proceed by a backward induction and start with his anthropology (1938, the
distribution had been limited by censorship) and sociology (1923 ff.). Third, we will
study his methodology (
1930 ) . A central part will then be the analysis of his specifi c
version of “theoretical historicism” in his modern capitalism: is his analysis analyti-
cally rigorous, is it only historical, what does “theoretical” mean for Sombart? We
will further ask what his version of national socialism (
1934 ) exactly is about and
how he saw the future of capitalism at his time. Finally, we will ask if his analytical
concept and his social and cultural critiques of capitalism are still relevant for social
research today.
Sombart’s Life and His First Study
Sombart was born in 1863 in Ermsleben in Prussia.
9
He studied political economy
(Staatswissenschaften), history and philosophy at the universities of Berlin, Pisa
and Rome. His dissertation, supervised by Schmoller, the heir of the younger his-
torical school, was on tenancy and labour relations in the Roman campagna. His
father Ludwig made a career and became a sugar industrialist who bought a manor
to realize the agrarian ideal of inner colonization. He surely infl uenced Sombart in
the choice of his Ph.D. thesis. He was a co-founder of the Ve re in für Socialpolitik
and member of the Reichstag , whereas Werner became the Verein’s president after
1932 and was engaged in communal policy in Breslau. W. Sombart was a later child
and the atmosphere in his father’s house was liberal and upper middle class. From
1888 to 1890, Werner was syndic at the Board of Trade in Bremen.
7
His public lectures were so impressive that they were the subject of conversation even ten years
later by the inmates of the Dachau concentration camp, see Rost (
1999 , p 88).
8
For reasons of space, we will not discuss the comparative “Sombart-Weber-spirit of capitalism”
debate, see for example Parsons (
1928 , 1929); Fechner ( 1929 ); Leich ( 1957 ); Kraft ( 1961 ) ;
Fleischmann (
1981 ); Bruhns ( 1985 , 1987 ); Mitzman ( 1987 , 1988 ); Rehberg ( 1989 ); Joas ( 1989 ) ;
Töttö (
1991 ); Fishman ( 1994 ); Tyrell ( 1994 ); and for a comparison and comment on Weber’s think-
ing on Sombart in his protestant ethics see Lichtblau and Weiß (
1993 ). We will also neglect the
reception of Sombart in specifi c countries, for France see for example Bruhns and Haupt (
1990 ) .
9
Sombart’s life is described in the literature mentioned in fn. 4; see also N. Sombart ( 1984 ).
530 H. Peukert
Since 1888, he was married with F. Genzmer who died in 1920. They had four
daughters, but it was no happy marriage (especially after 1900); one great love was
M. Briesemeister. In 1890, Sombart got the extraordinary professorship at Breslau
University, thanks to Althoff. He had no habilitation and only the campagna book
was published. In Breslau, he was professor, active citizen, communal politician and
very engaged in active social policy. In 1900, he supported the formation of the
Internationale Vereinigung für gesetzlichen Arbeiterschutz in Paris, and in 1903,
he formulated the statues of the Gesellschaft für soziale Reform . He read Marx
since 1890 and he carried out many factory visits with his students and made
precise descriptions of the situation of the home-workers.
He lived in an elegant house in a residential suburb, and in 1909, bought a park
and a villa in Oberschreiberhau (Riesengebirge) where he usually wrote in solitude
from eleven at night until fi ve in the morning. When he sold park and villa in 1919,
the money value was reduced to zero, and some days later, the German infl ation set
in. Also due to his famous Sozialismus und soziale Bewegung (
1896 , nine editions
by 1923), he only got an ordinary professorship at Berlin University in 1917.
Already in 1906, he became professor at the new business school (Handelshochschule)
in Berlin, but he was not authorized to teach at Berlin University. In 1922, he mar-
ried his Romanian student C. Leon who was 30 years younger. They inhabited a
villa in the Grunewald with an impressive library which was later sold to Osaka. He
retired in 1933, but gave lectures until 1940. Sometimes he had to teach in the new
auditorium and fi lled the 1,400 seats. In Berlin, he was also privy councillor
(Geheimer Regierungsrat). Sombart had some key positions as president of the
Verein since 1932, due to his activities in the Soziale Reformgesellschaft , as a co-
editor of the Archiv für Sozialwissenschaft und Sozialpolitik, and as one of the most
active and important members of the Deutsche Gesellschaft für Soziologie.
10
Among Sombart’s friends were O. Braun, O. Lang, F. Tönnies, M. Scheler, and
C. Hauptmann. In more than one respect, he was a typical savant of Wilhelmian
Germany: he had intensive contacts to artists. He was conservative. He acquired a
broad humanist education. He was elitist, and privileged, and belonged to the upper
class (at least until the end of World War I, his income was exceptionally high also
thanks to the lecture fees and publication allowances). The contradictions of the
mandarins of that period are especially pronounced in Sombart: he proclaimed not
to believe in God, kings or morals and at the same time he praised the good old
German customs. He was in principle a defender of civilized family life and at the
same time he thought proper to need strong impulses and diversion in sexual matters
from time to time. In Breslau, he was in favour of social egalitarian policy (e.g.
public home-building); at the same time he was against public transport (a trolley
line) in the street where he lived (noise). He was a supporter of social policy, but he
never became member of the social democrats (SPD) and he was in favour of the
military naval expansion program.
10
See Käsler ( 1984 ) , especially pp 35–37, 41–54, and 422–430.
531
21 Werner Sombart
Let us now have a closer look at Sombart’s fi rst relevant publication, his dissertation
(
1888 ) on tenancy and labour relations in the Roman campagna.
11
In our view, in 180
pages Sombart delineates in a nutshell his complete further research program in an
applied manner. In the introduction, he states that the functions of his work are not
only to get some insights in theoretical agriculture and the historical development of
a specifi c economy in time and space, but also – and this was relevant for him for
general economic theorizing, see 1888, p 6 – to extract some peculiar economic sys-
tems (his central notion of Wirtschaftssystem is mentioned twice, on pp 3, 6).
12
Further,
he wanted to arrive at some practical-social policy conclusions, especially concerning
the confl ict between personal and social interests. The interests of the economical
powerful may contradict the interest of the national/local economy (p 7).
Sombart tries to understand the Campagna organism in applying the synthesiz-
ing method of theoretical historicism. On the one hand, he draws a secular historical
picture of the development of the campagna in the last centuries (pp 132–140). He
further describes in detail the natural environment like climate, soil, etc. (pp 10–26),
and the applied technical procedures in agriculture and cattle breeding and its
changes like machine use and forest culture over time (pp 27–50). He uses all sta-
tistical, empirical, and historical material available (including government question-
naires, personal observations, interviews, etc., see p 85). His description becomes
very concrete and illustrative and is written in a prosaic language. But he never
looses the track of his analysis: to delineate a specifi c economic system, the “cam-
pagna organism.”
This becomes most evident when he turns to the analysis of the social structure in
terms of the property relations as the most relevant element. He analyses the change
of the property distribution and its size (50% of the land is owned by 5% of the
population) and develops a classifi cation of classes (the aristocracy, the church, the
bourgeois, the workers). The basic structure is that the landed non-functional aris-
tocracy rents the land to the rich tenants in the cities. They rent little plots to the fi nal
little tenants. His classifi cation is developed along the lines of a social interest group
model, but it is not Marxist because Sombart includes, for example, the church as an
interest group and he underlines the importance of little and capital-intensive great
tenants and farmers which crosscuts class categories (see part three of the book).
The different categories of workers (like wood-cutter, charcoal burner, herdsman,
daily paid land hands, itinerant worker, etc.) and their living conditions are analysed
along the lines of what he later called personal types (
1930 , p 243). He has a social-
functional (not a natural rights) theory of property and therefore he always asks in
how far concentrated property (e.g. land in the hands of the aristocracy which he
severely attacked) is conducive in social, political, cultural or economic respects (he
does not reject the private possession of the means of production in general).
1 1
In the following, we will not deal with the background stories and the personal and biographical
connotations of his works, but see the profound work of Lenger (
1994 ).
1 2
Sombart in fact established the notion of economic system as a scientifi c notion not only in
Germany, see Ritter (
1999 , p 123).
532 H. Peukert
His interpretative frame is a regional economy in dissolution: the disappearance
of the common fi eld system, the decrease of little peasants, the concentration of land
ownership, the substitution of agriculture by farming, the increase of a proletariat
and the decrease in real wages due to overcompetition are clear indicators for him
that the working of free market mechanisms (which he castigates, see e.g. pp 80,
147–148) has social degenerative impacts and invokes an ill organism (p 93).
Sombart does not ask in how far free markets can be established and allocation
or adaptive effi ciency be enhanced to increase GDP by creating non-attenuated
property rights (for an attenuated version see North
1996 ) . His unit is not the self-
interested individual, but the social groups and classes. He asks for the impacts for
a cultural nation, not economic performance per se, but the social and cultural con-
sequences of changing social structures are important for him. Sombart holds that,
in rural areas, the familial peasant households and holdings are the regular and nor-
mal case and not the concentration of property and proletarianization as a natural
result of free competition. He has no narrow concept of exploitation, but an idea of
a decent life which includes an acceptable wage, comfortable and hygienic condi-
tions, no overwork, social embeddedness (e.g. no long-term separation of families),
existential security, and a cultural minimum level (books, etc.). Maybe the most
important point is that human action should be autonomous and not heteronymous,
that is, action under an extraneous will, for example, the worker in a factory (see
1930 , p 225). As we will see in the next section, for Sombart this contradicts the
anthropological constitution of man.
The increasing cattle breeding and proletarianization is in the interest of the pow-
erful owners and great tenants. It will continue as the natural drift of unregulated
competition. Therefore, Sombart asks for a straight reform by the state. It should act
against this natural drift. His refl ections are very modern when he discusses the
impact of the world market (p 114), the existence of an excess population due to
machinery, etc. They remind the reader of the problems of recent globalization and,
for example, the non-regulated transformation in former socialist countries. For
Sombart, the big mistake was to auction the immense property holdings of the
church without qualifi cation so that the economically more powerful became even
more so (p 152). His proposition is to nationalize the big holdings (with recompense
which will cost a lot of money, see p 162) and to redistribute it to little peasants in
hereditary tenure (see Sombart
1888 ) to support a more healthy agricultural cam-
pagna organism. Positive state action is needed for social reform (pp 160 ff.) in an
encompassing way to create a specifi c economic spirit (compare
1930 , pp 206–207)
with an orientation of non-pecuniary satisfaction according to need and economic
structures of self-suffi ciency; an organism with specifi c goals, motives and rules of
behaviour (
1930 , p. 181). Sombart’s early work already implies his later threefold
differentiation of spirit, organization and technique and is a fi ne example of the
approach of the historical school (summarized by Betz
1966 ) . His value judgment
is against an untamed capitalist spirit and social structure; it is oriented against what
he called the embrace of capitalist civilization. The campagna study tries to offer an
agrarian alternative. Sombart holds that his ideal is not against economic logic and
effi ciency in the long run, because the aristocracy chooses big tenants and they
533
21 Werner Sombart
choose cattle breeding mainly for reasons of convenience, not maximum yield. It is
in the interest of society at large to choose a decentralized but intensive mode of
agricultural cultivation, instead of extensive stock farming to have a higher product
to fi nance imports (see pp 114 ff.).
13
On Human Nature and Social Action
Sombart’s last book was on anthropology ( 1938 ) .
14
It should constitute and be a fi rst
step towards a general theory of culture. In the literature, it was viewed as a more or
less confuse compilation of diverse thoughts without a unifying idea, the product of
a disillusioned old man. In our view, it is the key and heart core to understand his
thinking. On 430 pages, he tries to substantiate his view that man’s distinguishing
characteristic and human substance is to have “spirit” (Geist, pp 17–21, not identi-
cal with the more narrow concept of mind). Spirit materializes in religion, the state,
the family, the economy, language, moral and esthetical maxims and norms (pp 315,
417). Therefore, the social realm is constituted by culture as symbolic meaning
systems (pp 68, 77). It makes humans free to act and gives them responsibility for
their actions (p 288). But it also makes us a spiritually endangered species (p 52).
15
With Geist , man falls out of the realm of nature, he is a creature sui generis
(p 109) and in so far not part of nature (p 416). Sombart is arguing against the concepts
of “animalism” where the notion and reality of spirit are lost. Animalism exists in
the two versions of physical-chemical mechanical materialism and Darwinian
organic biologism (pp 286–287). Both are aberrations (p 109) and expressions of
the power of natural science thinking over modern man (p 93). There is always a
close relationship between the image of man and scientifi c methods (p 109). Sombart
strongly emphasizes the basic dichotomy between an “animalistic” and a “oministic”
current (p 99).
But besides the basic dichotomy, his construction is much more complicated
because he introduces the soul ( Seele ) as an expression of the biological organism
which is the vital centre of the human person and expression of life (motivation,
1 3
We cannot discuss the validity of Sombart’s empirical hypotheses here. He states for example
that Italy will never become an industrialized country 1888, p 114, and in one of the few critical
reviews, Dietzel (
1889 ) doubts that Sombart has proven the antagonism between private and social
interests, or that the campagna is typical for Italy, further that he cannot empirically show the
income disparity between capital and labour and the long-term superiority of farming compared
with cattle breeding.
1 4
Besides the necessarily dialectical way of reasoning the book contains in fact many departures
from the main road; we will leave all these like his refl ections on Goethe, his elitist threefold clas-
sifi cation of mankind, see 1838, p 150, his meditations on merchants, heroes and saints and the
undercover arguments against race theories, see 1938, pp 133, 137 ff., out here.
1 5
It is interesting that he excludes technique. He argues that its function is always and in all culture
spheres to relate means to pre-given ends, see 1938, p 82.
534 H. Peukert
desire and reproduction). Both independent parts, Seele and Geist , constitute man
and we have to choose between vital nature ( Seele ) and spirit (p 338). Animalistic
concepts negate both ( Entseelung and Entgeistung ). Sombart’s recommendation is
not that Geist should substitute nature ( Seele ), because Geist in its purest form has
the tendency of self-alienation in the form of schematising, bureaucratisation,
hyperorganization, the elaboration of formal taxonomies, etc. (p 20), which may
remind the reader of Simmel’s distinction between Geist and form. Sombart distin-
guishes between pure Geist (with no material correlation like the sentence of
Pythagoras), bounded Geist (which depends on a material substratum) and living
Geist (embedded in a human life history, see p 79).
Seele may degenerate to, for example, pure mechanical drive satisfaction.
Sombart leaves open if Seele has in principle the vital constructive element in itself
or if it depends in this regard from the infl ux of Geist . The more Geist expands, the
greater is the danger of the form deviation of Geist . This may also explain why
Sombart’s book looks disorganized: he does not give any clear formal (“scientifi c”)
defi nition of Geist and he does not say where it exactly comes from (god, the brain,
etc.). Instead, he always cites literature, philosophy, and scientifi c literature in a
cursory way and leaves the fi nal answer open. In a certain sense, this is necessary
because a formal-mechanical-logical defi nition of Geist would be an expression of
its own self-alienation (Veblen: self-contamination). So the playful and essay char-
acter is the necessary Geist part of the reasoning. This is not to deny the problematic
of many paradoxes in the book (see the fair criticisms in Vleugels’
1940 , Wieses’
1940 , and Klotter’s 1988 reviews).
The book ends with the remark that human existence consists of a constant con-
fl ict of our spiritual essence and our natural conditions (p 432).
16
In his view, there
is an optimum of the balanced spiritual and natural portions in human action.
Untamed and non-functionalised nature is important for this balance because it rep-
resents and strengthens the vital and natural component in us out there. This harmo-
nious balance is disturbed in modern capitalism with its economic rationalism. This
leads Sombart to his culture and deep ecological critique (especially pp 324–339,
compare Scaff
1988 ) which will be discussed later.
Scheler’s infl uence consists in the assumption of a formal hierarchical realm and
stratifi cation of value spheres (from the pleasant/useful, the vital feelings/health, the
beautiful, the true and the truthful, truth, up to the holy and their respective oppo-
sites, see Scheler
1966 , p 122 ff.). The higher value sphere always has a natural
preponderance over the lower ones. People always give meaning to their actions;
they always have a subject of faith. The upheaval of values means that in modernity
lower value spheres (e.g. the pleasant in utilitarianism) become more important than
the higher ones or they are set as the Absolute (Allodi
1989 , p 469).
Sombart places in front of his noo-sociology the basic principle that all social
life, and man, is necessarily sociable and is (mediated by) Geist , that is, symbolic
1 6
This view has surely to do with Sombart’s position vis-à-vis his own erotic ambivalence (see
Sombart
1930 , p 220).
535
21 Werner Sombart
meaning transferred by language ( 1936 , pp 23–24). He distinguishes his sociology
from natural rights (Hobbes), historical (A. Smith), metahistorical (Spann), formal
(Simmel), “German” (Freyer), and natural science concepts of sociology. The last
concept is subdivided into physical (Pareto), biological (Spencer), and psychologi-
cal (Giddens) approaches.
17
All social units are to be understood as Geist (spiritual
forms) which he calls associations ( Verbände ).
18
Sombart distinguishes genuine and not genuine associations (1956, p 29 ff., fi rst
published in 1930). In the latter category, a spiritual connection is missing, for exam-
ple, in language communities, statistical and affective groups. Genuine associations
are subdivided into ideal (family, state/nation, religion), fi nal (purposive and struc-
tured organizations like fi rms), and intentional associations (the Geist must be in the
consciousness of the actors, for example, interest groups without a permanent organi-
zation). The central notions in the three categories are ideas – goals – intentions. The
purest social forms are ideal associations where a transcendental component domi-
nates, whereas in the goal type individual interests and the rational nature prevail. In
the family, as an example for ideal associations, the eternal meaning is the completion
and reproduction of human partial forms of existence (man, woman, child).
Varieties of “Socialism”
But was not Sombart a Marxist at the beginning of his intellectual career? We do not
think so and argue in the following that, behind his alleged Marxism lurk, there are
the premises of the aforementioned anthropology and sociology.
Sombart’s reputation as a Marxist rests on a positive article on Marx (
1894 ) . It is
often contrasted with the fi fth edition of Sozialismus (1905, pp 73–90) and later
articles and books where Sombart raises criticism against the Marxist evolutionary
hypotheses (the law of concentration, the law of the necessary breakdown of capital-
ism, the thesis of pauperisation, etc.). An analysis of the early texts shows that this
change of mind did not take place. In the 1894 article, Sombart does not only criti-
cize Engels for the bad arrangement of Capital III, but his discussion of the transfor-
mation problem is also peculiar. He does not say that it is solved, but that it is no
real problem because “value” is only a concept of mind (“gedankliche Thatsache,”
p 574) and does not correspond to motives or real tendencies. He leaves open the
quarrel between subjectivists and objectivists in economics at the end (p 594).
The contents of the fi rst edition of his Sozialismus (
1896 , translated in 1898 by AP
Attenburg into English) are surprising. The book, a compilation of lectures in Zurich,
1 7
For his criticism (teleology, naturalism, etc.) of these concepts, see also the reconstruction by
Allodi (…).
1 8
In König’s view ( 1983 , p 49, 1987 , p 267), this is a misnomer which simply means “group.” For
Sombart’s highly sceptical assessment of sociology as a discipline in 1934, see Sombart in Käsler
(
1985 , pp 98–101).
536 H. Peukert
starts with the critique that Marx did not recognize the existence of communities like
nations; not only social, also national differences exist. As in 1906, he describes the
living conditions of the proletariat. Besides the material conditions, he stresses that
all old ideals broke down, man is alone and looks for community in the socialist
groupings. A general nervousness and the transformation of all living spheres make
the workers sick (pp 7–10). He classifi es the English, French and the German types
of socialism which depend on their national mentalities. He stigmatizes the brutal
egoism of the (British) trade unions (p 42).
The central aspect of the socialist movement is the creation of a new society, the
establishing of a new ideal (p 3). Marx is a social philosopher; for Sombart, his theo-
ries are wrong in most points and can hardly be defended any more (pp 63–68)! The
philosophy of historical necessity is wrong (p 71), but the intrinsic necessity of the
socialist ideal is right; socialism needs a psychological foundation of history (p 72).
Private property should not be abolished (p 81), the fi ght for social reform should be
in the confi nes of law, and evolutionary reform. For the movement, religious and
national values are necessary (pp 112–122). All “internationalism” notwithstanding,
the socialist movement will support nationalism if a war looms; a precise prediction
of the behaviour of the social-democratic parties in 1914 (p 118).
In our view a precise reading of the book shows that he already argues implicitly
from the background of his later sociology and anthropology, ingrained with con-
servative, national and paternalistic elements which are a possible, but by no means
necessary specifi cation of his elementary metaphysics.
But Sombart never forgot social criticism. His book on the proletariat in 1906
gives an impressive picture of their deplorable situation in an encompassing way,
warmly and forcibly formulated with much empathy and with the specifi c Sombart
emphasis (already evident in 1896) on the loss of a fatherland, and a native place
( Heimat ), the loosening of family ties, the breakdown of the role of father and
mother due to the working and living conditions, the permanent danger of unem-
ployment and the lack of social security, the poor accommodations, and hygiene,
the lack of education for the children, etc. In his booklet on Marx (Sombart
1909 )
he delineates the potential and elements of the method of Verstehen and the literary
psychological analysis in Marx. These are precursory statements of his book on
method (Sombart
1930 ) .
In his Grundlagen (Sombart
1919 ) he defi nes the essence of socialism as practi-
cal-social rationalism with an anti-chrematistic tendency (p VII); the social emanci-
pation of classes and the theory of social development are characterized as foreign
or arbitrary elements ( Fremdkörper , p VIII ff.) to socialism. In his voluminous book
on proletarian socialism (Sombart
1924 ) , he consequently defi nes power, reason
and love as the primordial principles upon which societies can be based. Socialism
is uniform rationalism – later explained by the self-alienation of Geist – as the
unique principle of an ideal-rational society with political, social, intellectual, and
moral equality (Sombart
1925 , vol 1, part 1). It is an effect of the dissolution of the
old orders and the abolition of god ( Entgottung , p 116). Socialism means unitary
rationalization which is incompatible with his anthropology mentioned earlier, less
so with his sociology (socialism as an ideal association). Pfi ster (
1927 , especially
537
21 Werner Sombart
pp 94, and 134–135) shows that the links between all of his works on modern
capitalism and socialism are the dimensions of Geist and style, the axis idealism-
naturalism and Scheler’s rejection of the pleasant as the absolute normative basis.
The more socialism gave up the character of a movement with ideals and the
more the mere formulation of material interests were placed into the foreground, the
more Sombart rejected this movement. Sombart’s work shows the full mastery of
the literature on socialism. But besides some questionable comments, for example
the negative remarks on the founders of socialism, it can be asked if his frame of
reference is correct. As we have argued elsewhere ( Peukert
2000b ) , pure Marxism
indeed had the element of uniform reason, but at the same time romantic elements
(abolition of the state, etc.) and the element of power (suppression of other classes).
In an interesting review Briefs (
1926 , p 12) argues that socialism was not the
prime mover of quantitative hedonism but simply the expression of the materialist-
individualist spirit of the age.
His book on German socialism (
1934 ) argues along the same lines as his other
writings on socialism. It is only exceptional because Sombart expressly states to
have a national socialist orientation (p XII) but at the same time he criticizes national
socialist writers in general and is sure to fi nd many enemies in the national socialist
party (pp XIII, XV).
19
The book is in many parts very ambivalent: a leader is neces-
sary but it may also be a leading group, blacks may “feel German,” Sombart rejects
race concepts but Jews should in principle not exert higher professional functions
(pp 191–192). The economy should be planned but with private property of the
means of production, etc. But the base line of the book is clear. He argues again
against the 150 years old economic epoch and the primacy of the economy. His
targets are population growth, agglomerations, the industrialization and decline of
agriculture, the massifi cation of culture, production and consumption, the destruc-
tion of nature, the ideals of newness, big – and quickness, etc. (part 1).
Socialism is defi ned as social normativism, the direction of behaviour by binding
norms (part 2), proletarianism and Marxism is rejected (materialism, naturalism and
evolutionism, see part 3), the German soul is revealed, and he proclaims the anti-
capitalist and cultural nature of German socialism (p 120 ff.). The state is defi ned as
an ideal association with a metaphysical rooting. Sincere and non-artifi cial local
community life should be encouraged (238 ff.), etc. We will not discuss his rela-
tively precise policy proposals here (see Werth
1996a, b ) .
20
We only wanted to show
the continuity of Sombart’s thought on socialism over almost 40 years.
21
It was
embedded in his metaphysics (anthropology, noo-sociology). Let us see now in how
far it infl uenced his thinking on method.
19
The changing relationship to the national socialists is described in Brocke ( 1987 , pp 50–57).
2 0
Autarky, support of agriculture, car free zones of nature etc., which have been instantaneously
criticized, and the compilation “Deutscher Sozialismus im Urteil der Presse,” Berlin, 1935.
2 1
We have to leave out Sombart’s contributions to socialism in the US ( 1906, 1969 ), but see Foner
(
1984 ), and Tütsch ( 1988 ).
538 H. Peukert
A Method Called Verstehen
In his most pronounced contribution to method, Sombart ( 1930 ) distinguished three
types of economic theories (in German the richtende , ordnende and verstehende
approach). They all consider themselves exclusive and universal. He rejects the fi rst
orienting ( richtende ) type (Aristotle, the scholastics, Spann, Hegel but he also
includes the hedonist school and, for example A. Smith). It is normative and says
what should be, for example no chrematistics in the polis . For Sombart (like Weber),
science implies the principle of value neutrality because different norms can be
chosen. The richtende economics must be rejected because it cannot argue in favour
of one norm instead of another. It is interesting to see that Sombart explains the
emergence and existence of this approach by the overarching cultural value systems
and social structures of the time (e.g. in the Middle Ages). Does this suggest that a
meaning system produces the wrong intellectual superstructure?
The ordnende or ordering economics comprises mostly mainstream economics
(
1930 , Chap. 9), subdivided into the objectivists (Marx), subjectivists (Menger) and
the relationists (Walras). Despite all their disagreements, Sombart chooses again an
externalist history of thought, they belong to the same type. It emerged as a result of
mainly cultural but also structural changes in the last 500 years: the secularisation of
the life style, the decline of feudalism and its unitary culture, the disenchantment of
nature and society, etc. The aim of knowledge is now to control (natural) processes.
The scientist has emotional distance, a depersonalisation of knowledge generation
takes place. “The results of scientifi c inquiry have to be objective, separate from the
person who does the inquiry; in this sense they can be “proven,” that is, impressed
upon an outsider” (
1930 , p 96).
22
The external ordering in quantitative terms is in the
centre, not the understanding of the substantial how and why of things and relations.
Sombart’s catalogue coincides with McCloskey’s ten commandments of modern
economics (
1985 ) . The greatest infl uence on economics exerted the ideal of the exact
natural sciences and their practical success since the eighteenth century. It should be
mentioned that his three basic types and his putting into boxes is all but self-evident:
Smith could also be found in the ordnende economics, some would put Schmoller in
the verstehende economics (henceforth VE), others Menger (see Leube
1994 ) .
What is Sombart’s criticism of this program? Some minor points are his unclear
notion of economic laws and the “quantifi cation only” principle (p 130). But when
he introduces his favourite VE in Chap. 10, he makes the strong assertion that VE is
adequate to the subject matter which implies that ordnende economics is not (see
e.g. pp 140, 292). This is a general statement, he does not, for example, say that
classical economics was right at the time of liberal capitalism and is wrong in late
capitalism or that there is a division of labour between the approaches depending
on the respective scientifi c questions which constitute different objects of knowl-
edge (for Amonn (
1930 ) , this would have been a more adequate line of reasoning).
22
All German references are our translations.
539
21 Werner Sombart
He does also not explain the VE by an externalist culture approach as he did in his
discussion of the richtende and ordnende economics. The ontological quality of
his view is underlined by the fact that he rejects the typical heterodox criticisms of
a lack of a national, social policy or ethical component or the allegations of atomism,
chrematistics, statics, arm chair theorizing, etc. (140 ff.). The essential mistakes are
the ten commandments of the natural science attitude (does this not imply atomism
in the sense of decomposability of elements?). For Sombart, even Schmoller and
Roscher went into the natural science trap (pp 154–155; in our view this is only
partially correct, see Peukert
1998 , Chap. 3) and into the aberrations of psycholo-
gism, historicism and teleology. The foundations for VE were therefore laid by
historians (Vico, Droysen), philosophers (Dilthey, Rothacker), sociologists (Cooley)
and some few economists (Gottl, Spann).
To introduce VE, he fi rst explains the nature of economics and the economy.
Economics deals with the need of subsistence ( Unterhaltsfürsorge , p 173), the pro-
visioning of material goods. Second, it is an empirical science ( Erfahrungswissenschaft )
in that it depends on reality in time and space. In our view, both do not exclude an
approach according to Robbins’ defi nition of the subject matter of economics. But
third, it is a cultural science, “since body and soul fi nd their purpose only in the
spirit. They can be understood only by means of the spirit, they can become an
object of “understanding” only in the context of the spirit” (p 175). For Sombart,
this is the essential point (why not the other two?) so that Korsch (
1930 ) castigates
his idealism. It can also be argued that if we assume the motive structure of A. Smith’s
baker as given and the existence of markets and their mechanical price and quantity
setting as near to the facts (as idealized in supply and demand diagrams), why
should we care so much about motives and Verstehen ?
Sombart chooses an ontological absolutist introduction of VE which does not
convince us. One reason for this is his commitment to the principle of value neutral-
ity (see Landmann’s arguments 1930 why in a VE perspective value commitments
can hardly be excluded in research (Landmann
1930 ) ). In a certain sense, he accepts
the ordnende economics’ viewpoint only to say and describe “what really is.” But if
all knowledge depends on symbolic meaning structures, there is no simple answer-
ing “what really is.” He could have said that he has a specifi c image of man (anthro-
pology – Geist ) and a specifi c understanding of “the social,” formulated in his
noo-sociology. It follows his interest to analyse which type of human being (Weber’s
Menschentypus in Hennis’ interpretation) is drilled in different economic systems.
Sombart also introduces the concept of “system” in an absolutist way in Chap. 12.
For him, “system” is a logical idea (Kant), a precondition of science and reason. The
choice is again given by the nature of the subject, so we arrive naturally at the idea
of the “economy” and the three parts of the “economic system”: the economic spirit,
the structural order and the technique (p 181). No reasonable scientifi c argument is
possible without this correct Gestaltidee .
23
If we understand his system in the general
2 3
See also the intriguing hermeneutical interpretation of Sombart’s methodological ideas in
Weippert (
1953 ).
540 H. Peukert
sense of systematic, it is to general, but if we accept his threefold classifi cation and
dichotomies, it is too specifi c because many other reasonable classifi catory
approaches (e.g. Spiethoff’s) exist. They all depend on the researcher’s predilections
and questions, but none of them has an ontological dignity in our view.
Sombart next introduces “working ideas” as notions of reason (p 185 ff.), as-ifs
for research like a static or dynamic, an organic or mechanic way of seeing things.
He also includes in this epistemologically very constructivist part the ideas of an
exchange economy or a national economy ( Volkswirtschaft , a living entity, p 189).
For Sombart, both ideas are valuable, depending on the economic system and the
research question (p 181). He even includes the relative validity of opposite value
theories like Marx vs. the marginalists in his functional argument. Having repudi-
ated mainstream classical approaches in toto as ordnende economics in Chap. 9, he
now puts his opinion in a context and accepts their relative validity.
But here Sombart falls in a certain relativist trap because he cannot hold both
statements at the same time. The market/exchange models of his time implied that
stability and welfare are brought about by the workings of the objective market
mechanisms; the opposite view is that we need strong social institution building,
otherwise society will collapse and welfare will decrease.
24
This was the quarrel
between Schmoller and Menger and this was also Sombart’s point against the Italian
government in his campagna study. It is still the dividing line in the debate on glo-
balization. It is not enough to say that an exchange paradigm is naturally only and
partially good for capitalist exchange economies because we know that the exchange
paradigm has – for good or bad reasons – been used for all types of economic struc-
tures (e.g. slavery as an implicit contract), even by the proponents of the historical
school (Pearson
1997 ) . We have the impression that Sombart shifts from an absolut-
ist to a relativist view in a questionable way in Chap. 12.
Understanding ( Verstehen ) tries to grasp meaning, it asks “why” do people act
this or that way. We can understand, because the objective Geist (e.g. the meaning
of a modern fi rm) obeys the same laws as our personal subjective Geist (individual
actions). He differentiates three types of understanding. Sinnverstehen (understand-
ing of meaning) refers to the timeless and a-historical idea of the economy already
mentioned with the parts, spirit, organization and technique. It is a priori. We already
mentioned that others found different elementary categories and no methodological
rule tells us how Sombart found the categories without historical studies. It is obvi-
ous that the dichotomies like traditionalism vs. rationalism, solidarism vs. individu-
alism and satisfaction according to need vs. the principle of profi t ( Bedarfsdeckungs –
vs. Erwerbsprinzip , see pp 206–207) are closely linked to the transition from the
Middle Ages to modern capitalism. They are not transhistorical principles.
The second category is Sachverstehen (understanding of circumstances), real
historical understanding, comprising fi rst the understanding of goals (this is in fact the
behavioural logic of mainstream economic man). It is followed by the understanding
2 4
The problem here has to do with the fact that the ordnende economics implies what Sombart calls
Wesenserkenntnis , a general interpretation of the world, even if it is only formulated in mathematical
language, see Schams (
1934 ).
541
21 Werner Sombart
of objective interrelations, for example, that if the corn harvest in the US perishes,
the more will be produced in Argentina due to the expected price increase.
With Sachverstehen , Sombart brings back in the basics of (neo)classical macro-
economics (see e.g. Samuelson and Nordhaus
1989 ) . It is not clear in how far his
listing under Sachverstehen makes a methodological or substantial difference to
mainstream economics. After having thrown out the mainstream theories and tool-
boxes under the heading of ordnende economics fi rsthand, Sombart now brings
back in the basics of mainstream economics (Schams
1930 , pp 469–470) to present
VE as all-inclusive. But at the same time, it becomes a less specifi c approach. It can
even be stated that neoclassical economics is based on Sachverstehen , Sombart’s
economics more on Sinnverstehen, so that the basic opposition ordnende vs. VE
simply vanishes.
The third category is Stilverstehen (understanding of style), for example, in how
far the behaviour of economic agents is oriented at the spirit of capitalism. It is per-
plexing to see that he negates the modern economy as a connection in style
( Stilzusammenhang ) because there exists no meaningful relationship of economic
behaviour to an underlying meaningful style (p 217). If this is the case, we may ask
if his construction of the spirit of an economic system as the primordial principle in
Sinnverstehen is not obsolete in capitalism. This would be a nice argument for main-
stream economists to be content with Sachverstehen in capitalism.
The last category is the understanding of individual motives, called Seelen-
verstehen . All action has to be reduced to human intentional motives; the free will
is a necessary assumption of VE (which has no developed logic, see p 235). The
basic notions are understood in an essentialist manner. We understand “hammer”
not by some categorical abstractions (made of wood), but by understanding its func-
tion: to hammer. He distinguishes between heteronymous vs. autonomous, tradi-
tional vs. rational and goal vs. value-oriented (p 225) action. But usually we are not
interested in individual motives but in real average motives in typical constellations,
exemplifi ed in his analysis of the different types of bourgeois. The limits of this
understanding are the unconscious, nature, the transcendental and mental illness.
Sombart’s edifi ce becomes more and more complex and resembles the following
of a maze where the arrangement of more and more VE elements gets out of hand
and the general view is lost. Next, Sombart introduces the Sinngesetze (laws of mean-
ing), that is, meaningful necessary relations. First are the mathematical laws of size
like the quantity theory of money, the market law (the size of the markets determines
the degree of specialization, see pp 254–255), etc. We see that Sombart once again
tries to cannibalize elements of orthodox economics. Next come the structural laws
of part and whole, for example, capitalism can only expand if the proletariat increases
(p 257). Finally, we have the functional laws, the rational means-ends calculations
where it is not so easy to see the difference to the aforementioned Zweckverstehen .
They are rational schemes. They imply what Sombart calls fi ctional laws. The prime
example is the classical law of supply and demand (p 261). His only criticism is that
the classics thought this were natural laws, but they in fact depend on specifi c condi-
tions. The noteworthy point is that Sombart accepts that abstract knowledge without
reference to the attribution of natural values ( Bedeutungszuschreibungen ) generates
interesting and relevant insights as an elementary step to understand the real world.
542 H. Peukert
Next, he asks why uniform actions of many actors occur. His answer includes the
common human nature, the same environment, rational behaviour in systemic con-
straints, imitation, climate, soil, etc. Here Sombart is on slippery ground because VE
implies that human motives are the fi nal bedrock where causal investigations have to
stop, otherwise he himself would walk in diverse traps (like behaviourism). The last
section of his book is the distinction between economic philosophy including ethics,
economic science and economics as an art ( Kunstlehre ). There are many interesting
and controversial aspects in this part; we will only mention his ambivalence towards
mainstream theorizing and only focus on his example of the transfer problem (p 301).
He argues that the quantitative theoretical mainstream scheme is not helpful
because there are so many disturbing psychological, political and other elements in
reality that the law like assumptions cannot really work out, so that the disturbing
noise, the deviation from the scheme, is what VE is about. But this is a problematic
argument because neither Keynes nor Ohlin doubted the noise and Sombart seems to
accept the rational scheme (in fact there were diverse transfer problem theories) as a
starting point. He seems to have no alternative frame of analysis except empirically
realist investigations. This is not enough. Probably, Sombart’s VE has a different
fundamental task in the division of scientifi c research. Indeed, on the last pages he
comes back to the proper fi eld of VE, as part of the humanities, with strong ties to
philosophy and culture; practical utility plays a minor role and the answering of the
question of the cultural meaning and basic structure of the economy is in the centre.
As a result, we see that the problems in his book on method depend on two polar
dichotomies which cannot be fulfi lled at the same time: on the one hand the com-
mitment to value neutrality (p 289) and to formulate an all-embracing economic
approach vs. a very specifi c understanding of economics in the sense of VE, which
depends on his image of man. On the other hand, we fi nd the polarity between
realism and constructivism in his book.
25
This is not to deny the legitimacy and
possibility of a hermeneutical verstehens approach (Peukert
1998 ) . Sombart’s
importance for VE is less in the methodological (ambiguities) but in the applied
fi eld, for example, his studies on the campagna or on modern capitalism.
Modern Capitalism
26
Compared with the fi rst, the second edition of modern capitalism (1916–1927) has
worked up more empirical material, more infl uences which lead to capitalism have
been considered and the distinction between historical and empirical parts is made
2 5
We cannot review the intensive debate on Sombart’s book, maybe the best review is still the short
article by Löwe (
1932 ).
2 6
For a brief overview of the structure of modern capitalism, see Backhaus ( 1989, 1992 ). We will
leave out the discussion of all publications around modern capitalism on the military, see Sombart
(
1913a ), luxury consumption, see Sombart ( 1913b ), the infl uence of the Jews, see Sombart ( 1911 ),
etc. for reasons of space. These publications do not at all differ in orientation from the respective
passages in modern capitalism. We even neglect Sombart’s book on the bourgeois, see Sombart
(
1988 ), fi rst published in 1913, a relatively disorganized but important precursor.
543
21 Werner Sombart
more clear (I, XIII).
27
But the basic approach is the same: a general history of the
common economic (but also, social, cultural and political) development of European
societies since the Carolingian times.
28
The method is distinctively historical-
theoretical (I, XV), the exposition genetic-systematic. It is distinguished by normal
historical research by the long time horizon (almost one thousand years, in fact a
longue durée ), the level of abstraction and inclusiveness (common properties of all
European societies) and the ideal-type method of systemic analysis.
29
The introduction deals with the now familiar essentials of the need of subsis-
tence, the social character of work, the dimensions of the environment, the people
and their culture, the concept of economic system and the three building blocks of
spirit, technique and organization (I, 13–21). The subcategories of them are spelled
out in the following way (see also
1930 , pp 206–207, and 1927 , pp 14–32): The dif-
ference in the dimension of the economic spirit between the Aristotelian principle
of the satisfaction according to need and the principle of profi t ( Bedarfs – vs.
Erwerbsprinzip ) is related to the purpose of economic activity: the satisfaction of
specifi c needs or as much money as possible. The second spiritual category deals
with the subjective mode of the choice of the means of the activity: traditional vs.
rational, that is, the means are used because they are historically usual or they are
constantly and critically checked. The third category, individualist vs. solidary,
deals with the relation among people. It is the orientation of pure self-interest vs. the
inclusion of the interests of the larger community.
The second broad category, the form or organization of the economy, is fi rst
divided into bound vs. free rules. Bound means orientation at supra-individual
norms, free means that only specifi c actions are forbidden, and what is not forbidden
is allowed. The next category is private vs. public orientation, that is, is the eco-
nomic structure based more on private or public enterprises (note: a private economy
can also operate in a bound rule system). Democratic vs. aristocratic refers to the
question if many people are decision makers or if most people are decision takers
(e.g. in capitalism or medieval feudalism). The difference closed vs. dissolved con-
cerns the question if the economic units perform all economic activities themselves
or not. Next is the economy of satisfaction according to need vs. the market econ-
omy ( Bedarfsdeckungs – vs. Verkehrswirtschaft ); it refers to the objective constella-
tion (not the subjective spirit), if goods are produced for the market or if the
producing units are also the consuming units (e.g. in socialism or self-suffi cient
systems). The satisfaction according to need can also prevail in exchange systems
(e.g. the crafts system). The last organizational category is individual vs. communal
fi rms (in communal fi rms, the working process is divided among the workers).
2 7
We cannot present and discuss the rich literature on modern capitalism in detail, but see the
reviews in Brocke (
1987 , p 67 ff.), Appel ( 1992 ) and the contributions in Backhaus ( 1996 ).
2 8
We cannot discuss the problem of continuity here, see Töttö ( 1996 ); for the opposite view, see for
example Breuer (
1996 , p 234).
29
This research program has survived for example in Braudel ( 1979 ).
544 H. Peukert
Finally, the principles of technique can be based empirically (practical, personal,
historical knowledge) or scientifi cally (systematic search for empirical rules and
laws). Next comes the difference between stationary (techniques change only over
long time horizons) vs. revolutionary (permanent change). Last, we have the differ-
ence between organic vs. non-organic, that is, the dependence on living organisms
(plant, animal, humans) and their growth processes or not. If they do not, they can
be mechanical if production and transport do not depend on humans or animals as
means but on mechanisms or chemisms. The procedure can also be inorganic, if
respective resources like coal, minerals, etc. or inorganic power like electricity are
used. All in all, we arrive at three subdivisions of economic systems (spirit, organi-
zation, technique) and 12 polarities. One implication of Sombart’s system is that it
does not make sense to think about a general superiority of systems and their vari-
ables because the measuring rod depends on the spiritual orientation.
30
It also does
not make sense to think about “welfare effects” or “effi ciency” without specifying
the system under consideration. Effi ciency considerations beyond specifi c economic
systems are meaningless for Sombart.
In principle, Sombart distinguished the following system types: the early self-
suffi cient types of (1) the tribal societies; and (2) the peasant village economy. To
exemplify: In the village, economy dominates the principle of satisfaction accord-
ing to need, traditionalism and solidarism; the technique is empirical, stationary and
organic. Next we have the aristocratic self-suffi cient types; (3) the oikos economy in
ancient Greece and Rome; and (4) the manored farm ( Fronhof ) economy in the
European Middle Ages. Sombart mentions (5) the craft system and (6) the socialist
type. It is opposed to (7) capitalism (see the precise description of all types in
Sombart
1927 , pp 20–30).
The systematic aspect in Sombart is the emphasis on the dominant economic
system in historical epochs and the thesis that history is composed of clearly identi-
fi able distinguished systems (e.g. no one-way road to reduce transaction costs in
history, no at best camoufl age self-interested individuals all the time). Further and in
agreement with his metaphysics, it is the “the basic message of this work is that a
different economic spirit has dominated at different times, and that it is the spirit that
seeks its adequate form and in this way creates economic organization” (I, p 25).
Pre-capitalist societies have the Aristotelian idea of nourishment ( Nahrungsidee ,
I, p 34), a socially defi ned and limited standard of material living, the principle of
the need of subsistence and the principle of the satisfaction according to need
( Bedarfsdeckungsprinzip ), embedded in moral and legal rules and customs (I, p 32).
It dominates in all pre-capitalist societies and it is opposite for example to the spirit
of capitalism (the profi t principle). Another important feature is the behavioural
traditionalism. The prior early medieval economic system in primitive and rural
Europe is the system of self-suffi ciency ( Eigenwirtschaft, I, p 45 ff.) in the peasant
village communities (democratic type) and on the manored farms ( Fronhöfe , the
3 0
We will not discuss Sombart’s basic notions of production, consumption etc., see Sombart
(
1960 ), which seem not to be peculiar or important.
545
21 Werner Sombart
aristocratic type) which were based on politically different forms of feudal dependency
(including slavery). Until the thirteenth century (I, p 87), both were oriented at the
self-suffi cient mode of production and the principle of satisfaction according to
need, organized in a communitarian way in the case of the villages which distrib-
uted land collectively according to the principle of satisfaction according to need.
Sombart’s historically rich and multifaceted analysis is far from self-evident: Did
little villages and village solidarity among the peasants really prevail, did they not
try to make money and accept a modest standard of living? Was trade absolutely
underdeveloped? Did the landlords conform to the principle of satisfaction accord-
ing to need (he mentions himself that they always wanted to have more means for
ostentation, see I, pp 62–63)? F. Oppenheimer, a contemporary critic who doubted
that the difference between the spirits
31
holds, argues that the profi t principle was no
goal in itself for the capitalists, but to increase luxury, security, power, etc. (see also
Harnisch
1928 ) . Conversely, also the medieval craftsman searched for the best
increase of his money earnings. This may not be chrematistic because the motive
could be security for the family, etc.
Sombart’s essential line of reasoning is to highlight the contrast to capitalism as
an epoch-making difference in a “primitivist” tradition,
32
that is, leaning on the left
hand side of his dichotomies and trying to show like Polanyi (
1977 ) that exchange
is an historical but not an elementary category of economic behaviour which came
up relatively late in economic history. So he explains that exchange activities began
relatively late (between the tenth and thirteenth century) and were locally confi ned.
In his absolutely unorthodox theory of the emergence of cities (I, Chap. 9, see the
defi nition on p 128), he argues that the founders of the few little consumption cities
were kings and landlords who could buy the necessary agricultural foodstuffs of the
environing agricultural land and pay with taxes or feudal interest revenues. This
contradicts all theories
33
which say that the city is the basis of trade, production and
the new spirit of freedom and enterprise which undermines self-suffi ciency and
feudal bonds (see also Mackensen
1970 ; Schäfers et al. 1976 ; Berndt 1977 ) . Chapter
11 explains that the cities were ruled by the idea of community and economic self-
suffi ciency and the principle of satisfaction according to need.
But the city saw the emergence of a new economic system or mode of production
and economic idea: the craft system, that is, legally and economically independent,
3 1
The spirit concept was itself a nebular concept for him, see 1929, pp 1135, 1149–1153; see also
for example Weede (
1990 , p 35). Most of the following criticisms of Oppenheimer were shared by
the professional historians who mostly discussed partial aspects of his work in a very critical way,
among them Dopsch, Brentano, and Below, see for example Below (
1920 ).
3 2
In the debate on classical Greece, modernists (Meyer, Beloch, Pöhlmann) and primitivists
(Bücher, Hasebroek, Bolkestein) were distinguished according to their view on the social, eco-
nomic and historical modernity of the Greek poleis . Oppenheimer was also very critical about
Sombart’s primitivism, see for example 1929, pp 420, 824–827, 1075, 1094–1095, 1116–1117,
1142–1143, on Sombart’s thesis of the solidary (Teutonic) peasant communities, see 1929, p 515.
On Oppenheimer’s critique of Sombart, see Kruse (
1996 ).
33
See for example Oppenheimer ( 1929 , pp 818–819, 854–855, 1144–1147), also Nuglisch 1904 .
546 H. Peukert
traditionally acting craftsmen (see I, p 188 for the defi nition). They followed the
principle of satisfaction according to need but in an exchange nexus. The craftsman
produces for the market, but the idea of “craftsmanship” corresponds to the domi-
nating principles in the peasant villages because the market is in every respect tamed
and non-competitive by the solidary self-regulation of the guilds and cooperatives
of the craftsmen (stable and fi xed demand and prices). It is further oriented at tradi-
tional and non-profi t principles and empirical-organic techniques. In the little craft
shops, the Seele principle could live. The pride to create unique products in which
the personality of the craftsman is incorporated was a safeguard against cold eco-
nomic rationalization. Also the little traders lived and operated in a crafts-like envi-
ronment (I, p 291). Sombart tries hard to substantiate this claim empirically against
the many opposing views.
The second book deals with the historical foundations of modern capitalism.
A completely new economic system and idea of the economy emerges (I, p 319 ff.). It
is an exchange economy, with two major groups, those who own the means of pro-
duction and those who do not. The principles of economic rationalism (vs. tradition-
alism) and the principle of profi t (vs. Bedarfsdeckung ) begin to work. The capitalist
enterprise is characterized, and the functions of the entrepreneur are differentiated
(organizing, trading, calculating, I, p 322 ff.). The essence of capitalism is the new
spirit which came up from the deep underground of the European soul (I, pp 327–
333). “It is the same spirit which creates the new state, the new religion, the new
science, the new technique and in all this the new economic life. We know that it is
a spirit which is secular and based in this world, a spirit which with enormous power
can destroy natural formations, can destroy old bonds and old barriers; and with the
same strength it can reconstruct new forms of life both ingenious and artistic func-
tional forms. It is the same spirit which since the declining Middle Ages has pulled
man out of his quiet organically grown forms of love and community and which has
propelled them onto an orbit of the restless search for self-determination and indi-
vidual gain” (I, p 327).
Not only Sombart’s feelings about the new spirit are ambivalent, also this spirit
itself has a polar orientation which distinguishes Sombart’s from Weber’s spirit con-
cept. “It is the spirit of Dr. Faustus: the spirit of inner doubt and restlessness which
has taken possession of the people … Shall we call it the quest for the sky that we
see manifesting itself again and again. We can do this with a certain measure of truth
because the goals have been pushed to the limit. All the natural standards of organic
bonds have become wanting, restrictive and narrow … With this Faustian spirit a
new spirit has found an alliance this is the spirit which grants economic life a certain
order, a measure of numerical exactitude, which has come about by defi ning pur-
poses in exact terms this is the spirit of the bourgeois … Where the entrepreneurial
spirit wants to conquer and acquire the bourgeois spirit wants to create order and
protect” (I, pp 327–329).
In the following, Sombart describes the modern state (I, p 334 ff.) and its policies
(currency, and trade policy, etc.) and the reasonable aspects of a mercantilist policy
for capitalist dynamic development (I, p 362 ff.). The next lengthy chapter traces the
development of technique. A lot of inventions and discoveries were made until the
547
21 Werner Sombart
eighteenth century, but the assumption of Seele in nature was an impediment. The
new spirit, the Faustian will to knowledge, the desire for making money, research
for the military, and the transition from the empirical-traditional to the scientifi c-
rational mode of investigation changed the way of technical research and imple-
mentation. The fi ndings and production of precious metals (I, p 513 ff.) is considered
as a major and very important “accident.” The infl ow of species eased the estab-
lishment of capitalism and Sombart investigates the relationship between specie
infl ow, prices and production over the centuries. His ambiguous statements con-
cerning the quantity theory of money are interesting and – as we saw – typical for
him (I, pp 543–547).
In conformity with his primitivist position, he explains the fi rst phase of the con-
centration of fortunes (not capital) as a precondition of early accumulation not by
referring to merchants and trade, etc. (I, p 608 ff.), but to the increase of earnings of
the land rents (I, p 619) and the earnings in the mining industry. The third important
source was simple robbery, including the plundering of the later colonies (I, p 668
ff.), the reintroduction of slavery and the colonial exploitation (robbery of natural
resources and general environmental degradation, see I, p 709).
He then turns to the demand side and analyses the demand shift in luxury goods
(I, p 719 ff.). The next topic is the labour market, the oversupply and misery of the
new proletariat (including a critique of Marx’ historical view on the fi rst phase of
accumulation). He discusses the problem that the new spirit was missing because
the proletarians were “natural,” “lazy” people with a clear idea of the virtues of
leisure. They also held a suffi ciency standard for income, a Bedarfsdeckungsprinzip
(I, p 807, compare E.P. Thompson), so that the mercantilist state was inventive to
motivate them to work more (I, Chap. 54). The other side is the birth of the capitalist
entrepreneurs, the class whose ingenuity is power and creative genius is the major
force in the winds of change (I, p 836). As strongly as Sombart points out the situa-
tion of the misérables does, he emphasize the qualities and deeds of the emerging
capitalist class. He distinguishes early merchant, conqueror and founder types
(I, p 872 ff.) and identifi es the social groups where they mainly come from: foreigners,
Jews, heretics and chrematistic landlords (I, Chap. 57). But they also come from
former little merchants and other categories of citizens (I, Chap. 58). The fi rst volume
ends with these ideal-type characterizations of types and descent groups of early
entrepreneurs.
Volume two analyses early capitalism in Europe in which the old and the new
spirit and organizational forms existed side by side. Different principles fi ght for
supremacy; it is a period of transition dated from the fi fteenth to the middle of eigh-
teenth century. The fi rst local beginnings can be found in the thirteenth century
(Siena). The material driving forces are multifold: the emergence of nation states, the
discovery of America, the religious persecutions, modern military systems (see the
discussion in Wachtler
1985 ) , the system of double accounting, etc. The general evo-
lutionary path is from traditionalism to rationalism, from a static to a dynamic econ-
omy, from the organic to mechanical ways of human interaction (II, Chaps. 1–3).
In less then 40 pages, Sombart describes impressively the new spirit of early
capitalism. It is a prime example of the Verstehen method in practice which Sombart
548 H. Peukert
handles masterly (II, pp 25–64). He contrasts the “romantic” element in which force
intrudes and where the roles of merchant, pirate and adventurer are hard to distin-
guish (II, p 26). The overseas companies had the elements of medieval solidary
communities and freebooting. The other part is the bourgeois, civilian aspect
( Bürgergeist ), including methodological, rational goal-oriented behaviour and an
ideal of contract loyalty with religious, and philosophical roots. Commenting the
debate on the just price, Sombart shows that the principle of honourable and honest
acquisition was more important than maximum gains and cut-throat competition.
“Even when conducting business, the individual would not get absorbed by the
noise and ado of business affairs. He remained true to himself. He retained the dig-
nity of an independent man who will not compromise his honour to personal gain.
In trade and commerce, personal pride remained dominant” (II, p 62).
Sombart now comes to the organizational aspect of his classifi cation. He dis-
cusses the mixed and transitory forms of fi rm organizations (like the single-event
corporations) and then analyses the modern capitalist fi rm, that is, the division of
the personal and the business, the rationalization of production, the rationale of
making profi t, etc. His main example for the tendencies of objectifi cation and mech-
anization is the history of double entry bookkeeping since Pacioli. In Chap. 11, he
delineates the capitalist organizational forms (e.g. general partnership). But also in
these detailed historical and empirical descriptions, the emphasis is on cultural eco-
nomics, for example when he shows that joint stock companies are alien to the spirit
of early capitalism (II, p 162). After a short digression on state companies, he comes
to the second main part of the book on the extension of the market due to population
increases, and political and technical changes (Chap. 13). The new big armies and
luxury demand are infl uences from the demand side (Chap. 14) which is in general
less important than the changes on the supply side in Sombart’s investigations.
He further describes the erratic-traditional modes of more or less subjective price
setting, which depended on conventions, administrative infl uences and transport and
informational obstacles. In a lengthy part (II, pp 229–418), he describes the techni-
cal improvements in transport, travelling, the mail system and publications. More
and more the law of one price was effective as a result of the depersonalisation and
mechanization of the price setting process by, for example, institutionalized auctions
and stock exchanges (Chap. 15). The same tendency holds good for the distribution
of commodities from door-to-door salesmen to established regular markets, orga-
nized chains of distribution (II, p 441), and the modes of payment (II, p 513 ff.).
The modern business cycle did not exist; there were many crises but no rhythm;
the boom phase is missing due to the dependency on organic techniques and the lack
of fi xed capital. The crises are simple sales crises (Chap. 16). He then describes the
mostly rural population. Agriculture remained self-suffi cient and traditional between
800 and 1800; the trades in towns remained craft-oriented (II, pp 650–681). But
changes took place in the crafts guild systems because the profi t motive invaded the
old system which degenerated and a class-like polarization between master and
journeyman occurred. But Sombart adds: not before the nineteenth century (II, 692–
693). Another major change refers to the new organizational forms of production,
fi rms, manufactories, the putting out system and big industry (II, p 730 ff.; for the changes
549
21 Werner Sombart
from Seele to Geist see, e.g. II, pp 783, 787). Later he discusses their advantages
compared with the crafts system (mass production, uniformity and promptness of
delivery, e.g. for the military, see II, pp 841–886). Against Marx, he argues that
fi rms and manufactories went side by side for a long time and he describes their
different types, the division of labour, the work process, and new techniques in
specifi c branches. The craft system could also not adapt due to its particular spirit
(II, p 887). After discussing locational aspects (immobilization and decentralization,
see also II, pp 901–906), he comes to the slowly changing working conditions.
He defi nes the ideal-type scheme of the capitalist-worker relationship. The con-
ditions are: “1. A pure capitalist entrepreneurship is confronted by wage earners
without any property or any other means of subsistence; 2. on both sides there is a
determined capitalist economic spirit: The profi t principle and the principle of eco-
nomic rationality are shared both by the entrepreneur and the wage labourer. This
implies that on both sides there is a will and determination to organize the labour
contract with the view to maximize a) profi ts and b) wages; … 3. the labour relation-
ship rests on a free contract and is based on the strict contractual quit pro quo … The
purposes that follow from this economic spirit can best be realized with: a) short
term; b) money-based labour contracts; … 4. labour is being utilized without any
regard to the personal circumstances of the labourer” (II, pp 811–812). From
Sombart’s point of view, the recent work contracts (short-term, outsourcing, etc.)
and rationalized production processes of turbo-capitalism correspond with the ideal
type of capitalism compared with the social market contracts (long-term, etc.) and
socially regulated working conditions. He goes on to summarize the real social
position of the workers, their mentality, the content of the contracts in early capital-
ism, the organization of labour in the factories, and child and women labour (II,
p 813 ff.).
34
He then turns to the economic macro process. The fi rst part describes mercantilist
theory as a reasonable concept for practical policy; against the static-mechanical
exchange paradigm of the British (he could not suppress some awkward chauvinist
remarks here) mercantilist theory is a dynamic-organic theory of production with
active idealism – an original and informative digression on the history of economic
thought (II, p 913 ff.). Next come the changes in international economic relations (II,
p 943 ff.), trade balances, balances of payments etc. which are surveyed. Again he
gives a primitivist account; only (and mainly consumption) goods in excess supply
in the countries and almost no means of production are traded. The main part is colo-
nial goods (II, pp 1029, and 1036). He further describes the new stratifi cation of
early capitalist societies, its old and new classes and the estates, including the new
middle class and the new power of money (bourgeoisie) besides the old powers of
kings and feudal lords (II, p 1085 ff.). The development of economic forces in early
capitalism took place in the national dimension; this immensely increased the power
3 4
See also his impressive handbook article in 1959 (Sombart 1931 , 1959), fi rst published in 1931,
on the historically changing arrangements of the labour contract, where he masterly applies his
historic-systematic ideal-type approach.
550 H. Peukert
of the nation states (Chap. 65). Higher taxes were a natural result of higher national
income as a result of higher productivity (for the reasons see II, p 1059), which nev-
ertheless had been slowed down by wars, the infl uence of the church, psychological
factors, and transport conditions, but not essentially by the traditional industrial code.
This has surely to do with the fact that the existence of markets is not an essential
feature for Sombart as a driving force for increased productivity because he holds the
industrial and not the market paradigm (see Boltanski and Thévenot
1991 ) .
Two aspects are salient at the end of the second book. The fi rst is his summary
statement on the beginning mechanization, depersonalisation, banalization, and
contractualization of society in the tradition of his cultural economics (II, pp 1076–
1084). The second is his emphasis on the fundamental ecological break at the end
of early capitalism, which could have brought the new development to an early end:
the overuse of wood as raw material, combustible and general organic source of
energy since the early Middle Ages and its severe shortage since the sixteenth cen-
tury which escalated in the eighteenth century (II, 1137 ff.; see also Sieferle
1982 ) .
Sombart’s analysis testifi es a high level of ecological consciousness long before a
modest recognition of the natural restraints of capitalism has set in.
Four features are outstanding in Sombart’s outline so far: fi rst, the rich empirical
details, second, the arrangement according to his threefold distinction, third, his
emphasis of cultural economics (“rationalization”)
35
and fourth, his primitivist
bias.
36
The references for his investigation was scientifi c literature of all kinds, sta-
tistical investigations (but no regression analysis or econometrics), monographs,
personal observations, statements of accounts, biographies, literature, laws and offi -
cial declarations, travel reports, etc. (see, e.g. II, pp 421–435).
Volume three, which was fi rst published in 1927, captures the phase of high capi-
talism from 1760 to 1914 when capitalism dominated all other partial economic
systems. For him, it is a unique and strange historical episode. He thought that after
World War I capitalism would never recover in full again (an assertion which may be
doubted today). The driving force is the search for profi t, for Sombart an uneco-
nomic and in some sense irrational goal because it has nothing to do with the need of
subsistence ( Unterhaltsfürsorge ) as such.
37
In the preface, he further mentions how
much he owes to Marx (despite his book on proletarian socialism). But Marx lived
in the early stages of capitalism so that it is no surprise that he made wrong predic-
tions and that he was a cultural optimist. In Sombart’s view, capitalism has produced
nothing in the cultural sphere. Capitalism should be rejected today (III, p XXI).
3 5
See his short discussion on method as verstehende sociology where the fi nal causes are human
motives in II, pp 844–845.
3 6
He holds for example that there were no real commodity exchange markets before the ninenteenth
century and no commodity drawn bills until the eighteenth century, see II, pp 499–500, and 525.
3 7
“Through the pursuit of such an uneconomic goal as profi t hundreds of millions of men … have
been given a chance to life, culture has been restructured from the bottom to the top, empires have
been founded and destroyed, the mystery world of technology has been created, the planet has
been changed. And all this has happened only because a handful of people has been driven by the
passion to make money” (III, p XIV).
551
21 Werner Sombart
Like Schumpeter (for a comparison see Chaloupek 1995 ) and against Marx, he
stresses that not “capital” is the major driving force but human beings and their
motives, in capitalism especially the entrepreneurs (Chap. 1). He describes the
functional differentiation from the ownership of the means of production, and the
different types (merchant, fi nancial and the expert type). He stresses the democra-
tization of their recruitment disentangles their motives (vanity, power, money,
drive for activity, etc., but he also mentions the sense of responsibility, see III,
p 36). He highlights the mixture of bourgeois rationality and calculation and the
Faustian drive for infi nity (III, pp 14–23). The spiritual difference to early capital-
ism lies in the disembeddedness and independence of religion, customs, family,
etc. Now a spirit of progress, the dominance of the achievement values, love for the
business (neglect of culture, etc.), and the profi t motive take the lead (Buß
1995 ,
pp 21–22).
In a very short part, he deals with the now much less powerful modern state,
which comprises an ambiguous composition of liberal principles and political power
aspects. The modern state is secular, individualist, and has to recognize the interests
of capital (taxes). Germany has the bureaucratic-legal style (III, p 57). The general
exterior policy is despite all liberal phraseology neo-mercantilism. Imperialism
plays a role, but the origins are in the political sphere. The next Chap. 7 deals with
the changes in the technical domain from a very general but impressive perspective,
in which the Faustian motive and rational empirical research are combined with the
disenchantment of nature as a precondition. Applying his basic dichotomies of tech-
nique, the fundamental change lies in the scientifi c and rational character, which
substitutes the empirical and traditional mode. Discoveries are an essential compo-
nent for economic growth. Modern man lives in a technical social atmosphere where
everything technical is admired. Innovations and inventions are imposed, the fi nal
consumer is seen as a passive innovation taker (III, p 95).
Due to the inorganic nature of modern technical progress, emancipation from the
boundaries of organic nature takes place. The coke procedure is a major precondi-
tion and basis of modern capitalism. We see that Sombart stresses once again cul-
ture economics, but at the same time does not neglect the material preconditions of
change at all. In earlier times, man lived from the yearly income of sun energy. “And
all of a sudden mankind had at ist disposal the energies of the sun as treasures in the
interior of the earth which had been accumulated there over millions of years
through radiation down from the sun. A wealth had been found which mankind was
not able to consume through the inventions of modern technology … We now live
in an age in which mankind can consume its wealth in energies and substances and
can in this way show off an unheard of glitter and wealth. What we call high capital-
ism is easily explained in the sudden increase in the wealth of mankind … By brak-
ing the piggybank of earth and spending with both hands he succeeded in showing
off an unheard of wealth” (III, pp 122, 272). Not effi cient allocation and the markets
are for Sombart the essential origin of wealth, but the exploitation of the earth, for-
mulated in a neo-physiocratic and deep ecological way (compare Georgescu-Roegen
1971 ; on the importance of minerals and inorganic production techniques, and the
extinction of species see, e.g. III, pp 263–268).
552 H. Peukert
The second main part deals with the structure of capital, its different types, like
money capital, the mobilization of the commodity world (increase in goods, trans-
port, etc., which also depended on the state infrastructure), and the essential func-
tion of a rationalized credit system for an expanding economy. Modern credit
increased the depersonalisation, denaturalisation and putting into details of (eco-
nomic) live ( Dekonkretisierung , see the list in III, p 222). All these aspects are dis-
cussed in a descriptive, taxonomic and empirical way (III, pp 127–303). Sombart
does not include the early debates on capital theory and monetary theory, probably
a weakness in his project to describe modern capitalism. It is at least an omission in
the light of his book on method (
1930 ) which argued that verstehende economics
includes relevant laws and insights of ordnende economics.
He asks next where the labour force came from and distinguishes and criticizes
naturalist, economic, and sociological hypotheses (see III, p 304 ff.). He stresses
fi rst the importance of forced labour (coloured slavery, III, p 325), second, the free
excess population due to the dissolution of the old village communities and agrarian
reform, and third, the simple increase of the population (III, p 354). He also describes
the new personality and behavioural ideal of the man in town (III, p 348). Before
discussing the internal and external distribution (III, p 470 ff.), he highlights the
necessity and ways to socialize the workers into the new spirit (Chap. 26). “The new
economic order needed such partial men bereft of their personality reduced to spirit
happy and able to function as tiny wheels in a big and complicated clockwork” (III,
p 424). Force, drill, the religious spirit (Weber), the educational force of machine
work etc. are presented. This part which resembles the research of E.P. Thompson,
Foucault and for example Bourdieu and their matrices of discipline shows that,
for Sombart, cultural economics does not only mean the harmonious socialization
and functioning of norms, but that culture also may have a power and force
component.
It is surprising that Sombart calls the capacity of markets to regulate the eco-
nomic activities by the price setting through supply and demand a wonder (III,
p 519). Specifi c markets can be analysed according to the spirit, organization and
technique scheme (III, p 527). Sombart mentions the laws of price: supply and
demand determine prices, the price determines supply and demand, the purchasing
power has an autonomous infl uence on prices (see also his description of the
mechanical emergence of an average price at the stock exchange as an example for
the rationalization of price setting, III, p 667). Also for the labour market, the price
laws hold, but it is only “as-if,” because labour is no commodity. On commodity
markets, the price is determined by the production costs (III, p 529). “Artifi cial”
intervention into the free markets can take place, for example, by the state (taxes,
but also tariffs, patents, laws, market orders, social security, etc.), which infl uences
the free actions of the market participants. It is remarkable that Sombart’s “price
theory” is less then elementary. He does not consider the “theoretical” literature at
all (see also the missing literature in the part on competition, III, pp 551–553).
Second, he accepts the distinction between the free market as such into which
intervention takes place. It would have been more natural to develop here a con-
cept of markets as instituted processes in the tradition of old institutionalism
553
21 Werner Sombart
(see, e.g. Hodgson 1988 ) . It is a major weakness that Sombart never developed
an alternative, institutional price and market theory.
He goes on to discuss the infl uences on markets by labour (trade unions) and
capitalist institutions (e.g. cartels, which are later discussed as legitimate and eco-
nomically benefi cial, see pp 696–697). Later, he also deals with the protection
against risk (e.g. insurance, Chap. 43). He distinguishes three forms of competition
(Chap. 34): quality, surrogate and forced competition. Competition by quality
( Leistungskonkurrenz ) is acceptable, but it is an overvalued and secondary driving
force of capitalism (III, p 558). Surrogate means advertisement which he strongly
rejects because it fools the customer with wrong or arbitrary nonsense (III, p 559).
This was often criticized as cultural elitism in Sombart. Forced competition means
cut-throat competition to undermine competition and to establish monopolies. In a
later chapter, he describes the rationalization of markets in the sense of greater uni-
formity and bigness and motivation (Chap. 36, and III, p 637 ff.) which also
depended on better transport conditions (III, p 650). Speculation in the real and the
monetary sphere has no productive function; it expresses the instinct for play (III,
p 664). Later, he describes the joint stock companies (and their interdependent net-
works and the conglomeration of power in some few hands) as functionally and
spiritually the best fi t with high capitalism (III, pp 712–747, see also Chaps. 48–50).
He also nicely describes the spirit of high capitalist competition (III, p 557).
Besides having discussed demand and forms of fi rms (Chaps. 31, 33, and 37), he
delineates the emergence of the real, rhythmical, expansionary business cycle since
1825 (Chap. 35). The stabilization of cycles is fi rst sign of capitalism becoming old
(Chap. 45). Cyclical expansions are possible due to the inorganic production goods.
Slumps are the result of the disproportion between the expansion in the organic and
the limits of expansion in the non-organic production spheres.
38
His cultural eco-
nomics is manifest in his depiction of the spirit of demand (restlessness, nervous-
ness, need for constant change, e.g. in fashion), its uniformization and would-be
elegance (III, pp 604–605, and 625–627). This corresponds with the depersonalisa-
tion and Verge istung of transactions, dominated by “contractual forms in which the
individual contracting partner enters into a system of objective conditions which
rule the relationship from the very start a relationship which he can use for his per-
sonal ends like a mechanism … where there is no relationship between soul and
soul but where the relationship is only realized through the mediation of an abstract
legal concept” (III, p 657). Geist here only appears in the self-alienated version and
is defi ned as follows. “The spirit is … immaterial what is not soul. Spirit leads its
existence of its own without being alive. The soul is always tied to life, the soul of
a being is tied to this being’s life. The soul of a human being is bound to the life of
this man. Spiritualization is then the process to move from the soul to the spirit, to
isolate and make objective the processes of the soul, a sort of ‘reifi cation’” (III,
p 895). The Geist component should reduce costs, render possible accountability,
and better control of the work force (III, pp 925–926).
38
See Backhaus ( 1987a , b , 1989 ), Lowe ( 1989 ), Krohn ( 1977 , pp 58–65).
554 H. Peukert
He rejects Marx’s thesis of unilateral concentration; his empirical results show that
concentration varies according to branches and depends on the optimal size of the
fi rms (which hinges on production, distribution, and fi nance criteria, see III, p 517).
In most branches (except agriculture), the average size increased but only in very few
branches have some big corporations extinguished little and middle fi rms; mergers
are often due to prestige activities of managers (III, p 881 ff.). He comes back to the
tendency of the abstractifi cation of principles and rules; one example for these ten-
dencies is the introduction of business economics (III, pp 886 ff.).
In the last part, Sombart restates his aim to delineate the spiritual European
background of the archetype of this wondrous greatest product of the civilized
world called capitalism. It made possible, “to feed, cloth, and house a population
which grew by the hundreds of millions also ultimately to give them jewellery and
fashion and to amuse them every night” (III, p 952). We hear again his ambiguous
attitude. He then asks how the older economic systems will fare. Self-suffi cient
economic structures still persist well, the crafts make half of the working popula-
tion, but they changed and most craftsmen are little bourgeois entrepreneurs in
1927 (III, pp 957, 963).
39
The peasants are still holding a respectable margin of
GDP, but their average living conditions are depressed and partially the achieving
spirit creeps in (III, pp 969–971). The cooperative system, defi ned as an association
of non-wealthy economic subjects to improve their economic situation and perfor-
mance by large-scale enterprise (III, p 896), differs in strength in different countries
and may have a great future, but it has a more modest present (II, p 998). The public
and semi-public sector was strong at Sombart’s time, but he thought that its future
is open (III, p 999). The last Chap. 60 on the future will be discussed in the next
paragraph.
Sombart’s third volume had been expected with much interest. Many had been
disappointed. There is no doubt that the book is less structured than the other two
volumes and that sometimes a certain exhaustion can be felt. The spheres of law
and politics are mostly missing. Sombart does not present an alternative theory of
markets, competition and prices. It is nevertheless one of the most impressive
contributions in the social sciences as far the broadness of the presentation, the
application of his systems approach and his excellent application of cultural eco-
nomics are concerned. Sombart was an applied methodological radical: he rejects
pure theory in principle and homo oeconomicus as universal phenomena even on
the level of ideal types (compare Weber). Not rational action but concepts of
mind (spirit) are in the centre, historical-theoretical economics should substitute
mainstream economics, evolution is not Darwinist or economically rational but
governed by idiosyncratic mentalities (see for the pattern variables Gislain and
Steiner
1995 ) .
3 9
Sombart changed his opinion on the future of the crafts system in the face of the empirical data.
In for example (
1919 , p 279 ff., fi rst published 1903), he thought that the crafts would more or less
disappear.
555
21 Werner Sombart
Sombart on the Future and the Future of Sombart
We will concentrate on four texts to summarize Sombart’s discussion of the future
(Sombart
1916 –1927, 1987, Chap. 60; 1928 ; 1932 ; 1934 , p 160 ff.; see also Chaloupek
1996 ) . In the last chapter of modern capitalism ( 1916 –1927, 1987, Chap. 60), Sombart
predicts the general persistence of the capitalist system and an adding of new and
different economic systems, so that corporations, crafts, cooperatives, mixed public-
private organizations, peasants, and other self-suffi cient production systems exist
side by side. Sombart thought that the capitalist elements would loose their prepon-
derance. But there will be no shortage of energy and many mouths have to be fed.
Further, capitalism will be more regulated by the state, subdued to normative
ideas, and it will become more quiet, less turbulent, adult. Big fi rms will become
ponderous machines (III, pp 1012–1013). Non-capitalist economic system elements
will increase which implies a planning economic element which supersedes the
profi t principle. For the human condition, he sees no great difference in a stabilized
capitalism or a rationalized socialism. The difference is, if the economic systems in
which the Seele element rules (self-suffi ciency, farming, and handicraft) will have a
chance in the future (III, pp 1016–1017).
Inner colonization and the increase of peasantry seem inevitable because the
former colonies are or will become independent and so the cheap furnishing of
foodstuff will end. His (wrong) estimate was that the peasantry would increase sig-
nifi cantly as a share of the population and GDP. He holds that farming will never be
totally rationalized ( vergeistet ).
In his paper for the meeting of the Ve re in in Zurich on the changes of capitalism,
Sombart (
1928 ) confi rms the main points of his view: the emancipation of the develop-
ing countries, the necessary increase of agriculture, the intensifi cation of regulation and
rationalization, the decrease of entrepreneurship, and the pluralization of economic
systems. His discussion is organized around the classifi cation of changes in spirit, orga-
nization and technique, that is, the Gestaltidee (
1930 , pp 206–207) of economic sys-
tems we discussed above. We can only mention the main points here. He emphasizes
that the developing countries in Asia and Africa will further advance, but that the West
has not enough capital to invest because capital accumulation will decline. The reasons
are a stagnant population in the developed countries, and the productivity of labour will
decrease. He puts an emphasis on the concentration of capital and cartels (
1928 , p 248)
and the dominance of fi nance capital. The worker will live like a public servant (fi xed
working hours, administered wages, etc., see p 251). For Sombart, capitalism becomes
older; it is – since the war – in the season of fall; he calls it late capitalism.
The next text is about the future of capitalism presented in 1932. Now Sombart
does not only ask how the future looks like, but how the future should be shaped
actively, which is a problem of will (
1932 , 1987, p 394). He points out the plurality of
systems, concentration, Ve rge istung , administered prices by cartels and bargaining,
etc. Then he proposes a planned economy, but not the abolition of private property.
It should be uniform planning on the national level but with freedom, for example in
the sphere of consumption, with a multitude of different economic systems and
spheres and free competition. But also partial socialization is considered and other
556 H. Peukert
types of infl uence like subsidies, taxes, etc. ( 1932 , 1987, p 409). He actively supports
autarky in the sense of a strictly controlled and diminished foreign trade and some
import substitution. Further, he asks for a partial return to an agrarian state
( Reagrarisierung ,
1932 , 1987, pp 415–417). According to him, 40% of the popula-
tion should work in the only partially mechanized farming sector. To realize this
program of fundamental reform, all depends for Sombart on the spirit of the popula-
tion to realize an alternative economic style (
1932 , 1987, p 418).
Practically, Sombart formulated a strategy against unemployment which had
been added to the full employment plan of the Studiengesellschaft für Geld – und
Kreditwirtschaft for the German chancellor of the Reich in August 1932 (see
Backhaus 1989 , pp 94–98). He supported bilateral trade relations and an immediate
massive defi cit-fi nanced infrastructure employment program by the state. The
money should be strictly reserved for investments in the augmentation of the pro-
ductive capacities in the organic part of the economy (where Sombart typically
assumed the bottleneck). He proposed the implementation of peasant villages and
agricultural cooperatives, drainage, canals, a certain rationalization of agricultural
production, for example the consolidation of farmland, etc.
Further, he supported smallholder do-it-yourself villages to further strengthen the
self-suffi cient mode of production. (He rejected, e.g. luxurious highway projects.)
All these measures would absorb the unemployed, reduce the bottlenecks and re-
energize economic activity. This or similar plans were not realized. When Hitler
won the elections in 1934, the highway/rearmament/high tech variant was chosen. In
1939, the Germans were not living a peaceful life near to nature, but went to war.
Some points of Sombart’s theoretical and practical ideas are repeated and speci-
fi ed in his German socialism (
1934 , p 244 ff.). Technical development should be
tamed and controlled by a patent agency which decides according to the public inter-
est. A simpler life style and the creation of peasant communities are his ideal. The
opulence and sophistication of goods, too many cars, planes and noise are criticized.
He pleads for a drastic reduction of the productive and transport superstructure of
society and the creation of natural free areas where a simple and natural life is still
possible. The strengthening of the middle class, the peasants, the self-suffi cient pro-
ducers and the craftsmen is proposed. A number of branches ripe for socialization
are enumerated, e.g. the great banks and transport (
1934 , pp 300–301).
Sombart’s prognosis of calm late capitalism has proven more or less wrong (espe-
cially in the last years). But we should note that, for Sombart, no objective laws exist,
so everything depends fi nally on the free will of the economic actors. His prediction
that regulation of capitalism will increase and that a plurality of economic systems
will coexist side by side (craft system, capitalist fi rm, etc.) has some evidence.
In our view, Sombart’s systems approach has still relevance. Countries in transition
like China or Malaysia can be analysed in an encompassing way with his classifi cation.
In general, what we are missing today are interdisciplinary analyses which over-
come the specialization of professions and disciplines. Another strong point in
Sombart is his formulation of strong hypotheses like the book on the infl uence of
the Jews on capitalism (
1911 ) . Even if he overstated his cases, they were the starting
point of highly relevant debates and what Popper would have liked: strong theses
with a high potential of falsifi cation.
557
21 Werner Sombart
In our view, Sombart’s primitivism is another strong point against the tide because
today we can observe the opposite extreme: because we life in a capitalist society,
its origins and behavioural codes are retrospectively assumed to have existed until
the dawn of man and will persist forever. Sombart’s assumption of clearly distinct
systems and styles includes the possibility that there may never be an end of history
and that we will see another major distinct system in the future (based again on the
principle of satisfaction according to need?). His work is also a counterpoint against
the economic tendency in modern economic history, not only in cliometrics, only to
ask for the forces of growth and its impediments in a transaction costs and property
rights framework. From that perspective, capitalism and non-attenuated private
property are the yardstick of success and failure in a historical unilateral perspective
in which world history converges to capitalism. For Sombart, capitalism was more
a strange and exceptional surprise.
He also posits another image of man in his anthropology against the opportunist
pleasure and pain utility maximizer, our beloved homo oeconomicus . A further
point concerns his basic criticism of capitalist society, whereas today we have an
almost uniform approval which sometimes seems to come close to ideological
legitimization.
Another aspect worth mentioning is his ecological and energetic component (wood,
coke and the exploitation of minerals), the plundering of nature as a precondition of
capitalism. Today, we have the economics of the environment as a clearly separated
and often highly formalized fi eld of research. For Sombart, the ecological dimension
has to be taken into consideration in any refl ection of capitalist development. His criti-
cal remarks are truer than ever, the extinction of species increases, and the hothouse
effect leads among other things to the melting of the arctic ice. The visible end of fos-
sil energy (oil) is taken notice of in the oil producing countries (e.g. in the Emirates).
Will solar energy be accompanied by a completely different economic style?
A certain principle of autarky is discussed in the debate on the EU where some
support a certain economic closure to hold environmental and social standards and
fi ght against social and environmental dumping and beggar-my-neighbour policies.
Sombart’s support of a stronger agrarian basis and a careful inner colonization could
certainly fi nd an open ear in the green back to nature movements.
Sombart’s cultural criticism which has been mostly left out here seems to be rel-
evant today.
40
There is an extensive and critical recent debate on the rationalization
4 0
As mentioned above, in his book on German socialism he speaks of the age of economics in the
last 150 years. He criticizes the primacy of the economy, the profi t motive in most human inter-
actions, the population increase, agglomerations, the mechanization and depersonalisation in pro-
duction and everyday live, monotonous working conditions, the unifi cation (of houses, furniture,
fashion, etc.), the deterioration of religious faith and lack of a common ethos, the destruction and
fi ctionalization of nature, the fl ooding of the world with commodities and motor vehicles, the dis-
solution of village communities and the disappearance of the cosy and restful personality instead
of the nervous person with strong will and intellectual functions, the abolition of natural rhythms,
the hurry up mentality and the ideals of meaningless bigness, quick and hasty movements, and the
constant new (see Sombart
1934 , Part 1). For the hurry up mentality and non-stop transmutations,
see Garhammer (
1999 ).
558 H. Peukert
of all aspects of human life, including politics, in the social sciences (one example is
the highly interesting McDonaldization debate, see Ritzer (
1993, 1998 ) , and for the
critics Alfi no et al. (
1998 ) , where hundreds of recent examples for rationalization are
discussed). It surely grasps an element of modern life. If rationalization in the sense
of Sombart is the unequivocal tendency in modern fi rms and business, relations may
nevertheless be doubted. His emphasis on the unnatural loss of Seele which was an
often neglected but existing component of human interaction in big organizations
(state bureaucracies, fi rms, etc.) and the relative degeneration of Gemeinschafts
structures in them in the last years due to rationalizations is one major distinguishing
criterion in the defi nition of post-modernity in the highly original and creative
approach of Galtung on the costs of modernization (
1997 , pp 43–92).
It can be argued that Sombart’s negative vision of capitalism and the essence of
it came genuinely to the fore only after the breakdown of the so-called socialist
countries and in the process of the globalization of economies, that is, a certain
income polarization in society, the inferiority of politics, the increasing abstractifi -
cation of the money economy with joint stock speculation as the new pop culture,
the decline of trust, the Auto -mobilization and commercialization in all parts of the
world, the depersonalisation of the work process due to computers, the decline of
natural rhythms and relaxation (Garhammer
1999 ) , the reduction and subjugation of
all human interactions to the individual revenue-maximizing principle, etc.
In a very interesting and informative book on global capitalism by Luttwak
(
1999 ) , consultant and Senior fellow at the Center for Strategic and International
Studies in Washington DC, we read: “(T)he logic of turbo-capitalism is that nothing
should stand in the way of economic effi ciency, neither obstructive government
regulations nor traditional habits, neither entrenched interests nor feelings of soli-
darity for the less fortunate, neither arbitrary privileges nor the normal human desire
for stability … The human consequences of turbo-capitalism are both liberating and
profoundly disorienting. The loss of individual authenticity that Friedrich Nietzsche
predicted is now upon us in full force. This process of depersonalisation is visibly
complete in the modern television politician” (
1999 , pp 222, 224). Like Sennett,
Bellah and others, Luttwak (who does not know Sombart)
41
meticulously describes
how the “revenue-maximizing spectacle” intrudes all spheres of social life, the fam-
ily, sports, medicine, and fi rms (for Germany see on a more journalist level Kurz
1999 ) . All these authors conform with Marx and Sombart that capitalism is unique
in history, that it is the fundamental shaping force in society and that it has non-
acceptable social, political, cultural and ecological costs.
We arrive at the paradox that Sombart may be right because he was wrong. His
diagnosis of the end of high capitalism and its further bastardisation after 1914, the
low impact of technological improvements in the confi nes of the coke paradigm, the
4 1
For the parallels in the critical perspective, see Mitzman ( 1973 , p 6 ff.). The authors mentioned
demonstrate that cultural criticism is not a strange extreme of old German conservatism and elit-
ism. For Luttwak’s remark on politicians, compare Sombart (
1907 ).
559
21 Werner Sombart
necessary decrease of foreign trade and productivity, etc. were obviously wrong
predictions in the longer run (but not what the available data of his time were con-
cerned). But with the description of the pure logic of what he called capitalism and
its consequences, including the cultural sphere, was he wrong?
A fi rst step in a forward-looking direction and application of Sombart was pre-
sented by Boltanski and Chiapello ( 1999 ) .
42
In the conscious tradition of Weber and
Sombart, the book analyses the third ideological confi guration of the capitalist spirit
which emerged in the 1980. The empirical basis of their description is the herme-
neutical comparison of some 60 books of the managerial literature in the 1990. The
key element is what they call the metaphysics of the network pattern, including the
positive judgment of adaptation, change, fl exibility, teamwork, communication, cre-
ativity, etc. This necessitates a charming, autonomous fl exible, communicative,
opportunist and light ( vis-à-vis passions and values) character and a permanent
mental radar screening of the environment. Besides the social, their cultural critique
formulates the personal and mental problems of the fl exible networker, his anxiety
to be disconnected (handymania), the exhaustion due to forced autonomy, the divide
between fl exible adaptation and the need for authenticity.
Therefore, Sombart’s relevance today could lie in the application of his approach
to an analysis of the third industrial revolution with the information techniques as
the material basis, after the breakdown of capitalism, the acceleration of globaliza-
tion and deregulation; an analysis including all of Sombart’s dimensions (the new
economics business cycle, the organization and restructuring of international fi rms,
the empirical distribution of capital fl ows, the exhaustion of non-renewable
resources, etc.) under the guidance of his spirit, organization, technique systems
idea with the strong emphasis on changes of “spirit” as the ultimate driving force.
This could be a starting point for further research in the Sombart tradition.
References
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Appel M (1992) Werner Sombart – Historiker und Theoretiker des modernen Kapitalismus.
Metropolis, Marburg
Backhaus JG (1987a) Werner Sombart’s theory of the business cycle, Working paper 87–018.
Limburg University, Maastricht, Faculty of Economics
Backhaus JG (1987b) Werner Sombarts Konjunkturtheorie, Research memorandum 87–036.
Faculty of Economics, Limburg University, Maastricht
Backhaus JG (1989) Werner Sombarts Konjunkturtheorie. In: Schefold B (ed) Studien zur
Entwicklung der ökonomischen Theorie VII, Berlin, pp 77–98
42
See our review (Peukert 2000a , b ).
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565
JG B kh ( d) HdbkfhHi fE i Th h
Introduction
I have no intention of neglecting any analytic work that has been done or is being done in
‘totalitarian’ countries, and the mere fact that such work is presented in the wrappings of a
“totalitarian” philosophy or even intended to serve and to implement it (original italics) is
no more reason for me to neglect it than my strong personal aversion to utilitarianism is a
reason for neglecting the analytic work of Bentham.
Joseph Alois Schumpeter (p. 1153)
Heinrich von Stackelberg (1905–1946) is an interesting person in the history of
economic thought. From the time of his earliest work, he was recognized as a major
contributor to the application of mathematics to important economic problems. The
fact that he was a member of the National Socialist German Worker’s Party ( National
Sozialistische Deutsche Arbeiter Partei , henceforth Nazi) has led to negative
judgments, neglect, and misunderstanding of his work.
Writing about John Stuart Mill (1806–1873), George Joseph Stigler (1911–1992)
expressed the viewpoint of this paper. “When we are told that we must study a
man’s life to understand what he really meant, we are being invited to abandon
science” (p. 91). An individual’s politics and his scientifi c output do not necessarily
infl uence each other. There is no necessary relationship between a person’s scientifi c
work in economics and his politics.
With this understanding, we can agree with Stigler that “some elements of a
man’s milieu must be known to understand him” and turn now to some biographical
information (p. 91).
P. R. Senn (*)
1121 Hinman Avenue , Evanston , IL 60202 , USA
Chapter 22
The Scientifi c Contributions
of Heinrich von Stackelberg
Peter R. Senn
566 P.R. Senn
Biographical Sketch
1
Heinrich von Stackelberg was born in Kudinovo, Russia, to the Estonian branch of
an old Baltic German noble family on October 31st, 1905. Shortly after the outbreak
of the First World War, the family moved to their summer home in Yalta and stayed
there until it was certain that Yalta would fall to the Communists.
By the time he was thirteen, he, and his family, had fl ed the Russian Communists
twice, from Russia to Estonia and then to Upper Silesa. The family settled in
Cologne in 1923. There, in 1924, at the age of 19, he obtained his high school
diploma. He then entered the new University of Cologne. He received his fi rst uni-
versity degree in 1927 and his doctorate in 1930.
In 1919, when the family was still in Silesia and he was only fourteen, he joined
an association of patriotic, aristocratic German youths ( Deutsche-Nationaler
Jugendbund ). He enrolled later in another such organization in Cologne, the Club of
Patriotic Youth ( Jungnationaler Bund ). This was one of many such associations of
young Germans during the time of the Weimar Republic which today might be
labelled “rightwing” but not Nazi. In 1930, he joined another group, the Baltic
Brotherhood ( Baltische Bruderschaft ). It was largely composed of dispossessed
Germans from Estonia and Latvia who were ardent Lutherans.
Stackelberg’s political writings occurred during 1931–1933, when he was in his
twenties. Jürg Niehans (p. 190) has him contributing six articles, James Konow says
fi ve (p. 148) to the Vo ice of Patriotic Youth (Jungnationale Stimme) , the organiza-
tional magazine of which he became editor in 1932. “Generally, he either shunned
issues with little or no economic content, as with racial and church policy, or focused
on their economic aspects as with military policy” (Konow, p. 149).
In December 1931, he joined the Nazi party.
2
In 1933, he became a member of
one of the many branches of the Schutz-Staffel (honour guard or defence corps,
henceforth SS), the elite paramilitary organization of the Nazi party.
3
The SS was a
complex political and military organization made up of three separate and distinct
branches, with related but different functions and goals. The General SS
(Allgemeine-SS) was the main branch of this extremely complex organization. It
served political and administrative roles. The SS-Deaths Head Organization
1
This section relies heavily on a more complete account, Senn ( 1996a ) from which some parts
have been taken.
2
Niehans has 1933 (p. 190). I have examined the Party documents.
3
Konow (p. 148) has him attaining the rank of staff sergeant. He enlisted as a private in the reserves.
Conversations with, and letters from Stackelberg’s son, Hans-Heinrich Freiherr von Stackelberg,
are the reason that some of the standard sources are questioned. All the references to Hans-Heinrich
von Stackelberg are to personal communications from him as are those labelled “(Personal
communication)”.
Konow
and Niehans give the standard German sources for information about Stackelberg’s life.
Senn has them for the English language. There are other places where a few paragraphs about him,
mostly second hand, appear. For an example, see Heinz D. Kurz’s review.
567
22 The Scientifi c Contributions of Heinrich von Stackelberg
(SS-Totenkopfverbande) and, later, the Armed-SS (Waffen-SS) were the other two
branches. The Armed-SS, formed in 1940, was the main fi ghting organization.
After the Nazi takeover in 1933, the Vo ice of Patriotic Youth was shut down
along with all other non-Nazi youth organizations. This was part of the Nazi move
toward centralization ( Gleichschaltung ) and control of German youth. After this
Stackelberg stopped his political writings and began a dramatic change in his views
about Hitler and the Nazis.
By 1931, he was lecturing at the University of Cologne. In 1934, his habilitation
thesis, then a general requirement for admission to German professorates, Market
Forms and Equilibrium ( Marktform und Gleichgewicht henceforth Market Forms ),
was published. Already internationally recognized, in 1935 he joined the faculty of
the University of Berlin. He was tenured in 1937 as a professor without a chair
( Extraordinarius ).
He met the Countess (Gräfi n) Elisabeth (Elisabet) von Kanitz (born 1917) who
was to become his wife, in the spring of 1936. Stackelberg was a devout and dedi-
cated Lutheran who attended church regularly. He was married in 1936 in church
over objections by the SS. By this time he was well on his way to rejection of Nazi
ideas. As early as 1936 Stackelberg was discussing how to quit the Nazi party with-
out harm coming to his family. Obviously, he decided it could not be done (Personal
communication).
At the end of 1936, the Baltic Brotherhood, of which he was a member, was dis-
solved by the Nazis (Konow, p. 160). If the 1933 closing of the Vo ice of Patriotic
Youth was the beginning of change in Stackelberg’s view of the Nazis, the 1936 dis-
solution of his Baltic organization probably marked his complete estrangement
from them. Important among the reasons for this estrangement was that he did not
share the Nazi anti-Semitism.
His attitude toward Jews can be illustrated by the experience of the person who
was probably the last Jewish academic to receive his Ph.D. in Germany before the
Second World War. Arnold Horwell (formerly Horwitz), who was alive and living
in England in late 1996, was Stackelberg’s last Jewish Ph.D. candidate. In his report
( Seminar-Zeugnis ) evaluating the work Horwell did in the summer semester of
1936, Stackelberg speaks highly of him and awards Horwell the grade of “excel-
lent” ( sehr gut or magna cum laude). This was after the Nuremberg Laws of
September 1935 which deprived Jews of many of their rights.
In February 1937, Horwell passed his oral examinations ( mündliche Prüfung ) cum
laude. The University regulations at that time prohibited the granting of the degree he
had earned. Constantin von Dietze (1891–1973) was the other economics professor
sponsoring Horwell. In a successful petition to the administration of the University of
Berlin, von Dietze states that Stackelberg supports the granting of the degree
(Document on fi le). Thus, despite both the Nuremberg and university by-laws that
prohibited it, Horwell got his degree. Ironically, it is very possible that Stackelberg’s
membership in the Nazi party played a role in getting Horwell his Ph.D. degree.
In 1940 he received calls to the economics departments at the German universi-
ties in occupied Prague and Strasbourg. He visited both places and turned them both
down on the grounds that he did not like the nationalism he found (Personal
568 P.R. Senn
communication from his son Hans-Heinrich Stackelberg). In 1941, he accepted a
call to become a professor with a chair ( Ordinarius ) at Bonn.
Stackelberg was never promoted while a member of the SS. Soon after the out-
break of the Second World War, he was drafted into the army. It is worth noting that
“after lengthy discussions with his father-in-law and friends he refused to follow a
request to join the ranks of the Armed SS when he was drafted into the regular army
at the beginning of World War II” (Personal communication).
Stackelberg passed the examinations qualifying him as an interpreter of Russian
shortly before being drafted.
4
He served at least two tours of duty on the Eastern
Front. Konow says two (p. 160). Niehans (p. 191) and Hans-Heinrich Stackelberg
say “several”.
5
His rank, for at least part of his army service, was that of a
Sonderführer (special offi cer – equivalent to major) used for positions like those of
interpreters. Stackelberg was also asked to do some economic studies of the occu-
pied territories (Personal communication).
Stackelberg was released from the army in 1943. He was ill after his last tour of
duty on the Russian front. In that same year, he participated in the fi rst meeting in
Freiburg, of the Freiburg Circle (Freiburger Kreis).
6
He was a founding member of
this illegal and oppositional group which was based on the assumption that Germany
would lose the war. The group set themselves the task of planning the economy of
Germany after the war. Several members were executed in the aftermath of the
failed coup against Hitler.
The Freiburg Circle was largely inspired by Walter Kurt Heinrich Eucken (1891–
1950), but chaired by Erwin Emil von Beckerath (1889–1964), one of Stackelberg’s
teachers. Von Dietze was also a member. Eucken, von Beckerath, and several of the
other members of the group became important fi gures in the economic changes that
accompanied the German reconstruction after the Second World War.
Stackelberg was also a close friend of Ulrich von Hassell (1881–1944), the former
German ambassador to Rome and one of the leaders of the resistance. Von Hassell
was executed in the aftermath of the failed assassination attempt on Hitler. In his
diary, he mentions Stackelberg and his wife in such friendly terms that it is easy to
conclude that he considered Stackelberg to be with him in opposition to Hitler.
7
Stackelberg was also a close friend of the Berlin economist, Jens Jessen
(1896–1944). Like Stackelberg, Jessen shared some Nazi ideas down to about 1933.
Some time after that, Jessen joined the underground movement against Nazism.
Jessen was hanged “for his partnership in the Beck-Goerdeler plot to overthrow the
Hitler regime” (Schmölders, p. 135). Many members of the resistance were early
Nazis who began to resist as they saw the evil regime develop.
In the fall of 1943, Stackelberg went to the University of Madrid as a visiting
professor in the Economics Department of the Institute for Political Studies. This
move might well have saved his life. His relationships with his Spanish colleagues
4
He also knew English, French, Italian, Spanish, ancient Greek and Latin (Konow, p. 147).
5
Again, the standard sources about his military service are probably unreliable. Some have him
serving on both the Eastern and Western fronts and wounded.
6
Niehans says these meetings began about 1942 (p. 191).
7
See von Hassell (pp 323 352 363) for examples
569
22 The Scientifi c Contributions of Heinrich von Stackelberg
were cordial. His 3 years in Spain were very productive. His personal infl uence and
his work left a signifi cant mark on later economic policies in that country. There is
a substantial literature in Spanish about him. The Theory of the Market Economy
was fi rst published in Spanish as Principios de Teoría Económica .
He remained in Spain for the rest of his life, teaching, writing, and revising his
earlier work. He died on October 12th, 1946, after a long bout with Hodgkin’s
disease, shortly before his 41st birthday. He left his wife, two daughters, and a son,
Hans-Heinrich, born on May 31st, 1945.
After the war, his widow was granted a pension by the German government –
something not likely if he had been thought to be an active or important Nazi. In
1948, Stackelberg was posthumously denazifi ed (Konow, p. 161). In early 1996, his
widow and two daughters were living in Germany and his son was a German diplomat
in New York.
The Theoretical and Historical Context of Stackelberg’s Work
Because a person’s scientifi c work appears one way to himself and his contempo-
raries another way in the evolution of a science, it is necessary to say something
about the context in which he wrote. The least important of these was political but
it is a sad commentary on the times that many who have written about Stackelberg
have allowed their politics to infl uence their judgments about his economics.
This is despite the fact that attempts to link Stackelberg’s politics with his
economics have not been successful. Like most such efforts, they fail to recognize
that the political and intellectual realms of a person’s life can be, and often are,
separate – and that both often change over time.
The most important contexts that infl uenced, and in some cases shaped, his work
were the state of economic theory and mathematics. The state of economic theory
was the most important of these.
Antoine Augustin Cournot (1801–1877) is generally given credit as the fi rst
economist to tackle the theoretical problems of monopolistic situations. From his
time on, some of the greatest names in the history of economic thought worked on
a variety of issues related to monopolies, the case of a single seller; duopolies, cases
in which two sellers produced an identical product; and oligopolies, cases in which
a few sellers produced identical products.
They were mainly concerned with how prices were determined, the roles of buy-
ers and sellers, the workings of markets of various kinds, and the possibilities for
and kinds of equilibrium that might result. Up to the late 1920s, despite several
important suggestions, there was little agreement about the role of imperfect com-
petition and how it worked in the economies of the time.
Then came the Great Depression. Prices fell, unemployment rose, businesses
failed everywhere. Policies based on accepted theory did not work. There was little
agreement about how prices were determined in such situations.
By 1933, as the Cambridge economist Joan Violet Robinson (1903–1983) put it, “A
moment has been reached in the development of economic theory when certain defi nite
570 P.R. Senn
problems require to be solved and many writers are at work upon them independently”
(Preface, vi). Three path-breaking books brought new ways of thinking. Two appeared
in the same year, 1933. They were by the American Edward Hastings Chamberlin
(1899–1967), The Theory of Monopolistic Competition, and Robinson’s, The Economics
of Imperfect Competition . Stackelberg’s book, Market Forms was published in 1934.
Roy Forbes Harrod (1900–1978), in his review of Chamberlin’s book, pointed
out that “It is recently come to be realized more and more clearly that the concepts
of competition and monopoly do not cover the whole economic fi eld, that there is
an intermediate area of great importance, probably of greater importance than the
areas of pure monopoly and pure competition, and that in order to analyse a phe-
nomena belonging to this area, something more is required than the mere statement
that it is intermediate” (p. 662).
All three books recognized the importance of the area between pure monopoly
and pure competition although they dealt with it in different ways.
Robinson’s mathematical apparatus was primarily that of geometry. There are 82
fi gures in the 352-page book. There was little use of the calculus. Both Chamberlin
and Stackelberg employed more sophisticated mathematics.
The key point about the mathematical context was that the mathematics of the time
was not powerful enough to resolve all of the problems the three authors recognized.
The situations they described were too complex for the mathematics of the time. The
development of many of their contributions was limited by the state of mathematics.
None of them could have developed all of their ideas to their full potential.
Many concepts, as for example those of control and feedback from engineering,
and practically all of game theory were not yet invented. Neither were many modern
mathematical tools such as topology and linear programming. Until the advent of
digital computers, many of the calculations required to solve their equations were
excessively tedious.
In summary, the historical and theoretical context was that of the Great Depression
and the widespread recognition that the existing conceptual framework of econo-
mists could not provide policy solutions. The mathematics of the time limited how
far economists could go is solving the problems they recognized. The reason all
three authors are enshrined in the history of economic thought is because they
brought new ways of thinking about markets and how they worked.
Stackelberg’s Main Contributions
It is hazardous to try to outguess history. Estimates of Stackelberg’s most important
contributions must vary with the interests of the historian and the time. My own
view is that he will be most remembered for his contributions to the theory of
monopolistic markets. The most important scientifi c contribution Stackelberg made
was in his demonstration that in a majority of duopolistic and oligopolistic situa-
tions, most market prices were indeterminate, showing no tendency to reach an
equilibrium position. Put another way, his main contribution was in the analysis of
571
22 The Scientifi c Contributions of Heinrich von Stackelberg
“unstable” market forms (imperfect or monopolistic competition) which did not fi t
the equilibrium conditions of earlier writers.
But he did much more. Wilhelm Krelle (born 1918) summarized his work as
follows:
Stackelberg was the most gifted theoretical economist in Germany during his time. His
habilitation thesis Marktform und Gleichgewicht (1934) has had a lasting infl uence on price
theory. “Stackelberg asymmetric duopoly” is known all over the world. His contributions to
Austrian capital theory are the basis for all modern extensions of this theory. His textbook
Grundzüge der theoretischen Volkswirtschaftslehre (1934) was the fi rst “modern” introduc-
tion to economics in the sense that it is based on a coherent theory of household and fi rm
behaviour. Moreover, Stackelberg contributed to several other fi elds: cost theory, exchange
rate theory, saving theory and others. (vol. 4, p. 469)
All of the important histories of economic thought evaluate Stackelberg’s work in
slightly different ways. Karl Pribram’s (1877–1973) A History of Economic
Reasoning contains the best short summary of Stackelberg’s contribution.
In a remarkable study of duopolistic and other oligopolistic situations, Heinrich von
Stackelberg elaborated the idea that in the majority of markets prices show no tendency to
reach equilibrium positions, but remain indeterminate. He started from the simple case of two
sellers competing in a market and discussed the alternatives confronting them, showing how
the number of alternatives increased with the number of sellers striving for leadership in the
market. He reduced the great variety of conditions of restricted competition to a limited num-
ber of types and paid special attention to oligopolist situations in which the market was divided
among several sellers through product differentiation but was not closed to the entry of new
fi rms. In his treatment of such cases, he assigned a particular market to each differentiated
product, and argued that varying elasticities of demand for such products enabled each pro-
ducer to adopt an active or a passive attitude not only with regard to the volume of output but
also with regard to price. The main cases Stackelberg distinguished were oligopoly, monop-
oly, and limited monopoly of supply and demand, and bilateral monopoly. (pp. 445–446)
There are many other appraisals of his contributions. Wassily Leontief (1906–1999,
Nobel prize 1973) gave Market Forms an extensive review in The Journal of Political
Economy in 1936. After some preliminary general remarks, Leontief wrote, “In
Marktform und Gleichgewicht , Heinrich von Stackelberg performed the diffi cult
task of strictly deductive reformulation of the theory of monopolistic competition
with much skill and elegance” (p. 554).
Among his fundamental insights were those about “leaders” and “followers” in
the context of duopoly (two sellers) and oligopoly (a few sellers). He was concerned
with understanding the kinds of behaviour that could lead to various kinds of equi-
librium.
8
He developed mathematical and analytical techniques that enabled him to
solve his problem under certain specifi ed conditions.
8
Krelle explains in another way, “The diffi culty of oligopoly theory consists in the fact that the
oligopolists are in a game theoretic situation which, in general, cannot be put into the form of a
pure maximum problem. Stackelberg’s seminal idea was that this can nevertheless be done if – in
the case of a duopoly – one fi rm takes a “dependent” position (that is, takes the actual price or
production of the other fi rm as given) and the other an “independent” one (that is, knows this
behaviour and fi xes its price or production accordingly so that it maximizes its profi ts or other util-
ity indices)”. “Since it is unclear which position the fi rms will take, Stackelberg considered the
oligopoly as a market form without equilibrium” (p. 469).
572 P.R. Senn
There are many ways to assess Stackelberg’s contributions. His place in the
histories of economic thought is sure evidence of a contribution. But the interests
and focus of historians vary widely. Louis Henry Haney (1882–1969), in his History
of Economic Thought , points out that, “In addition to the purely quantitative profi t
principle, he introduces several elements in pricing. These include habits, tenden-
cies to stability, agreements, and time lags. Stackelberg distinguishes and analyses
various cases of duopoly and of joint demand” (p. 707).
Joseph Alois Schumpeter (1883–1950), in a chapter devoted to equilibrium anal-
ysis. (p. 7 in Part 4), mentions Market Forms as one of “several excellent critical
histories” on the theory of monopoly (fn. 10, p. 976).
In summary, Stackelberg was one of the seminal thinkers in economics of the
middle twentieth century. He was one of the trio who revolutionized the way econo-
mists thought about markets and how they work. Although he contributed to several
parts of economics, his ideas have become indispensable for some of mathematical
economics and game theory. His original work was both useful and of the kind on
which those who followed him could, and did, build upon. His contributions pass
the ultimate test for durability in the history of economic thought, the development
of theory or concepts or techniques on which future generations are able to build.
Applications in Economics and Business Today
Because there is so much misunderstanding about the term “application,” some
explanation is required. An elementary requirement is the answer to the question,
“What is being applied, an idea or a technique”? By an idea we mean a viewpoint
or approach. By a technique we mean how something is done. The next question is,
“To what is the idea or technique applied”?
The essence of the power of Stackelberg’s ideas and techniques is that they are
applicable to situations where people must act without necessarily knowing exactly
what will happen as a result of those actions. This means that there are many pos-
sible applications.
Broadly speaking, applications of scientifi c techniques can be focused in two
main areas. One is general or theoretical, the other is practical. General or theoreti-
cal applications are not necessarily aimed at specifi c situations found in the real
world. Practical applications are. They look to provide guidance for politicians,
bureaucrats, businessmen, and others who must deal with real issues. It is the later
with which we are concerned.
Applications of Stackelberg’s or anyone else’s ideas face an intractable problem
of transition. A person’s ideas can only be said to be an application when they are
actually used. Properly speaking, they must be put into practice by businesses or
bureaucratic regulators or law by politicians, courts, and lawyers. Since the over-
whelming bulk of would-be applications come from academics who do not have to
deal with the complexities of any given reality, it is not often that an immediate,
unchanged and direct application of an idea is found.
573
22 The Scientifi c Contributions of Heinrich von Stackelberg
The situation is different for techniques or a body of knowledge about how to do
things. Immediate, unchanged, and direct applications of techniques are often found.
Stackelberg gave us both ideas and techniques.
There are now thousands of applications of Stackelberg’s techniques and
insights.
9
The place to look for the applications is in the citation indexes for periodi-
cal literature and dissertations as well as books. Documentation and the specifi c
references for all those summarized here and many more are to be found in Senn
1996b . This section will, therefore, be devoted to a general discussion of the various
kinds of applications.
A word of caution is needed about the enormous literature on applications.
Because it is predominately mathematical, it sometimes does not even pretend to be
based on any kind of existing economic institutions or reality. Authors of this kind
of application evidently think that behaviours and institutions either fi t, or could or
should be changed to fi t, their assumptions.
It is also important to notice that applications of Stackelberg’s ideas are not lim-
ited to the social sciences and business. Applications are also to be found in math-
ematics, science, biology, engineering, and both economic history and the history
of economic thought. Our interest is in the applications of his ideas in business
and economics.
There is no ideal way to organize the applications of Stackelberg’s ideas and
techniques because the categories often overlap. I have chosen three main areas,
applications for business, for industry and for policymakers such as judges, bureau-
crats and politicians and a catchall, other.
Business Applications
There are many applications which look at how fi rms in a Cournot-Nash model
behave under conditions of uncertainty in market demand with attention to risk
factors. Applications have been developed to show what happens when oligopolists
use different strategies. Using signalling game theory, a model has been built which
demonstrates that a fi rm’s decisions about the choice of sequencing provide
additional information.
For the corporation, the profi tability of forming independent rival divisions has
been found practical under some circumstances. Although it is not legal in some
jurisdictions, unilateral most-favoured-customer pricing will provide superior prof-
its in some cases.
Labour economics has not been neglected. Several games with applications to labour
economics on such topics as policy credibility and infl ation in wage setting exist.
9
It is necessary to distinguish between the applications Stackelberg made and those others have
made. Stackelberg’s applications are discussed above in connection with his contributions and
below in connection with his policies.
574 P.R. Senn
Applications have also been made to just-in-time purchasing and the role of audit
technology and the extension of audit procedures in strategic auditing.
Industry Applications
There has been found a relationship between entry deterrence and overexploita-
tion of fi shing grounds. Although Milton Friedman (born 1912) long ago showed
that cartels are unstable, Stackelberg’s techniques have added to our understand-
ing of some problems of the dynamic inconsistency of oil prices. Dynamic
demand, consumers’ expectations and monopolistic resource extraction have
been used to analyse OPEC pricing policies. Along these lines, the effects of
tariffs and quotas in the face of international oligopoly have been analysed using
Stackelberg techniques.
Many articles are concerned with games and their applications. There are stud-
ies, which demonstrate how economics affected game theory with special attention
to industrial economics. Using a game-theoretic analysis of price-sustainable indus-
try confi gurations in natural monopoly it has been demonstrated that the sustainable
confi guration is the unique Nash equilibrium, and the conditions under which it is
also a Stackelberg equilibrium.
Applications for Policymakers
Some possible implications for antitrust policy have been drawn from comparisons
of performance and welfare in three classical oligopoly models: Stackelberg leader,
Cournot, and collusive monopoly.
There are also applications which show the infl uence of corporate and per-
sonal taxation on the optimal investment, fi nancing, and dividend policies of a
fi rm as a Stackelberg differential game. Several studies model the economic rela-
tions of government-private sector relations as a Stackelberg game. Nash and
Stackelberg strategies and the conditions for operative intergenerational transfers
have been studied.
There are many applications of Stackelberg’s techniques in the fi eld of monetary
and fi scal policy. Applications include the macroeconomic consequences of the
European monetary union, how fi xed exchange rates and non-cooperative monetary
policies might work, monetary policy choices among countries with different
degrees of coordination, full, partial coordination and none, and the role of leader-
ship in international monetary policy on exchange rates. Other policy applications
include macroeconomic policy interaction under fl exible exchange rates and a game
approach to regional economic policy.
575
22 The Scientifi c Contributions of Heinrich von Stackelberg
There are many other studies. Urban planners have used his approach in the
study of the multi-centred city.
Other
The universality of Stackelberg’s ideas is demonstrated by the fact that economists
of every political hue use his ideas and techniques. There are models of capitalism
using different assumptions, for example under worker’s leadership. Several studies
try to estimate the adjustments workers and governments must make when they
have opposing interests. Regulatory enforcement and regulation by participation
have been modelled as games.
The following list of topics show the wide variety of applications:
Regulation and crime in hazardous waste disposal •
Renewable resources •
Large bilateral reductions in superpower nuclear weapons •
Consumer learning and brand loyalty when product quality is unknown •
The transition to nondepletable energy •
International migration •
Liability rules •
Interstate tax competition and locational effi ciency •
Market structure, innovations, and welfare •
Altruism, fundraising, and the measurement of crowding out in economies with •
charitable giving
Senatorial elections •
The United States nursing market •
Retirement decisions in dual career households •
Many of Stackelberg’s ideas have been analysed from the point of view of con-
cepts developed after he died. One such application has been called “Stackelberg
Rent-Seeking”.
It is signifi cant that the fl exibility and power of Stackelberg’s ideas fi t many
situations. It is certain that the possible applications have not been exhausted.
I have not found much explicit recognition of the political aspects of oligopo-
listic struggles, but perhaps that is asking too much in the present stage of our
knowledge. If it could be done, it would help applied economists to make their
advice more signifi cant and more immediately useful.
I am sure that there are many other areas of business and economics that might
benefi t from Stackelberg’s ideas. I was surprised to fi nd no references to the strate-
gies of war and defence and communications. My guess is that there are many
applications in these fi elds which are not made public. It also seems to me that
marketing and manufacturing, are under-represented.
576 P.R. Senn
Stackelberg’s Contributions from the Point
of View of Modern Theory
From the point of view of modern theory, it turns out that Stackelberg did not and
could not have developed all of his ideas to their full potential. The fruitfulness of
some of his contributions, for example “leader” and “follower” in price setting,
became apparent only after his death. I stress this because I do not fi nd much in
Stackelberg’s work that is wrong or incorrect. The picture, rather, is one of careful
theoretical constructions and brilliant insights into many important areas of economics.
Typical is his view about the role of the state with respect to markets. This has
been misunderstood by all but a few of the historians of economic thought. Pribram
says, for example, “He arrived at the conclusion that adequate stability of the econ-
omy should be undertaken by consistent price and production policies operated by
the government” (p. 446).
The reason for the misunderstanding is that his later views as “a determined critic
of every form of planned economy” were expressed in a mathematical paper that he
read to the small resistance group in 1943. Eucken explains that “He had come to
the conclusion that the competitive order is the only principle by which the eco-
nomic problems of our time can be solved, but he drew a sharp distinction between
the competitive order and a system of laisser-faire ” (pp. 133–134).
Mark Blaug (born 1927) and Paul Sturges had it right when they wrote that his
“Later work was on capital theory, and at the time of his death he was attempting a
theory of the whole economic process. A stalwart opponent of central planning he
worked out his criticism in an mathematical form” (p. 362).
Stackelberg was concerned with economic policy. There is no doubt that, as Eucken
says, “he was fully aware of the importance of the task of elaborating a suitable legal
framework for” the competitive order he envisioned. He hoped “to contribute to this
task” (p. 134). In Spain, he made clear that “theory is able to guide practice”. Juan
Valarde Fuertes gives him credit for the “quantum leap” in Spanish economic policy
which opened it up to greater roles for the market and a balanced budget (p. 138).
Jürgen G. Backhaus has the most complete discussion in English of Stackelberg’s
views about the relation of economic theory to policy and his preference for a decen-
tralized market economy. Backhaus also describes Stackelberg’s functional theory
of economic policy instruments. “Stackelberg conceived of a very wide range and
scope of economic policy, and his theory in this respect was designed to make these
economic policies, whatever their goals, both effective and effi cient (in terms of the
resources involved)” (p. 145).
Today there is a broad consensus about the usefulness of a competitive order
along with the necessity for governments to set limits to individual activities.
Mainstream theory also embraces the viewpoint that economic policy instruments
should result in the effi cient use of available resources.
Stackelberg used mathematical and graphical techniques. He wanted to be pre-
cise about the specifi cations of the behaviours he studied. “Economic theory is a
decidedly diffi cult study. This is not so much because of the complexity of its various
propositions but because of the degree of abstraction necessary to master the
577
22 The Scientifi c Contributions of Heinrich von Stackelberg
tremendous multiplicity of economic phenomena and because of the peculiar
interdependence of relations in the economic system which have neither beginning
nor end and could be compared with the ‘snake that bites its own tail’” (Preface to
the fi rst German edition of The Theory of the Market Economy , p. ix).
The conclusion of the Preface shows how he thought about the uses and limits of
mathematics in economic theory.
10
All that mathematics can do is to produce precise thinking [original italics] even about
“imprecise data”, and that is certainly of some consequence. It is partly the fashion in our
profession because of the great complexity of our subject matter to skip lightly over the
diffi culties and to take refuge in some all-embracing conception derived from imaginative
but often unreliable speculation. This becomes entirely impossible if mathematics is used,
for mathematics forces the theorist to impose the strictest discipline on his thoughts. But
this self-discipline is the essence of economic thinking and with it economic theory stands
or falls. (1952, preface to the fi rst German edition, 1943, p. xiii)
This approach is entirely consistent with mainstream modern theory and practice.
His practice of mathematically specifying behaviours is another reason for the
continuing development of his ideas. The number of possible behaviours in any
situation is very large. The number of possible economic situations is probably
close to infi nite. Multiplying the number of possible behaviours by the number of
possible economic situations must result in an enormous set of possibilities. Only a
few thousand of these have been investigated.
The power of Stackelberg’s conceptions when combined with game theory and
modern mathematics gives ample room for many more applications. Modern theory
has demonstrated the extraordinary utility and variety of uses to which Stackelberg’s
theoretical apparatus is applicable. New applications appear as this is recognized.
Because I have detailed many of them in my 1996 publication, I will only add
two more recent. In 1996, Peter Oberender and Claudius Christl discussed the ques-
tion, “Was Heinrich von Stackelberg only a pioneer in price theory”? Their answer
was that he was much more.
Stefan Baumgärtner, in 1998, detailed, for the fi rst time in English, “the remark-
able contribution of Heinrich von Stackelberg to the theory of costs under joint
production given in his Kostentheorie” (Abstract). This has led to joint product
models in which institutional changes produce a public good but happens because
narrow interest groups seek rents for themselves.
His contribution is in the tradition of microeconomics because it emphasizes the
study of individual behaviour that must precede the study of aggregates. One of the
reasons for the continuing development of his ideas is the growing recognition that
this is a required sequence for sound economic analysis.
Modern economic theory has many components, for example, the role of math-
ematics in models. Looking backward, it is clear that Stackelberg would have
insisted that the models should be constructed to fi t the institutional, historical,
political, and economic context.
10
He often played the mathematics down as in Marktform und Gleichgewicht where most of the
mathematics is in a Mathematischer Anhang [Mathematical Appendix], pp. 106–138.
578 P.R. Senn
The importance of Stackelberg’s work was immediately and internationally
recognized. The extraordinary utility and variety of uses to which Stackelberg’s
theoretical apparatus was applicable could only come later. The power of
Stackelberg’s conceptions needed to be combined with game theory and modern
mathematics for their full realization.
The Faculty of Economics and Business Administration of Humboldt University
in Berlin is absolutely right when it puts Stackelberg among its most prominent
professors along with other great men who have a permanent place in the development
of economics, Gustav von Schmoller (1838–1917), Werner Sombart (1863–1941),
Adolf Wagner (1835–1917), and Max Weber (1864–1920) (
http://www.wiwi.
hu-berlin.de/fakultaet/geschichte.shtml
) .
Acknowledgments Jürgen Backhaus, Ursula Backhaus, Wolfgang Drechsler, Merle Kingman,
Gerrit Meijer, and Hans-Heinrich Freiherr von Stackelberg helped me with useful critiques for
which I thank them. I am particularly obligated to Mary Stone Senn who, in addition to making
many specialized computer searches, was helpful in countless other ways. Thanks also to Anita
Lauterstein who did much of the typing. Any errors are my own.
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23(5/6):128–140
Haney LH (1949) History of economic thought: a critical account of the origin and development
of the economic theories of the leading thinkers in the leading nations, 4th enlarged edition.
The Macmillan Company, New York (First edition 1911)
Harrod RF (1933) Review of Edward Hastings Chamberlin. The theory of monopolistic competi-
tion. Econ J XLII(172):661–666
Konow J (1994) The political economy of Heinrich von Stackelberg. Econ Inq 32(1):146–165
Krelle W (1987) Stackelberg, Heinrich von (1905–1946), vol 4. In: Eatwell J, Murray M, Peter N
(eds) The New Palgrave: a dictionary of economics, 4 vols. The Stockton Press, New York,
p 469; a division of Grove’s Dictionaries
Kurz HD (1993) Review of Stackelberg’s ‘Gesammelte Wirtschaftswissenschaftliche
Abhandlungen’. Eur J Hist Econ Thought 1(1):211–216
Leontief W (1936) Stackelberg on monopolistic competition. J Polit Econ 44(4):554–559
Niehans J (1992) Heinrich von Stackelberg: relinking German economics to the mainstream. J Hist
Econ Thought 14(2):189–208
579
22 The Scientifi c Contributions of Heinrich von Stackelberg
Oberender P, Claudius C (1966) Heinrich von Stackelberg: Nur ein Pionier der Preistheorie? in
Jahrbücher für Nationalökonomie und Statistik, vol 215. pp 363–376 (I have not seen this article)
Pribram K (1983) A history of economic reasoning. The Johns Hopkins University Press,
Baltimore
Robinson J (1933) The economics of imperfect competition. Macmillan and Co., Limited, London
(The book was reprinted many times. I worked from the 1948 reprint)
Schmölders G (1948) Jens Jessen (1896–1944). Econ J 58(229):135–136
Schumpeter JA (1954) History of economic analysis, edited from manuscript by Elizabeth Boody
Schumpeter. Oxford University Press, New York
Senn PR (1996a) A short sketch of Stackelberg’s career. J Econ Stud 23(5/6):8–11
Senn PR (1996b) Heinrich von Stackelberg in the history of economic ideas. J Econ Stud
23(5/6):12–35
Stackelberg HV (1932a) Grundlagen einer reinen Kostentheorie. Zeitschrift für Nationalökonomie
3(333–367):552–590
Stackelberg HV (1932b) Grundlagen einer reinen Kostentheorie. Julius Springer, Vienna. Konow
says this book was an expansion of the article above. (163) Backhaus suggests that it was probably
the other way around (Jürgen Backhaus, letter to the author, September 1995)
Stackelberg HV (1952) The theory of the market economy, translated from the German and with
an introduction by Alan T. Peacock. Oxford University Press, New York. This is a translation
of Grundlagen der theoretischen Volkswirtschaftslehre (Foundations of Economic Theory). It
has an interesting history. The fi rst edition was entitled Grundzüge der theoretischen
Nationalökonomie (Outlines of Economic Theory). It was almost entirely destroyed in an air
raid on Stuttgart in 1943. Stackelberg revised and enlarged it during his time in Spain. It was
published fi rst in Spanish, as Principios de Teoría Económica, and then in German in 1948
Stigler GJ (1976) The scientifi c uses of scientifi c biography: with special reference to John Stuart Mill.
In: The economist as preacher and other essays. The University of Chicago Press, Chicago, 1982
von Hassell U (1988) Die Hassell-Tagebücher 1938–1944: Aufzeichnungen vom Andern
Deutschland, nach der Handschrift revidierte und erweiterte Ausgabe unter Mitarbeit von
Klaus Peter Reiss herausgegeben von Friedrich Freiherr Hiller von Gaertringen. Siedler Verlag,
Berlin
von Stackelberg H (1934) Marktform und Gleichgewicht. Julius Springer, Vienna
581
JG B kh ( d) HdbkfhHi fE i Th h
Schumpeter’s Intellectual Field and Habitus
Pierre Bourdieu (1984), the French sociologist, conceptualizes various aspects of
social life in terms of fi elds , which constitute the locus of struggle over a central
stake called capital .
Capital is a resource that yields a particular position, authority,
power, and reward. An intellectual fi eld is made up of agents who take various intel-
lectual positions and compete with each other for cultural capital, i.e., the legiti-
macy of knowledge. The confi guration of the intellectual fi eld represents a
distribution of power held by different theories and schools. Combined with the
intellectual fi eld is the concept of habitus , which refers to a set of dispositions, atti-
tudes, and habits. Since habitus is not only a subjective mental state but also shared,
to a certain extent, intersubjectively in a society, it represents a view of the world
embedded within individual people. Habitus in an intellectual fi eld makes a picture
of the world as the research object of the various academic disciplines and at the
same time is reproduced socially through research and educational institutions.
Schumpeter’s professional achievements were the results of his behavior, and the
intellectual habits and abilities that produced his behavior were to be found within
his own person. At the same time, his mind-set was a creation of the intellectual
fi eld of his day and was understandable and transposable through communications
among a certain group of individuals. This conception of intellectual habits or
habitus will make it possible to appreciate Schumpeter’s work from both subjective
and objective points of view.
Schumpeter demonstrated a strong interest in the intellectual products of the past
in a wide area of the social sciences, and constructed his positions by responding to
the totality of challenges posed by the global intellectual fi elds of the time. He did
Y.
Shionoya (*)
Hitotsubashi University , Kunitachi, 3-34-8 Sakuragaoka , Tama, Tokyo 206-0013, Japan
e-mail: y[email protected]
Chapter 23
Joseph Alois Schumpeter: The Economist
of Rhetoric
Yuichi Shionoya
582 Y. Shionoya
not want to belong to any single school of thought. Rather he was avid in his desire
to examine all points of view and to absorb everything that was good in them. His
erudition is well known, yet it was not a matter of taste but of resources for scientifi c
work. For Schumpeter, the most relevant parts of the intellectual fi eld were
Neoclassicism, Marxism, and German Historicism. In terms of a broader intellec-
tual tradition, he took both positivism and idealism seriously. Schumpeter could
assimilate confl icting ideas, since, for him, they were not alternatives to be chosen
for scientifi c specialization but materials to be integrated for intellectual innovation.
Innovation meant a new combination. That was Schumpeter’s habitus .
Schumpeter is regarded as one of the greatest economists of the twentieth
century, ranking with John Maynard Keynes, who was born in the same year,
1883. As economists and sometimes as rivals, they were equally concerned with
the instability of capitalism, such as infl ation and defl ation, business cycles, and
unemployment, in the early 1900s. Neoclassical economics – the mainstream
economics of the day – could not explain business cycles and unemployment
because it addressed static equilibrium with full utilization of economic resources.
To solve the problems of that period a new theory had to be constructed on a new
basis. That was the challenge to economists.
In the face of that common challenge, the intellectual fi elds of Keynes and
Schumpeter were quite different. For Keynes, the only relevant fi eld was neoclassi-
cal economics, particularly Alfred Marshall’s economics. Keynes criticized neo-
classical full employment economics and developed a new paradigm of static
macroeconomics, whereby the cause of business cycles was found in the changes of
effective demand under fi xed supply conditions. In contrast, Schumpeter tried to
construct a dynamic theory of economic change, focusing on innovations on the
supply side, in place of static theory. For him, depressions were essential and
inevitable part of business cycles produced by the dynamism of entrepreneurial
capitalism. Furthermore, Schumpeter worked to establish a vision of the evolution
of a capitalist system against the background of the intellectual views of Marx and
the German Historical School.
Schumpeter was a great admirer of Léon Walras, one of the founders of
neoclassical economics. Since he believed in the scientifi c value of Walras’s
mathematical formulation of general equilibrium, he appraised the Lausanne School
more highly than the Austrian and Cambridge Schools. Although Walrasian
economics was his core conception of economics, Schumpeter’s intellectual fi eld
was much wider because he absorbed a lot from the special German and Austrian
intellectual climate. At the University of Vienna, he gained familiarity with
Austro-Marxism through his friendship with future Marxist leaders such as Otto
Bauer, Rudolf Hilferding, and Emil Lederer. As Böhm-Bawerk’s provocative article
“Zum Abschluss des Marxschen Systems” (
1896 ) illustrates Marxism was not only
a political movement but also a topic of serious academic debate at Vienna.
Furthermore, the Methodenstreit , which started between Carl Menger and Gustav
von Schmoller at the end of the nineteenth century, had posed grave philosophical
and methodological questions to economists. Schumpeter was drawn to methodology
by the controversy and contributed, in his fi rst book, a positive solution based on
583
23 Joseph Alois Schumpeter: The Economist of Rhetoric
instrumentalism, which can be compared to another solution by Max Weber in terms
of the theory of ideal type.
In quite different directions, Keynes and Schumpeter struggled for a new theory
to shed light on the great problems relating to the destiny of capitalism. The world
responded favorably to Keynes, accepting his theory and proposals for public policy
immediately and enthusiastically. Paul A. Samuelson described the impact of
Keynes’s General Theory as “the unexpected virulence of a disease fi rst attacking
and decimating an isolated tribe of south sea islanders” (1947, p. 146). The
Keynesian Revolution prevailed so overwhelmingly that Schumpeter’s long-term,
wide-ranging perspective was long neglected.
An appraisal of Schumpeter’s outlook began only recently: the founding of the
International Joseph A. Schumpeter Society in 1986 and its Journal of Evolutionary
Economics would symbolically attest to the resurrection of his thought in recent
decades. Since the 1980s, probably with the centenary of Schumpeter’s birth in
1983 as a turning point, the growing interest among economists in the long-tem
development of capitalism has drawn attention to technological innovations, institu-
tionalism, and evolutionism through a reappraisal of Schumpeter’s work. His rich
vision of the long-term and wider perspective has certainly given a stimulus to
broadening the scope of economics.
A Biographical Sketch
There are several biographies on Schumpeter (Allen 1991 , Swedberg 1991 , März
1991 , Stolper 1994 , McCraw 2007 ). Joseph Alois Schumpeter was born in 1883 in
Trest, a small Moravian town in the Austro-Hungarian Empire. (The Germans called
it Triesch, but that name is no longer used and the town is now in the Czech
Republic.) Schumpeter’s father, a textile manufacturer, died when Joseph was 4
years old. Schumpeter was the only child and his mother was dedicated to her pre-
cocious son. Owing to her remarriage to a high-ranking army offi cer, Schumpeter
was able to enter the high society of Vienna and be educated at the Theresianum, a
hotbed of the Austrian aristocracy, and the University of Vienna. But for his father’s
early death and his mother’s remarriage, Schumpeter probably would have lived in
obscurity in the little-known town of Central Europe without getting in touch with,
let alone leaving his mark on, the intellectual history of the world. Schumpeter, the
economist, was the brainchild of the crucial moment.
There is no doubt about Schumpeter’s natural gifts and herculean efforts, but at
the same time he was a conceited and showy person. One of his biographers
described him as possessing pretentious arrogance, a sense of self-importance and
superiority, elaborate courtesy, and an omniscient attitude; he was elitist, a snob’s
snob, known for his conspicuity, ambition, and spats; he would wear an unusual vest
or cravat, a bracelet, colored or two-toned shoes, and carry a silver-headed cane; he
had fl amboyant yet impeccable manners (Allen
1991 , vol. 1, p. 55). To mystify
people, Schumpeter sometimes spoke of his three ambitions in the youth: “I wanted
584 Y. Shionoya
to be the greatest lover in Vienna, the greatest horseman in Austria, and the greatest
economist in the world, but I failed to achieve one of the three”.
In 1901–1906, Schumpeter studied law, history, and economics at the University
of Vienna and soon made his debut as an enfant terrible in the fi eld of economic
theory. At that time, Vienna was a center of economic studies, ranking with
Cambridge and Stockholm; Carl Menger, the founder of the Austrian School of
Economics, had just retired from the university. As the second generation of the
Austrian School, Böhm-Bawerk and Friedrich von Wieser began their work and
Schumpeter became their pupil.
Schumpeter’s early trilogy – Das Wesen und der Hauptinhalt der theoretischen
Nationalökonomie (
1908 ) , Theorie der wirtschaftlichen Entwicklung ( 1912 ) , and
Epochen der Dogmen- und Methodengeschichte (
1914 ) – dealt with static econom-
ics, dynamic economics, and the history of economics, respectively, and estab-
lished a system of basic theoretical economics. The fi rst book explored the
methodological foundation of neoclassical economics and, in my interpretation,
adapted the methodology of Ernst Mach’s instrumentalism to Walras’s general
equilibrium theory. The second volume represented a breakthrough in overcoming
the limitations of economic statics; it presented a unique system of economic
dynamics identifying the fundamental phenomenon of economic development with
the innovations of entrepreneurs. Schumpeter won his immortal reputation with
this single book. The third volume, although small, attempted an imaginative sce-
nario based on a theoretical formulation: Schumpeter regarded the discovery of
economic circulation by the Physiocrats as epochal in the history of economics; he
then described the system of the Classical School and contrasted the Historical and
Marginal Schools.
Schumpeter completed all three volumes by the age of thirty. Schumpeter was of
the opinion that scholars achieve their truly original work in their twenties, which
he called the “decade of sacred fertility”. This applied to Schumpeter himself
because his work in the second half of his career can be seen as an effort to bring his
work in the fi rst half to fruition.
There is an interpretation that Schumpeter started his career as a theoretical
economist and then moved to economic sociology and historical studies in later life.
I have doubts about this. In his curriculum vitae submitted to the University of Bonn
in 1925, he wrote that while attending the Theresianum and the University of Vienna
he developed sociological, philosophical, and historical interests, and after master-
ing mathematical economics he proceeded to the research fi eld of Gustav von
Schmoller (Shionoya
1997 , p. 16). From the beginning of his academic life
Schumpeter had a wide range of interests in history, sociology, and economic theory.
He had already begun sociological studies in 1912, when he published his theoreti-
cal work on economic development. The focus of his sociological concern was a
theory of social class that would serve as the crucial link between the concept of
leadership in various areas of social life, on the one hand, and the overall concept of
civilization and the Zeitgeist , on the other. As we shall see, this sociological link
became the key to his thesis of failing capitalism. His sociological writings are
collected in Schumpeter (
1918 , 1951b , 1953 , 1987 , 1991 ).
585
23 Joseph Alois Schumpeter: The Economist of Rhetoric
Schumpeter taught at the University of Czernowitz in 1909–1911 and at the
University of Graz in 1911–1918. After World War I, he was Ministry of Finance in
the Austrian coalition cabinet of the Social Democratic Party and the Christian Social
Party for 7 months in 1919. He was against overall socialization of industry because
he thought that the time was not ripe, but he did predict the eventual fall of capital-
ism. From 1925 to 1932 he was a professor at the University of Bonn. In 1932,
Schumpeter emigrated to the United States to become a professor at Harvard
University, where he remained until his death in 1950. Schumpeter’s political writings
in the interwar period are collected in Schumpeter (
1985 , 1992 , 1993 ). His writings
on economic theory in his European period are edited in Schumpeter (
1952 ).
In his American period, Schumpeter wrote his later trilogy: Business Cycles
(
1939 ) , Capitalism, Socialism and Democracy ( 1942 ) , and History of Economic
Analysis (
1954a ). Having developed the pure theories of statics and dynamics, his
next tasks were, fi rst, to analyze the historical process of capitalist economic
development, and, second, to diagnose the future trend of the economic, social, and
cultural system of capitalism.
The fi rst task required the empirical identifi cation of economic changes with
entrepreneurial innovations that were accompanied by cyclical fl uctuations. Business
Cycles , in two massive volumes, with the grandiose subtitle “A Theoretical,
Historical and Statistical Analysis of the Capitalist Process”, was intended as an
expansion and elaboration of the theory of economic development in a historical
and statistical context, but it was unsuccessful because it was not equipped with
suffi cient theoretical and statistical tools to deal with historical complexities. In this
connection, it is noted that Schumpeter’s effort to develop a theory of money, which
would be one of the pillars of his theory of innovations, became a failure. Unfi nished
manuscripts are published in Schumpeter (
1970 ).
But this book included interesting vision of integrating theory and history by the
use of the Kondratieff cycle. This long wave with a periodicity of 50 years provided
Schumpeter with a framework for not only statistical analysis of technological
paradigms but also historical research of sociological and institutional background.
The latter research may be called a study of the Zeitgeist .
The second task was undertaken in Capitalism, Socialism and Democracy, where
Schumpeter developed evolutionary economic sociology to address the interactions
between economic and noneconomic areas with the intermediary of social class
theory. Rejecting the view that capitalism would fall because of its economic fail-
ure, he presented his famous thesis that the very success of capitalism in economic
terms would erode its social and moral foundations.
Finally, History of Economic Analysis, published posthumously, was really
Schumpeter’s tour de force and demonstrated that he was perhaps the last of the
great polymaths. It was soon accepted as his most authoritative work. Half a century
later, no other work on the history of economics had surpassed it in terms of scale
and insight. His other writings on the history of economics are published in
Schumpeter (
1915 , 1951a , 1954b , c ).
Why was Schumpeter so interested in the history of economics? For him, the
developments of economy and society, on the one hand, and the developments of
586 Y. Shionoya
thought and science, on the other, were two aspects of the same evolutionary
process. As he was engaged in the history of economic development, so was he
interested in the history of economic doctrines; these two areas of investigation
constituted his approach to the evolution of the mind and society, which offered a
substitute for Marx’s economic interpretation of history concerning the relationship
between the substructure and the superstructure of a society.
To identify Schumpeter’s contributions to economics and to show how he
approached the fi eld, the section III presents my formulation of his overall scheme
for a comprehensive sociology (or alternatively, a universal social science or a
two-structure approach to the mind and society), which is little known to economists.
Although Schumpeter’s name has been exclusively connected with his theory of
economic development and innovation in a capitalist economy, economic analysis
was merely a part of his overall research program. I believe that this is the most
signifi cant gap in Schumpeter scholarship. Then, in section IV, I will set out the
central ideas underlying his overall research program; the importance of these ideas
is delineated in terms of his model of economic development, which has in fact been
explored more fully than other parts of the scheme. Finally, in sections V-VII, I will
illustrate how Schumpeter tackled the insurmountable tasks of constructing a
universal social science with his mastery of rhetoric.
The Research Program for a Comprehensive Sociology
What style of science did Schumpeter plan and pursue through his lifelong academic
activities? In an interview with the Harvard Crimson in the later stage of his life,
Schumpeter called his long-standing research program a “comprehensive sociology”
and observed: “Early in life I formed an idea of a rich and full life to include eco-
nomics, politics, science, art, and love. All my failures are due to observance of this
program and my success to neglect of it: concentration is necessary for success in
any fi eld” (Harvard Crimson 1944). Comprehensive sociology means the integration
of the social sciences by treating separate social phenomena from the sociological
perspective.
In his early work on the history of social thought, Schumpeter predicted the
future direction of the social sciences to be their Soziologisierung , which can be
understood to mean a comprehensive sociology (
1915 , p. 133). He expected an
epoch similar to the eighteenth century, when the social sciences were dominated by
the unifying principle of moral science or moral philosophy as the science of man.
Soziologisierung of the social sciences for their reunifi cation is the basic framework
within which to understand Schumpeter’s work.
In fact, he did not develop a comprehensive sociology, but rather two sociologies –
economic sociology and the sociology of science – that may be interpreted as his
strategic version of a comprehensive sociology. In this sense, I call the total body of
Schumpeter’s work a “two-structure approach to the mind and society” after his
587
23 Joseph Alois Schumpeter: The Economist of Rhetoric
discerning characterization of Giambattista Vico’s work as “an evolutionary science
of the mind and society” (
1954a , p. 137).
By a “two-structure approach to the mind and society” I mean two systems each
consisting of three layers (Shionoya 1997, pp. 260–265). The system of substantive
theory, about the economy, consists of economic statics, economic dynamics, and
economic sociology. The system of metatheory, about economics, includes the phi-
losophy of science, the history of science, and the sociology of science. These two
systems are parallel in viewing the economy, on the one hand, and economics, on
the other, from the viewpoints of, fi rst, static structure, second, dynamic develop-
ment, and third, their activities in a social context.
If the two sets of thought are likened to buildings, we can envisage two intel-
lectual buildings (Fig.
23.1 ) – one for society and one for the mind, or, more
specifi cally, one for the economy and one for economics. They each have three
stories, with their third fl oor linked by a passage representing what Schumpeter
called “comprehensive sociology.”
The System of Substantive Theory
Schumpeter’s economic writings cover all three layers in the system of substantive
theory. Wesen is concerned with economic statics, Entwicklung with economic
dynamics, and Capitalism, Socialism and Democracy with economic sociology.
For Schumpeter, a general equilibrium in economic statics was not a fi ction but
the logic of an economy that formulates the consequences of the adaptive behavior
of ordinary economic agents responding to their exogenously given circumstances.
He regarded economic statics as the Magna Carta of economic theory in the sense
substantive theory metatheoryobjects of study
economic
sociology
economic
dynamics
economic
statics
sociology
of
science
history
of
science
philosophy
of
science
economics
economy
evolution
society mind
Fig. 23.1 Schumpeter’s two-structure approach
588 Y. Shionoya
that economics should be established as an exact and autonomous science on the
basis of economic statics. Economic statics is applied to the process of circular fl ow,
in which the economy repeats itself year after year, with its size and structure
remaining constant under given conditions. According to Schumpeter, economic
growth based on an increase in population and capital can also be explained by
economic statics because these changes are exogenous.
By an analogy with economic equilibrium, he assumed the presence of static
order in other areas of social life such as politics, science, art, and morality and
explained static states by reference to the adaptive behavior of ordinary people. His
unique view was that the dynamic phenomenon in the economic process is brought
about by a destruction of the previous equilibrium by forces from within the
economy, i.e., by the innovations of entrepreneurs. He also argued, using an analogy
with economic dynamics, that such dynamic phenomena occur in other areas of
social life, also by innovators’ destruction of the existing order. If innovators succeed
in introducing a new way of life to specifi c areas, the direction in which the general
public will follow is set, and they become the leaders in these areas. Adaptive
behavior is to statics what innovative behavior is to dynamics; just as a static state
in any area is characterized by the average man following conventions and customs,
so is a dynamic state marked by a leader who has enough energy and will, foresight
and creativity to introduce innovations. The entrepreneur in the economic area is a
special kind of leader.
The logic of economic sociology, the third branch in the system of theory,
consists of an analysis of institutions that are exogenously given to economic
theory and are lumped together to include all noneconomic factors. Schumpeter
defi ned economic sociology as “a sort of generalized or typifi ed or stylized
economic history” (
1954a , p. 20). It is the concept of an institutional framework
that can generalize, typify, or stylize the complexities of economic history. In other
words, economic sociology is the generalization, typifi cation, and stylization of
history by means of institutional analysis.
Economic sociology does not deal with the totality of interactions between all
areas of social life, which Schumpeter termed “sociocultural development,” but it
summarizes the interactions between economic and noneconomic areas by focusing
on the institutional factors that condition the purposes of economic activities. In this
sense, economic sociology is an approximation of the study of sociocultural devel-
opments. Sociocultural development as a whole is the theme of what Schumpeter
called a comprehensive sociology or a universal social science, and this was the
ultimate goal of his scientifi c endeavors. The idea of a universal social science
which would deal with the sociocultural development was presented in chapter 7 of
the fi rst edition of Entwicklung . This important chapter, however, was eliminated
in the second edition of 1926 and the English translation of 1934.
Schumpeter found the source of economic sociology in the work of the historical
and ethical method advocated by Schmoller for the German Historical School.
In his important article “Gustav v. Schmoller und die Probleme von heute” (
1926 ,
reprinted in
1954b ) , Schumpeter regarded Schmoller’s approach as the prototype of
economic sociology and argued that economic sociology or institutional analysis of
589
23 Joseph Alois Schumpeter: The Economist of Rhetoric
economic history would realize “reasoned history,” i.e., the synthesis of theory and
history. The foremost concept of economic sociology that Schumpeter found in the
research program of the German Historical School was the integration of two
viewpoints, the unity of social life and development – the idea of the endogenous
evolution of society as a whole through interactions among the various areas of
social life. Thus, Schumpeter developed a substantive solution to overcome the
antagonism between theory and history in the Methodenstreit, in addition to the
methodological solution to the various issues raised by the controversy.
The System of Metatheory
It is generally recognized that Schumpeter accomplished excellent work on the
history of economics, but his system of metatheory, which comprises the history of
economics as a part, is little known. I fi nd in Schumpeter’s writings a set of
metatheories with three layers that can be regarded as the counterpart of his set
of substantive theories on the economy. Metatheory is a theory about theory. Just as
his economic studies contain three layers, i.e., economic statics, economic dynamics,
and economic sociology, his studies on science have three parallel layers, i.e., statics
of science, dynamics of science, and sociology of science. In the common usage, the
fi rst one is called the methodology of science (or the philosophy of science), which
is concerned with the static structure and rules of science; the second, the history of
science, which deals with the dynamic development of science; and the third, the
sociology of science, which views scientifi c activities as social phenomena. It is
natural that a strong structural parallelism exists between the systems of substantive
theory and metatheory because the same methods of observation are applied to the
two areas of social life, i.e., economy and science; the same methods will permit
analysis of static equilibrium, dynamic development, and interactions with other
social areas, respectively.
Schumpeter’s methodology of science was developed in his fi rst book, Wesen.
Since his contribution to economics is considered to be in the realm of dynamic
theory, his no-less-important work on static theory has not received the attention it
deserves. Even the fact that this book is about methodology is not generally known.
Schumpeter ingeniously applied to economics the instrumentalist methodology and
phenomenalist epistemology developed at the end of nineteenth century by natural
scientists such as Ernst Mach, Henri Poincaré, and Pierre Duhem. Instrumentalism
is the view that theories are not descriptions but instruments for deriving useful
results and are neither true nor false. Unlike the present-day narrow view of instru-
mentalism, useful results of theories, for Schumpeter, should be interpreted broadly
to include not only the generation of predictions but also the classifi cation, organi-
zation, and explanation of observable phenomena and guides for action. If theories
are instruments in this sense, it is useless to ask whether they are true or false; it is
only possible to ask whether they are useful for certain purposes. Therefore, the
realism of assumptions in a corpus of theories does not matter.
590 Y. Shionoya
The Methodenstreit was concerned with the explanatory primacy of historical
vs. theoretical methods, or inductive vs. deductive methods. But this cannot be a
genuine issue of debate because both methods are indispensable depending on the
problems involved. The genuine issue was not methods but problems to be pursued.
Whereas the Historical School focused on the economics of institutions and evolu-
tion, the Neoclassical School claimed the economics of utility and prices.
Schumpeter was much infl uenced by Mach’s phenomenology, according to
which science should not indulge in a metaphysical speculation that assumes the
essence behind phenomena, and it should reject the notion of causality, which
attributes phenomena to some ultimate cause. Mach argued that one should
address only the functional relationship between elements that are found in the
phenomenal world through sensual experiences. Walras’s general equilibrium
model conceptualizes the world in terms of the general interdependence between
prices and quantities of goods and factors of production. Schumpeter discovered in
Walras’s theory the best case for the application of phenomenalism, and this is the
reason why he admired Walras so much. The mathematical elegance of general
equilibrium was irrelevant.
In constructing a scenario on the historical development of economics,
Schumpeter applied the same patterns of thought as established between statics and
dynamics of the economy. He introduced the concept of the “classical situation” as
a device of periodization in history; defi ning it as “the achievement of substantial
agreement after a long period of struggle and controversy – the consolidation of the
fresh and original work which went before” (
1954a , p. 51). Thomas Kuhn ( 1970 )
later termed the same situation the establishment of a “normal science.” Once the
classical situation is established, scientists are engaged in the production of poten-
tial scientifi c results under a new paradigm; this is compared with a stationary econ-
omy that is repeating itself on a fi xed channel with a constant scale and structure.
Dynamic phenomena in science involve a scientifi c revolution and its aftermath;
parallel to innovative entrepreneurs in the economy, innovators in science challenge
traditional paradigms by introducing new ideas and new theories. The formation of
schools in science is compared to the clustering of imitators who follow the innova-
tors. Revolution and synthesis are the two moments in scientifi c development.
If we combine the results of Schumpeter’s historical research on economic
development in his Business Cycles, on the one hand, and the development of
economics in his History of Economic Analysis , on the other, an interesting picture
will emerge. According to the Kondratieff framework of long waves in economic
activities, which Schumpeter used for historical investigation, the Industrial
Revolution Kondratieff (1787–1843), the Bourgeois Kondratieff (1843–1898),
and the Neomercantilist Kondratieff (1898–1950) are distinguished. Similar
50-year cycles are also evident in the chronology of the history of economics:
the fi rst classical situation was marked by the acceptance of Adam Smith’s sys-
tem of economic thought around 1790, the second by the maturity of classical
economics at John Stuart Mill around 1848, and the third by the synthesis of
neoclassical economics by Alfred Marshall and Knut Wicksell around 1890.
Although Schumpeter did not explicitly mention a fourth period, by following
591
23 Joseph Alois Schumpeter: The Economist of Rhetoric
his procedure we can probably defi ne the fourth classical situation as the estab-
lishment of Keynesian economics around 1950. The long waves in the history of the
economy and economics, which Schumpeter just suggested, present a stimulating
methodological question concerning the evolutionary interrelationship between the
mind and society.
Developments in science, according to Schumpeter, do not proceed in a linear
fashion in which the past achievements are carried over to the future so that scien-
tifi c knowledge grows cumulatively. Important creative ideas are sometimes left
behind the mainstream that gains power by caprice and chance. Thus, developments
in science are not a logical process but a proper subject of the sociology of science,
the third branch of metathory. For Schumpeter, the subject of the sociology of sci-
ence was twofold: schools and vision. The formation of schools is an important
strategy in establishing the “classical situation.”
Along with the concept of the “classical situation,” which concerns the mecha-
nism of revolution and ensuing synthesis, Schumpeter put forward another concept
of the “fi liation of scientifi c ideas,” one that produces a theoretical reformulation of
neglected ideas. Through discourses with past history, fragments left in the shadow
of that history will revive as a vision to guide the formation of new theories. This
form of fi liation in history emerges from a combination of vision and theory that
takes place over time.
Fundamental Ideas
To understand Schumpeter’s overall framework of a universal social science, I will set
out the fundamental ideas organizing that framework. There are three such ideas in
Schumpeter’s thought: (1) the dichotomy of statics and dynamics in terms of the type
of man, (2) the evolutionary development of society through interactions between
social areas, and (3) the notioin of institution as the synthesis of theory and history.
Each of these ideas represents a response to the challenges to Neoclassicism, Marxism,
and German Historicism, all of which are Schumpeter’s intellectual fi elds. These
responses are designed to organize the framework of a universal social science.
Insofar as society is seen as composed of individuals and their interactions, we
must start with some conceptions of individuals. The conception of the agent as a
rational utility maximizer based on fi xed preferences has occupied a central place in
mainstream neoclassical economic theory and is often labeled homo oeconomicus
or economic man. Various criticisms have been raised of the notion of economic
man: for example, holism against individualism, altruism against egoism, and irra-
tionalism against rationalism. But, from the viewpoint of instrumentalist methodology,
the realism of the assumptions should not matter; the conception of man should
depend on what problems are to be addressed. Schumpeter’s problem was to explore
a new horizon of dynamic economics vis-à-vis static economics. For this purpose,
he proposed to defi ne the dynamic man in contradistinction to the static man in such
a way that the dynamic man was innovative, whereas the static man was adaptive
592 Y. Shionoya
to given conditions. He called the static man “hedonistic” and the dynamic man
“energetic.” This is the most orthodox approach to methodological individualism in
view of other dynamic approaches to saving-investment relations, monetary distur-
bances, period analysis, disequilibrium analysis, and expectations.
Schumpeter’s idea of the dynamic man has some affi nity with contemporary
sociological thought such as the superman of Friedrich Nietzsche, the élan vital of
Henri Bergson, the circulation of the elite of Vilfredo Pareto, the imitation of Jean
Gabriel Tarde, the charisma of Max Weber, the law of a small number of Friedrich
von Wieser, and the life philosophy of Ortega y Gaset. These examples are variants
of human typology and Schumpeter was probably animated by them. But his
originality was twofold: fi rst, he applied the sociological dichotomy to the basic
assumptions of the static vs. dynamic system by the rhetoric of antithesis , and
second, he applied the dichotomy not only to economic area but also to all other
areas by the rhetoric of analogy .
Schumpeter’s second fundamental idea was the evolutionary development of
society through interactions between various social areas. This was his response
to the Marxian challenge of historical materialism, which viewed historical
processes as unilateral relations from production processes as the substructure of
society to political, social, and cultural processes as the superstructure of society
through the pivotal position of the class structure of capital and labor. For
Schumpeter, social class also occupied an important place in evolutionary
development as a whole, but his conception of social class was not confi ned to the
economic area but consisted of more open social dynamics derived from leadership
formation in various social areas. Although he mentioned the notion of compre-
hensive sociocultural development, his actual work was confi ned to the two social
areas; economic and noneconomic, the latter referring to a way of thinking, social
values, and the Zeitgeist. This division of the two areas preserved the Marxian
infl uence of the super- and substructure concepts. The basic idea of Capitali sm,
Socialism and Democracy is that capitalist economic development driven by the
innovation of entrepreneurs will make the Zeitgeist of society anticapitalistic and
this in turn will gradually create a social atmosphere in which it is more diffi cult
for innovations to occur.
If it were possible to analyze comprehensive sociocultural developments
comprising various social areas, more important results would be obtained from the
Schumpeterian apparatus. Social class has the function of weighing and integrating
various social areas, in which successful leaders ascend to the top of a society. In the
past, such areas as economy, politics, religion, and the military played important
social roles, according to which a hierarchy was established among the social classes
of the various areas to create a social order. The determinant of the hierarchy is called
“social value,” meaning the aptitude for fulfi lling socially necessary functions in a
specifi c historical situation. Social values , which weigh and integrate social classes
into a hierarchical system, and the Zeitgeist , which is the ideological expression of
the hierarchy, characterize the nature of a society as a whole. It is possible that social
values and the Zeitgeist will confl ict: Schumpeter’s famous thesis on the fall of capi-
talism is reduced to the argument that the social values demanded by capitalism and
593
23 Joseph Alois Schumpeter: The Economist of Rhetoric
the Zeitgeist produced by capitalism may collide. This collision, in turn, is reduced
to the antinomy between heroism and rationalism, each being derived from the defi -
nition of the dynamic and static man, respectively. If an analysis could be extended
to specifi c interactions between major social areas such as the economic, political,
religious, intellectual, and military spheres, one would address the prospect of chang-
ing social values and of shifting the locus of innovative human resources after the fall
of capitalism or the system of economic dominance.
Now let us turn to the third basic idea of Schumpeter’s research program: the
notion that institution is intended to achieve the synthesis of theory and history.
This was his response to the Methodenstreit between theory and history and opened
a new frontier to the theoretical analysis of history. Schumpeter believed that his-
tory is much more important than theory because “the subject matter of economics
is essentially a unique process in historic time” (
1954a , p. 12.) The concept of
institution is a means of generalizing historical events, but it is generally limited
due to its historical relativeity. Thus, it can be conceived of as a compromise
between the generality meant by theory and the individuality meant by history.
Both economic sociology and the sociology of science, with their focus on the
concept of institutions, lump together all factors exogenous to the proper areas of
economy and science in a convenient grab bag of institutions.
It is the core proposition of institutional economics that institutions and indi-
viduals constitute an action-information loop. Institutions are social norms, con-
sisting of laws, morality, and customs. Institutions offer information on normative
rules to individuals, and actions of individuals, in turn, provide institutions with
habitual behaviors. Schumpeter sometimes called the institutional totality simply
the Zeitgeist that exists outside the economy. Therefore, the action-information
loop between institutions and individuals presents another picture of the interac-
tions between economic and noneconomic areas. Institutional economics and
economic sociology provide complementary approaches to the goal of a compre-
hensive sociology.
Against the background of his three fundamental ideas, it will be realized that
Schumpeter’s theory of economic development marks only the midpoint in his
journey. But, at the same time, it should be remembered that this theory contains
a core of the whole scheme. So let us examine its structure. There are three key
words. The fi rst is innovation , the cause of economic development. Innovation
covers the introduction of a new product, a new method of production, the open-
ing of a new market, the acquisition of a new source of supply, and the reorgani-
zation of an existing industry. The second key word is entrepreneur , the subject
of economic development or the agent of innovation. Because innovation requires
foresight and originality, resolution and action, innovators are rare. If one
succeeds in introducing a change, he can get entrepreneurial profi ts. The third
element is bank credit , the means by which the entrepreneur accomplishes
innovation. In economic statics, there is no room for the essential role of money
to command economic resources.
Although the mechanisms of dynamics in major areas of social life – for example,
economic, political, scientifi c, or religious – are naturally quite different from each
594 Y. Shionoya
other, the general nature of dynamism is essentially the same: there must be innova-
tion, innovators, and an instrument. Given the developments in all areas of social life,
the essence of the tasks of Schumpeter’s universal social science is how to integrate
them to understand the evolutionary patterns of society as a whole. This is the question
for institutional economics and economic sociology to explore beyond the theory of
economic development. Now we have come to the stage where we can see how
Schumpeter addressed it. An analysis of the fundamental ideas in his universal social
science from a different perspective is given in Shionoya (
2004 ).
Intellectual Field and the Rhetoric of Antithesis
Twentieth-century economics was remarkably precise. In spite of that, or rather
because of that, economics is unable to tackle the huge problem of social evolution.
However sharp a razor may be, it is not fi t for cutting trees; such work requires an
axe. This is the challenge of agreement between problem and method. When
Schumpeter presented a unique vision of the historical evolution of a capitalist
society in terms of a comprehensive sociology or universal social science, he
capitalized on rhetoric to articulate his ideas. No other methods were available.
For Schumpeter, rhetoric played the role of the axe to cut a path through an unex-
plored fi eld. In a fi eld that is beyond existing theory, a vision of objects must be
presented fi rst. The history of science often shows that when an attractive vision is
received, a clear theoretical formulation will follow sooner or later. In fact, Schumpeter’s
notion of “the fi liation of scientifi c ideas” applies to the successful combination of
early vision and later theory over time.
Although rhetoric is traditionally expelled from positivist logic and the
philosophy of science, it has an important role to play in the context of discovery
rather than in the context of justifi cation of scientifi c thought. On the other hand,
traditional rhetoric as the art of making speeches is engaged in the detailed clas-
sifi cation of modifying phrases and sentences, but not in the formulation of tools
for thinking and expressing visions. I am not so much concerned about a fi gure of
speech as a fi gure of thought. Rhetoric as a fi gure of thought is an instrument for
posing entirely new questions and for stimulating further exploration. In my view,
the most important types of rhetoric as a fi gure of thought are antithesis , meta-
phor , and paradox . I will use them in analyzing Schumpeter’s rhetoric.
The concept of antithesis sets out a binary relation A and B and emphasizes the
contrast, opposition, and contraposition between them. Examples include subjective
and objective, fact and value, theory and practice, and East and West. The aims of
using antithesis are, fi rst, to distinguish literally between the two; and second, to
synthesize the two through the interplay of opposing polarities (for instance, the
dialectic of Hegel and Marx). These two cases, presupposing the existence of two
contraries, propose a distinction or synthesis between them. In contrast, there is a
third aim: to create B against existing A on the supposition that one cannot get
along with A alone. Because B does not yet exist in the proper shape of an idea or fact,
595
23 Joseph Alois Schumpeter: The Economist of Rhetoric
it is required to appeal to rhetoric to persuade one of the necessity and signifi cance
of B in comparison to A. This is a function of creation.
Schumpeter encountered a wide intellectual fi eld that involved plural antitheses
between schools of thought, and he responded positively to all of them. Here I will
discuss only two instances: (1) Schmoller and Menger and (2) Walras and Marx.
Schmoller and Menger
In Schumpeter’s opinion, the Methodenstreit between Schmoller and Menger was a
useless debate based on a false conception of antithesis between theory and history.
In Wesen, he proposed a compromise based on the methodology of instrumentalism,
according to which the theoretical or historical method should be chosen depending
on the problems to be addressed. This solution separates theory and history, which
is not argued on mere rhetoric but is based on methodology.
However, when Schumpeter introduced an economic sociology that went
beyond economic statics and dynamics, he focused on the cooperation of theory
and history, instead of their separation and differentiation, in order to deal with
complex problems. In his 1926 article on Schmoller, Schumpeter provided an
appraisal of Schmoller’s historical and ethical economics and characterized it
as economic sociology in which theory and history could be integrated (1926).
Among several attempts to deal with the great problem of historical evolution,
Schumpeter rejected a “single hypothesis of the Comte-Buckle-Marx kind” (
1954a ,
p. 811) that reduces historical dynamism to the working of a single element, and he
was quite sympathetic to Schmoller, whose main work he called a “comprehensive
mosaic” (
1954b , p. 165) compared with Marx’s monolithic structure. With regard
to Marx’s attempt to integrate history and theory, Schumpeter’s rhetoric asserted
that it was not “technical” but “chemical” (
1950 , p. 44).
Walras and Marx
The antithesis of Walras and Marx means in a symbolic sense the antithesis of
economic statics and dynamics. The aims of this rhetoric are twofold: to claim the
need of dynamic economics beyond Walrasian statics and to declare the need of
economic sociology beyond economic statics and dynamics. When Schumpeter
explained his goal in the study of economic change in his preface to the Japanese
edition of Entwicklung , he thought it is necessary to refer to two great names, Walras
and Marx, meaning that his theory embraced both of their ideas (
1951c , p. 159).
Most commentators regarded it as one of Schumpeter’s many paradoxes, asking
how it was ever possible to believe in the thought of general equilibrium and that of
falling capitalism at the same time. This criticism was brought about by Schumpeter’s
596 Y. Shionoya
provocative rhetoric, but, I argue, it is based on the misunderstanding or ignorance
of his system, which I have interpreted by the three-layer structure.
Schumpeter accepted Walras’s theory because it – for the fi rst time in the history
of economics – clarifi ed the mechanism of general economic equilibrium by which
all economic variables are interdependently determined under given exogenous
conditions, and because it described the functioning of markets as a real force
moving toward equilibrium in spite of apparent disturbances so that the economic
system could be regarded as stable. Walras’s idea ensures scientifi c autonomy for
economics. Schumpeter’s dynamics must be constructed on the basis of the
Walrasian economic logic and mechanism because, in Schumpeter’s view, economic
development is merely a destruction of equilibrium and does not possess dynamic
equilibrium.
On the other hand, Schumpeter was also a great admirer of the Marxian view
because it – for the fi rst time in the history of economics – grasped the endogenous
evolutionary process of the capitalist system in the context of the historical time, and
because it presented a scenario of failing capitalism owing to its inherent contradic-
tions. Although his reasoning is different from Marx’s, Schumpeter shared the insight
with Marx that capitalism does not continue to work forever like a perpetual motion
machine. Although in Entwicklung, Schumpeter just described the operation of capi-
talism within the economic area, where there is no obstacle to the emergence of
entrepreneurial innovation, he could reach the level of Marx’s argument for declining
capitalism only when he addressed the scope of economic sociology developed in
Capitalism , integrating interactions between various social areas. Given Schumpeter’s
three-layer system of economic statics, economic dynamics, and economic sociol-
ogy, there is nothing paradoxical in accepting the view of both Walras and Marx.
Intellectual Frontier and the Rhetoric of Metaphor
Among the various forms of rhetoric, the most often discussed is metaphor . When
an object is to be described, metaphor uses a different term to stand in for that object
to which it does not properly apply. (Example: “Henry is a lion.”) Metaphor is a
subcategory of a broader concept of analogy that also includes simile, allegory,
metonymy, and synecdoche. In this case, it is only necessary to refer to simile and
allegory. Simile is an explicit comparison of one thing with another; two things are
expressed and in what respect they are compared is shown. (Example: “Henry is
brave like a lion.”) In contrast, in metaphor the similarity between the two things
being compared (“bravery” in the example) remains implicit. The reason for keep-
ing the similarity implicit in metaphor is not always intentional; rather, metaphor is
used because the feature of an object is hard to express literally. Therefore, a com-
parison of two things in metaphor without describing a point of similarity will allow
a wide range of different interpretations and imagination. The production of images
through metaphor is important for the creation of vision and thought. When it is
diffi cult to properly describe an object in question X, metaphor is used as an ana-
logical inference and to acquire a cognition about X on the basis of information
597
23 Joseph Alois Schumpeter: The Economist of Rhetoric
about well-known Y. The merit of metaphor is not in the substitution of Y for X
where the feature of X and Y is already known, but in the discovery and construc-
tion of X on the presumption of a similarity between X and Y where the feature of
X is unknown. Thus metaphor is creative and heuristic.
Whereas metaphor applies to isolated words, phrases, or sentences, allegory
applies to a system or structure that is composed of a series of metaphors represent-
ing a certain point of view. When unknown X is supposed to have a structure,
allegory based on known Y is a heuristic to discover the whole structure of X.
A creative role of rhetoric is found in science and thought, where a series of meta-
phors in the form of an allegory are structurally applied to a wide area, so that the
totality of methods and structure in a developed discipline may be metaphorically
applied to another discipline or fi eld of thought. In this sense, metaphor provides a
structural viewpoint to expand the frontier of an intellectual fi eld. To view physics as
a model of economics or to apply the theory of evolution to economics is a grand
rhetoric of metaphor or allegory. Schumpeter took part in these efforts on various
economic fronts including physics and economics, entrepreneur and leader, and biology
and evolutionism.
Physics and Economics
A typical early case of metaphor in economics was the tableau économique of the
physician François Quesnay, which was derived by depicting the circulation of
blood in the human body. In the formative period of neoclassical economics, the
dependence of economics on physics was wide ranging; the entire paradigm of neo-
classical theory was a metaphor of physics. It was believed that economics could
become a science by adopting the methodology of physics and by imitating the
structure of physics, not simply by introducing mathematics.
Schumpeter’s contribution in this direction was to establish a methodological foun-
dation of neoclassical economics by applying the philosophy of science of contempo-
rary physicists, especially Ernst Mach. Schumpeter found the possibility of metaphor
between Mach’s phenomenological physics and the general equilibrium model, both
dealing with functional relations between objects based on sensory experience. Although
he started with Austrian economics, he opposed essentialism and psychologism from
the phenomenologist standpoint. At the same time, he accepted the role of the utility
concept, which is not measurable, in the instrumentalist methodology.
It is interesting to note that Ernst Mach, in turn, depended on metaphor from
economics. He is known for the idea of “economy of thought” to describe the
world as economically as possible, without the need to know mere individual
facts, and adapted the principle of economy to science. Viewed in this way, econ-
omy and science are analogically related by the principle of economic rationality.
This fact might justify Schumpeter’s development of his “two-structure approach
to the mind and society.” If economic rationality is the regulating principle for
statics in the economy and science, the dynamic principle should be a passion for
excellence of the dynamic man in both areas.
598 Y. Shionoya
Entrepreneur and Leader
While Schumpeter was engaged in the reconstruction of statics, he resorted to
metaphor from the developed science of physics. When he launched economic
dynamics to explore a new frontier, he consistently used metaphor from sociological
imagination. That was the idea of human typology. Alternatively, an analogy of
dynamics in physical science was considered, but Schumpeter’s mathematical
ability did not make it worthwhile to pursue it. What was called leadership sociology
distinguished between leader and follower, the elite and the masses. Schumpeter
daringly imposed the dichotomy of human type on economics to explore meta-
phorical implications in the context of economic statics and dynamics. There was
no usage of the two types of man in economics. Although the terms “entrepreneur”
and “producer” appeared, they had no relevance to dynamic economy. Schumpeter
called a leader in the economic area an “entrepreneur” and assigned him the role
of carrying out innovations.
Schumpeter emphasized the endogenous nature of economic development in that
innovations are the activities associated with the person of entrepreneur, thus
metaphorically defi ned. Apparent dynamic phenomena such as an increase in popu-
lation and capital, improvement of productive methods and organizations, and
developments of desire are changes in given circumstances, to which the economy
adapts passively through the behavior of the static type of man. Furthermore, appar-
ent innovations are not necessarily regarded as dynamic in terms of the capitalistic
spirit if they are carried out in an impersonal and bureaucratic manner.
Biology and Evolutionism
Anticipating the structure of economic sociology, Schumpeter resorted to zoologi-
cal metaphor rather than physical metaphor. He rejected the common view that the
distinction between statics and dynamics was introduced into economics from phys-
ics, claiming that it came from zoology. His zoological metaphor was that if a study
of the organism of a dog is comparable to statics, research on how dogs have come
to exist at all in terms of concepts such as selection, mutation, or evolution would be
analogous to dynamics. Schumpeter’s theory of economic development does not
contain an image of biological or zoological evolution. Although it certainly deals
with a dynamic process associated with innovation, the institutional framework of
capitalism remains intact. The idea of biological or zoological evolution can be
found in his work of economic sociology, Capitalism, Socialism and Democracy .
This book analyzes the evolutionary process of capitalist economic society as a whole
through the interactions between economic and noneconomic areas. If noneconomic
areas are regarded as an environment of economic areas, one may catch a glimpse
of a Darwinism that would identify economic evolution with changes in the noneco-
nomic environment.
599
23 Joseph Alois Schumpeter: The Economist of Rhetoric
Intellectual Synthesis and the Rhetoric of Paradox
Paradox is a situation in which two inconsistent statements appear to be true or a
statement alleges that they are both true. If one of the two statements is generally
received as common sense, it is not necessarily stated and a paradox merely presents
a heterodox view that is contrary to the standard opinion. A paradox sometimes
engenders shocking effects, because one statement denies the other while each is
based on different reasoning. In this case, the question arises, why can’t one say that
one of them is true or false? According to Aristotle, outside the world of apodeictics
or logical reasoning where judgments of truth and falsity are possible, dialectics or
the art of persuasion must be used and here is the case for the rhetoric of paradox.
An analysis of paradox requires identifi cation of the contexts or dimensions in
which each statement does hold an explication of why two confl icting statements
are proposed. When we understand paradox not as the rhetoric of a mere fi gure or
sophistry but as the rhetoric of thought, it is important to recognize two points: fi rst,
confl icting statements reveal a “gap in knowledge,” and second, the rhetoric of
paradox is interpreted as an attempt to provide the “coordination of knowledge.” By a
“gap in knowledge” I mean a situation of split knowledge surrounding us as a result
of scientifi c specialization. We are confi ned to segmented dimensions and contexts
of knowledge, so that we are little aware of the split. In these circumstances, an
attempt to disclose a “gap in knowledge” works as the rhetoric of paradox, or more
correctly, it works only as the rhetoric of paradox, because separate dimensions in
which each statement is valid are logically incommensurable with each other, so
that a relationship between two statements cannot be dealt with as philosophical
knowledge but only as rhetorical knowledge.
The rhetoric of paradox demands the “coordination of knowledge.” From ancient
times, solutions to celebrated paradoxes, such as Achilles failing to overtake the
tortoise and the fl ying arrow failing to fl y, have been discussed as problems of logic,
but Schumpeter’s paradox is not concerned with formal logic but with the method-
ology of social analysis and requires a commensurate style of coordination. Let us
examine three major examples: (1) the importance of statics, (2) creative destruction,
and (3) decaying capitalism because of success.
The Importance of Statics
Schumpeter distinguished economic statics and dynamics and located them in the
rhetoric of antithesis, as I discussed earlier in reference to Walras and Marx.
He depended on the rhetoric of antithesis to emphasize the need for dynamics in
contrast with statics, but when he stressed the importance of the logic of statics
while arguing the essence of dynamics as the destruction of statics, he was looked
upon as proposing a paradox. The paradox is formulated in this way: while the
theory of economic statics applies only to a limited area of the economy (this is the
reason why dynamics is required), it works universally throughout the economy
600 Y. Shionoya
(this is the reason why statics is not discarded); therefore, the core of the static
theory should not be replaced by the dynamic theory. Straightforward recognition of
both the limitations and universality of static is Schumpeter’s paradox.
Schumpeter explains the universality of economic logic that is only formulated
by statics: fi rst, however abstract the equilibrium theory may be, it gives the essence
of the economic logic; second, it describes the response mechanism of an economic
system to changes in the data, whether exogenous or endogenous; third, the concept
of equilibrium is indispensable as the standard of reference, whether for analytic or
diagnostic purposes; and fourth, the primary relevance of the equilibrium concept
depends on the tendency toward equilibrium in the real world.
According to Schumpeter, the essence of statics lies not in the stationary feature of
the economy but in the nature of the social process involving the masses and of the
economic process consisting of their adaptive behavior and the exogeneity of changes.
Creative Destruction
Schumpeter invented the paradoxical term “creative destruction” to indicate the
functions of innovation. He emphasized the dynamic nature of capitalism and the
central functioning of markets. The traditional economic theory conceptualizes
market competition in the static sense that competition works to equalize demand
and supply and achieve an equilibrium in light of given consumer preferences and
industrial technology. Schumpeter’s concept of creative destruction provided an
antithetical view of competition. As a corollary of his conception of competition,
the market power of commercial fi rms in the form of production restriction and
price control in the process of innovation has acquired a new meaning.
As the term “creative destruction” is the oxymoron of creation and destruction,
it appears to be a paradox. But what it means is to create the new and destroy the
old, and the new and the old are not on the same dimension. Whereas creative
destruction is literally a paradox, its meaning is clear if two different dimensions are
identifi ed. The view of the market process as the elimination of the old way of
economic life, not as the achievement of a Paretian equilibrium, and the view of the
dynamic effi ciency of monopolistic fi rms are also corollaries of the conception of
creative destruction and understandable in this wide perspective.
Decaying Capitalism Because of Success
In Capitalism, Socialism and Democracy , Schumpeter presented his famous thesis
on the demise of capitalism in consequence of its success. This thesis appears to be
paradoxical, but the trick of paradox is discovered by reference to the framework of
Schumpeter’s economic sociology, which discusses the relationship between
economic and noneconomic areas. Observation of the economic area in isolation
601
23 Joseph Alois Schumpeter: The Economist of Rhetoric
leads us to the dynamic picture of economic development and business cycles that
works forever without disturbances from outside, but capitalism as a comprehensive
civilization is confronted with changes in social, political, and cultural circum-
stances surrounding the economic area, that emerge as the result of economic
success and affl uence. The impact of outside forces on the economic area is
sometimes negative to economic development.
Schumpeter’s reasoning can be summarized as follows. First, as innovations are
organized and automated, economic development becomes the task of experts in
large organizations, and the function of entrepreneurs tends to become obsolete.
Second, as rationalization proceeds, the precapitalist elements that supported the
moral and disciplinary aspects of capitalism are destroyed. Third, the development
of capitalism has created a political system of democracy that is interventionist in
the interest of workers and an intellectual class that is hostile to capitalism. And
fourth, the value scheme of capitalist society loses its hold, and there is an increased
preference for equality, social security, government regulation, and leisure time.
This is not a deterministic argument that the demise of capitalism and the march
to socialism are inevitable. Instead, Schumpeter merely pointed to trends that, if
allowed to continue unabated, would result in a controlled economy. Schumpeter’s
method of analyzing the great problems of institutional transformation is more
important than any conclusions derived from specifi c assumptions with regard to
economic/noneconomic relationships.
In view of his three-layer structure of economic statics, dynamics, and economic
sociology, what constitutes the paradox of failing capitalism is the gap between the
isolated abstract economic world and the comprehensive society as a whole. This
gap is the counterpart of another gap between economic statics and dynamics.
Schumpeter’s paradoxes urge us to establish coherent of statements in economic
statics, economic dynamics, and economic sociology in the overall context of a
comprehensive sociology.
Schumpeter’s Rhetorical Gems
Although this text is concerned with the rhetoric of thought rather than the rhetoric
of phrase, let me quote some of Schumpeter’s literary gems:
“I wish to state right now that if, starting my work in economics afresh, I were told
that I could study only one of the three [theory, statistics, and history] but could have
my choice, it would be economic history that I should choose.” (
1954a , p. 12.)
“Unlike other economic systems, the capitalist system is geared to incessant
economic change….Whereas a stationary feudal economy would still be a feudal
economy, and a stationary socialist economy would still be an socialist economy,
stationary capitalism is a contradiction in terms.” (
1951c , pp. 173–74)
“This process of Creative Destruction is the essential fact about capitalism. It is
what capitalism consists in and what every capitalist concern has got to live in.”
(
1950 , p. 83.)
602 Y. Shionoya
“What we are about to consider is that kind of change arising from within the
system which so displaces its equilibrium point that the new one cannot be reached
from the old one by infi nitesimal steps. Add successively as many mail coaches as
you please, you will never get a railway thereby.” (
1934 , p. 64.)
“The entrepreneur is our man of action in the economic area. He is an economic
leader, a real commander, not merely seeming to be commander like a static
economic agent.” (
1912 , p. 172.)
“The entrepreneur is the pioneer of a jejune way of thinking, of a utilitarian
philosophy – the brain that was fi rst able and had reason to reduce beefsteak and the
ideal to a common denominator.” (
1926 , p. 134.)
“There is no more of paradox in this than there is in saying that motorcars are
traveling faster than they otherwise would because they are provided with brakes.”
(
1950 , p. 88.)
“The game [in capitalism] is not like roulette, it is more like poker.” (
1950 , p. 73.)
“Capitalism and its civilization may be decaying, shading off into something
else, or tottering toward a violent death. The writer personally thinks they are. But
the world crisis does not prove it and has, in fact, nothing to do with it. It was not
a symptom of a weakening or a failure of the system. If anything, it was a proof of
the vigor of capitalist evolution to which it was – substantially – the temporary
reaction.” (
1939 , vol. 2, p. 908.)
“Capitalism creates a critical frame of mind which, after having destroyed the
moral authority of so many other institutions, in the end turns against its own.”
(
1950 , p. 143.)
“The true pacemakers of socialism were not the intellectuals or agitators who
preached it but the Vanderbilts, Carnegies and Rockefellers.” (1950, p. 134.)
Conclusion
In this essay, I have emphasized that Schumpeter had a grand vision of a universal
social science and that his writing is characterized by broad rhetorical knowledge as
distinct from scientifi c knowledge. My intention is not to distinguish sharply
between the two, but to see how they form a continuum in the spectrum because
science itself is based on rhetoric. In his presidential address, “Science and Ideology”
(
1949 ) , delivered at the annual meeting of the American Economic Association a
year before his death, Schumpeter argued the important relationship between theory
and vision. In my view, it is impossible to recognize the nature of Schumpeter’s
contributions to economics without paying attention to the rhetoric that was an
instrument to express his imaginative vision.
In the eighteenth century, the social sciences maintained unity in the form of
moral science. In contrast, in the twentieth century, logical positivism prevailed
among most groups of scientists, and economics was dominated by Keynesianism,
a useful doctrine for public policy, and by mathematical formalism, a sophisticated
doctrine for a virtual world. With the fall of these two concepts, Schumpeter’s idea
603
23 Joseph Alois Schumpeter: The Economist of Rhetoric
of a universal social science at last seems to enjoy the opportunity to receive the
examination and appraisal that it deserves. Although Schumpeter was out of step
with the economic thought of his time, he may well have pioneered in creating the
time to come.
Indeed, rhetorical thought might sometimes prove to be fallacious or mere
political ideology. But, at the same time, rhetoric can serve as a hotbed that stimulates
scientifi c research and eventually establishes scientifi c thought. Rhetoric might be
common sense or prejudice, but it can be a novel idea that destroys conventional
wisdom and stimulates new fi ndings. Schumpeter’s writing attests to the fact that
rhetoric is the driving force of science.
In The Picture of Dorian Gray , Oscar Wilde wrote: “There is no such thing as a
moral or an immoral book. Books are well written, or badly written. That is all”
(Wilde 1985. p. 3). Analogically, it may be said that in the Schumpeterian perspec-
tive, “there is no such thing as a scientifi c or an unscientifi c book. Books are well
written, or badly written. That is all.” Writing well is nothing but good rhetoric.
Schumpeter was the economist of good rhetoric.
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605
JG B kh ( d) HdbkfhHi fE iTh h
Introduction
The focus of my paper is to explain why Keynes’s economic theory is not compatible
with rigid principles by sketching his view on “rules” in monetary policy and inter-
national monetary relations.
1
Any reference to formal aestheticism or rigidly defi ned
rules seems to imply an inadequate interpretation of his work. Keynes’s objections
to formal aestheticism trace back to his view that economics is a moral science or
soft science, respectively. Economic theory lacks fundamental presumptions which
are indeed necessary to construct a hard science.
There is no controversy about this point: the terms uncertainty, expectations and
expectation-building, confi dence is the core of Keynes’s economic analysis and also
important to understand central banking and international monetary relations. I am,
then, going to link Keynes’s economic theory loosely to an academic discourse on
the question if economic theory should become a hard science or a formal brilliantly
designed theory.
Of course after more than seven decades since Keynes wrote his contributions,
a link to the present debates should be as cautious as possible (see Moggridge
2002 ) .
Reading of any piece of Keynes’s work is inevitably a subject of interpretation to the
meaning of it (Rorty
1991 ) .
Chapter 24
Against Rigid Rules – Keynes’s View
on Monetary Policy and Economic Theory
Elke Muchlinski*
E. Muchlinski (*)
Institute of Economic Policy and Economic History , Freie Universität Berlin ,
Boltzmannstraße 20 , 14195 Berlin , Germany
e-mail: [email protected], http://www.fu-berlin.de/wiwiss/institute/
wirtschaftspolitik-geschichte/muchlinski
*
Elke Muchlinski, Economist, Visiting Professor, and Philosopher, has held teaching positions at the
Free University of Berlin, the University of Halle (2010–2011), the University of Trier (2009) and
the University of Hamburg (summer term 2008).
1
I gave a fi rst appraisal of the issue Keynes, rules and monetary policy: Muchlinski ( 2005, 2007b ) .
606 E. Muchlinski
The paper starts in Part 1 with a short description of the “rules versus discretion”
debate. Part 2 points to present debates. Part 3 refers to Keynes’ work on monetary
policy and international monetary relations, which does not reveal preferences for
rigidly fi xed rules of shaping international monetary system. Part 4 provides a brief
discussion of the philosophical terms and meaning which are introduced in this paper.
In Part 5, I explain why Keynes’ concepts and economic theory go beyond views as
outlined in Part 1. Finally, I will present my concluding thoughts in Part 6.
Notes on “Rules versus Discretion”
Historical lines of the debate on “rules versus discretion” document several re-
constructions of the meaning of both the debate itself and the term “rule” and “discre-
tion” (Issing
1996 ) . The roots of the “rules versus discretion” debate trace back to an
argument between advocates of the Banking School and Currency School (see Bordo
and Eichengreen
2009 ) . A modern interpretation of this controversy differentiates
between those adherents favouring rigid rules on monetary policy and international
monetary system, and those favouring discretionary monetary standards (Mishkin
2009 ; Orphanides and Wieland 2008 ; Issing 2011 ) . Rules in international monetary
relations are determined to mitigate exchange rate movements (gold standard, fi xed
exchange rates) and to avoid balance of payments imbalances (McKinnon
1993 ) .
The trade-off between rules and discretion traces also back to Simon’s work (
1936 ) .
According to the quantity theory, Simons countered that the quantity of money cannot
be constructed as a rigidly fi xed quantity as adherents used to do. Simons argued that
the quantity itself is fragile, because it is dependent on the velocity of money, which
cannot be anticipated with certainty. Any coherent view, then must recognize that the
market will respond not to the fi xed nature of quantity but to the central bank policy,
its perceived and understood decision-making and actions by the public (Muchlinski
2011a ) . There is no doubt that the interpretation and meaning of “rules versus discre-
tion” has been changed throughout past decades. One standard interpretation differen-
tiates between fi xed, i.e., non-reactive rules, which defi ne a path of instruments or
targets without any reference to the observed situation and a non-fi xed reactive rules,
which implies the response reaction due to the observed situation. Whereas, the
non-reactive rule focuses rigidly on the implementation of the rule itself, the reactive
rule focuses on the announced target by using reactive methods of adaptability.
In New Classical Macroeconomic (NCM), for instance, the market is acquainted
with modes of reactions; consequently reactive rules are defi ned as “feed-back
rules”. Rules in monetary policy are interpreted as a method to restrict discretionary
decisions of central bankers and their supposed inclination to fool the public by an
“infl ation bias”.
2
Blinder pointed out:
In case of the modern incarnation of the rules versus discretion debate, based on time incon-
sistency, I have argued that things are starkly different. In my view, the academic literature
2
There is no space and time to discuss this point here (Blinder 1998 ; Muchlinski 2011a, b, 2005 ) .
607
24 Against Rigid Rules – Keynes’s View on Monetary Policy and Economic Theory
has focused on either the wrong problem or a non problem and has proposed a variety of
solutions (excluding Rogoff’s conservative central bankers) that make little sense in the real
world (Blinder
1998 , 50).
In modern theory of central banking, discretionary decisions are interpreted as
decision based on perceived situations “unconstrained by rules of either kind” (Tobin
1983 , 507). A common sense statement today is that central banking is not compat-
ible with fi xed rules (Blinder
1999, 2005 ) . The central bank infl uences expectation-
building by forward-looking decision making (Bernanke
2004 ) . Changes in the
overnight interest rate affect the decision making and actions of the agents. Therefore,
the central bank needs to explain its own view on the current and future performance
of the macroeconomic reality. Woodford (
2005 ) pictured the central bank as a “man-
ager of expectations”, endowed with the power to set shape future conditions of
interest rates in money markets. He, among other authors (Blinder et al.
2008 ; Issing
2005a ) , opposed to the mechanical analogy because “central banking is not like
steering an oil tanker or even guiding a spacecraft” (
2005a , 4). At this point, the
constitutive role of language activities in central bank theory and practice can hardly
be ignored. The guiding of expectations in the market cannot be separated from the
use of language and communication (Muchlinski
2011a, c ) .
According to the Great Infl ation in the United States, steering market expecta-
tions through setting the Federal Reserve funds rate was associated with a Keynesian
strategy, whereas focusing on a rigidly fi xed monetary supply or monetary growth
rates, respectively, was seen as a Monetarist strategy (Lindsey et al.
2005 ) . However,
the Federal Reserve had neither intended to act upon nor could have acted upon the
basis of a monetarist “k-percent-rule” (Muchlinski
2011a ) .
The monetary transmission channel is driven by changing expectations of the
market participants. A central bank must be able to act fl exibly but this does not
imply acting without committing itself. Self-commitment is linked to transparency,
independence, and accountability. Transparency implies understanding of what a
central bank is, in fact, doing (Issing
1999 ) . The central bank must be concentrated
on this expectation-building process in order to infl uence its long lasting horizon
and to “anchor infl ation expectations at a level consistent with the mandate of main-
taining price stability” (Issing
2009 , 7).
Bernanke (
2004 ) attributes great attention to the question of whether a fi xed rule
implies a higher effectiveness of monetary policy:
The problem is that a number of contingencies to which policy might respond is effectively
infi nite (and, indeed, many are unforeseeable). While specifying a complete policy rule is
infeasible, however, there is much that a central bank can do – both by its actions and its
words – to improve the ability of fi nancial markets to predict monetary policy actions. With
respect to actions, the central bank should behave in as systematic and as understandable a
way as possible, given the macroeconomic and fi nancial environment. That is, although
monetary policy cannot be made by a mechanical rule, policy can and should have “rule
like” features. Obviously, the more systematic and the more consistent with a few basic
principles the conduct of monetary policy becomes, the easier it will be for the public to
understand and predict the Fed’s behavior. (…). Words are also necessary.
The theoretical debates based on rigid premises which are not linked to the contem-
porary world have never reached the realm of central bank practice which focuses on
608 E. Muchlinski
the effectiveness of monetary policy in practice. All numbers by painting or painting by
numbers (Vickers
1998 ) have to refer to contemporary word, i.e., the perceived world.
Why, then, do we talk about fi xed rules or a dichotomy “rules versus discretion”?
Economic theory and modelling often try to make complex economic considerations
compatible with a formal language approach or as simple as possible. “Simplicity
gives them their political appeal and power” (Tobin
1983 , 508).
On State-Contingent Rules and Discretion
I would like to turn briefl y to research on the Keynes-White-Plan. Boughton stated,
“Keynes articulated a (…) proposal for state-contingent policy rules published in
Lloyd’s Bank Monthly Review ” (
2002 , 6).
3
What is a state-contingent rule? King
explained: “The optimal strategy is a state-contingent rule, which allows fl exibility in
the response of policy to shocks while retaining a credible commitment to price stabil-
ity” (
1997 , 94). Therefore, “state-contingent rule” is to be seen as a fl exible response
by the central bank to shocks without jeopardizing their goal of price stability.
I would like to give some additional information on this “state-contingent rule”.
In some models of monetary policy the “rational expectations hypothesis” is required
for the sake of model consistency and as a constitutive element of monetary policy
itself. In this model view, central bankers are confi gured as representative agents.
The “state-contingent-rule”, then, is based on the “rational expectations hypothesis”,
acted out by representative agent (Kirman
1992 ) . The promise of the premise was to
eliminate any reasons for a Lucas critique (Muchlinski
1999a ) . Blinder commented:
The important thing is to make sure our models are congruent with the facts. Lucasians, it
seems to me, reverse the sequence. They want to begin with fully articulated, tractable
models and worry later about realism and descriptive accuracy. (…) The issue is how reli-
giously we must adhere to frictionless neo-classical optimising principles until that glorious
day arrives (
1987 , 135).
Within a monetarist framework for instance, the “k-percent-rule” represents the pre-
sumption of a rule-based decision-making process. A rule, then, is defi ned for the
sake of simplicity and formal precision. For reasons outlined in this section, a com-
patibility of the “state-contingent rule” with Keynes’ thinking on monetary policy or
international monetary relations cannot be justifi ed. Therefore, the dichotomy “rules
versus discretion” depends on a paradigm in order to justify a construction like this.
Keynes’ Economic Theory: A Brief Reconsideration
This part deals with examples of Keynes’ contributions on monetary policy and
international monetary relations. Why is Keynes’ view of relevance? There is no
“Keynes-rule” to be discovered like the “Taylor-rule”. One reason is that Keynes
3
October 1935, reprinted in C.W., XXI, 360–369.
609
24 Against Rigid Rules – Keynes’s View on Monetary Policy and Economic Theory
recognized monetary policy and international monetary relations as a subject
committed to a discretionary manner.
Monetary Policy and International Monetary Policy
The need to face each policy decision anew and to respond without formal constraints can
be seen as constitutive to central banking. Focussing on rigidly fi xed rules is an artifi cial
way. Keynes criticized the artifi cial world in his article on the theory of interest rates:
All these pretty, polite techniques, made for a well-panelled Board Room and a nicely regu-
lated market, are liable to collapse (…). I accuse the classical economic theory of being itself
one of these pretty, polite techniques which tries to deal with the present by abstracting from
the fact that we know very little about the future (Keynes
1973 –1989, C.W., XIII, 215).
The other way is on aiming to better understand the implication and goals of rules
(Blinder et al.
2008 ) . To the extent that monetary policy acts on the basis of defi ned
rules, these rules cannot be interpreted as rigidly defi ned rules. These rules are to be
interpreted as serving a method in steering public expectation-building and debates.
Rules, then, serve as a coordinative mode within the process of decision making and
communicative interaction.
Only in a mechanical analogy, the expectations of market participants are mod-
elled as being driven by fi xed rules. The effectiveness of monetary policy is not a
consequence of a deductive reasoning based on the stimulus–reaction of a model
world, based on rigidly defi ned premises.
The problem of acting strongly to markets is especially due to the non-
synchronization of time. Whereas, the central banks action is realized in a particular
time, the responses by market participants are realized with different time-lags. This
non-synchronization of time fundamentally concerns the term structure of interest
rates in different markets. The formation of the term structure of interest rates is due
to “past experience and present expectations of future monetary policy, (which) is
considered unsafe by representative opinion” ( Keynes (1973–1989), C.W., Vol. VII,
203).
4
Keynes’s emphasis on the lack of confi dence and uncertainty is not compat-
ible with the model of rational expectations hypothesis which maintains the cer-
tainty of future outcomes. His concepts express the precariousness and fragility of
knowledge.
5
Therefore, rigid or robotic rules, independent of the contemporaneous economic
perceived situation are not adequate for monetary policy. Keynes pointed out to
discretion rather than rigid rules or rigidly fi xed parities:
We can, and should, commit ourselves – (i) to maintain short-term stability within a certain
range; (ii) not to resort to devaluation merely to obtain competitive advantages in foreign
trade (…) But we must retain an ultimate discretion to do whatever is required to relieve
4
Blinder discussed the determination of different time structure of interest rates ( 1998 ) ; similarly
Keynes described monetary policy (Keynes (1973–1989), C.W., Vol. VII, 203).
5
See for instance, Chapter 12 of the General Theory of Employment, Interest and Money (GT),
(1936), C.W., VII.
610 E. Muchlinski
either a sudden and severe or a gradual and continuing strain, without laying ourselves open
to any kind of reproach.
With good faith and genuine collaboration between central banks rigidly fi xed parities
are not necessary for international trade; without such conditions they are not only danger-
ous, but entirely unreliable. We shall get better collaboration if we do not put too a great
strain upon it and allow to the collaborators an ultimate individual discretion ( Keynes 1935,
The Future of Foreign Exchange, C.W., XXI, 368).
Given this statement, one has to ask why, Keynes, then, refers to gold standard (see
textual evidence in Keynes (1973–1989), XXI, 368) as the foundation of international
monetary relations?
6
I have assumed throughout that gold will remain the basis of international exchange, in the
sense, that central banks will continue to hold their reserves in gold and to settle balances
with other central banks by the shipment of gold. The only alternatives would be sterling or
some kind of B.I.S. bank money; but neither of these is practicable today as the basis of a
world system (ibid).
7
The reference to gold is interpreted as an international standard which entails both cred-
ibility and lack of feasibility. The lack of feasibility implies the impossibility of an empir-
ical proof. It functions as an epistemological possibility. The reader may think on the
concept of the “output gap” as a crucial part of the “Taylor rule” (see ECB
2001 , 50).
In the paper, The International Note Issue and the Gold Standard , Keynes argued
against external restrictions and in favour for discretion. At the same time, he voted
for defi ning each currency in relation to gold as “qualifi ed return to the gold stan-
dard” (C.W., IX, 362). Is this a contradiction? Does this imply a rigidly fi xed con-
struction of international monetary system? Certainly not! Keynes wrote:
It may seem odd that I, who have lately described gold as ‘a barbarous relic’, should be
discovered as an advocate of such a policy, at a time when the orthodox authorities of this
country are laying down conditions for our return to gold which they must know to be
impossible of fulfi lment. It may be that, never having loved gold, I am not so subject to
disillusion. But, mainly, it is because I believe that gold has received such a gruelling that
conditions might now be laid down for its future management, which would not have been
acceptable otherwise Keynes (1973–1989), C.W., IX, 62).
The return to gold standard was a pragmatic solution, not the acceptance of the
“rules of the game” (C.W., XXI, 361). Keynes proposed a de facto parity as an alter-
able parity according to economic circumstances, because it would “be desirable to
maintain permanently some power of gradual adjustment between national and
international conditions” (C.W., IX, 362). We fi nd more textual evidence in the
Collected Writings for this hesitance to defi ne each currency in relation to gold as
rigid rules based on index numbers. He also avoided any precise defi nition of a
reasonable equilibrium of exchange rates (ibid). As a convention he proposed to
coordinate the exchange rate movements.
A set of rates of exchange, which can be established without undue strain on either side and
without large movements of gold (on a balance of transactions), will satisfy our condition
6
We fi nd more textual evidence given in: The Means to Prosperity (1933, 360), reprinted in Keynes
(1973–1989) C.W., IX, 335–366.
7
He distanced himself from the proposed sterling as international money later on.
611
24 Against Rigid Rules – Keynes’s View on Monetary Policy and Economic Theory
of equilibrium. (…) It will be suffi cient if a set can be found which the various central banks
can accept without serious anxiety for the time being, provided that there is no substantial
change in the underlying conditions (C.W., XXI, 361–362).
In “A Tract on Monetary Reform” (1924) Keynes had explained that neither rigid rules
nor faith in a stability of any metallic standard are reasonable methods to succeed.
Interpreting his view I would like to add, pure theory is no way to get clarity if its
premise are not linked to contemporary world. Pure theory which is constructed for the
sake of simplicity or formal aestheticism is a blind concept. “The non-metallic standards,
of which we have experience, have been anything rather than scientifi c experiments
coolly carried out” ( Keynes (1973–1989), C.W., Vol. IV, 170). This argument is of
great importance. The alleged non-active rule of metallic standard “was becoming
precarious by reason of its artifi ciality” – a long time before the war (1924, 171).
The “rules of the game” were a construction, as Keynes had already analyzed in
his book Indian Currency and Finance (1913). The “rules of the games” were not
applied to practice since it was perceived and interpreted as a promise (see Eichengreen
1995 ; Muchlinski 1999b ) .
Keynes countered that the problems of the post-war period – which of course
were both a problem of adequate terms and concepts to identify and describe real
economic problems – cannot be solved with a reliance on formal aestheticism.
To suppose that there exists some smoothly functioning automatic mechanism of adjust-
ment which preserves equilibrium if only we trust to methods of laissez-faire is a doctri-
naire delusion which disregards the lessons of historical experience without having behind
it the support of sound theory. (…). International currency laissez-faire was breaking down
rapidly before the war. During the war it has disappeared completely (C.W., XXV, 21–22).
He was persistently reluctant to fi ll the gap of cognitive solutions with illusion. The
track back to the sound theory of formal brilliantly designed premises was impos-
sible and not even desirable. He, then, stepped into the realm of terminological and
economic uncertainty for the sake of clarity.
Keynes also made his objections to the orthodox theory, which states that the
Bank rate and credit contraction could be instrumented in order to readjust interna-
tional imbalance by reducing the level of employment and the money wages and
therefore to serve for an external equilibrium. He explained: “As a result of this bet-
ter understanding of its modus operandi , I do not believe that it will ever be used
again for this purpose” (C.W. XXI, 368).
Keynes focused on the interest rate as a means to reach internal goals. He did not
speak in favour of rigidly fi xed exchange rates since any central bank should
manage the rate of interest instead of sacrifi cing this instrument to external balance.
Furthermore, exchange rate movements should be stabilized in the short run within
a certain target, whereas every country is compelled to avoid strategies like competi-
tive devaluations (C.W., XXI, 368). There is no “invisible hand” which co-ordinates
the countries’ decisions with the result of an international equilibrium. This is also
true for central bank policy in the light of modern theory:
In the modern world of paper currency and bank credit there is no escape from a ‘managed’
currency, whether we wish it or not; convertibility into gold will not alter the fact that the
value of gold itself depends on the policy of the Central Banks. (…) It would have been
612 E. Muchlinski
absurd to regulate the bank rate by reference to a ‘proportion’ which had lost all it signifi -
cance. (…) The bank rate is now employed, however incompletely and experimentally, to
regulate the expansion and defl ation of credit in the interests of business stability and the
steadiness of prices (Keynes 1924, 172).
Keynes view on central banking is compatible with the modern view. One could be
inclined to argue his plans were not only beyond rigid rules, but also beyond the
trade off of rules versus discretion, because he did not explain his theory within
such a dichotomy or dual terms.
Shaping International Monetary Relations
I would like to turn closer to Keynes’s view on shaping the international monetary
relations which was fundamentally based on a multilateral system.
8
Keynes had
changed his view on international mechanism of methods of adjustments several
times, but one dominant proposition can be manifested: He did not express a faith
in fl exible exchange rates as a method of market clearing process. According to the
international monetary relations he proposed rules of adjustments always giving
attention to the contemporary situation of the country. This does not include a strat-
egy of competitive devaluation of any individual country’s preference.
9
Moggridge sketched in his pioneering work, that Keynes had rejected rigid rules
of the White Plan because “such a surrender of sovereignty and such rigidity were
unacceptable to the British, who had pushed Keynes’s own scheme in the direction
of greater discretion, and in the attempts at synthesis, which took the Stabilization
Fund as the basis for drafting, the matter of national initiative in initial exchange
rate setting was central” (Moggridge
1986 , 68). I think his argument sheds light on
what is important, whereas Boughton argued from a different point of view.
Boughton (
2002 ) wrote that Keynes lost all battles against White because he wanted
to defend the Empire, resisting multilateralism.
In my interpretation, a proposal which would have roughly injured the British
interests or any other country’s interest could not have been the foundation for adapting
any international agreement. The different drafts “The Origin of the Clearing Union”
provides textual evidence on how Keynes tried to develop his plan of multilateralism.
Keynes also précised the term multilateralism: “That is fully international, being, based
on one general agreement and not on a multiplicity of bilateral arrangements” (Keynes
in Horsefi eld
1969 , 21). To be brief on the framework of an International Clearing Union
(I.C.U.), which involves both the creditors and debtor countries: “A country is in credit
8
Textual evidence is given in his drafts for an “International Clearing Union” (I.C.U.) reprinted in
Horsefi eld (
1969 ) , also in C.W. XXV, 21–33. For details, see Dostaler ( 1994, 2005 ) , Moggridge
(
1986, 1992 ) and Moggridge and Howson ( 1974 ) .
9
See his opinion to past strategies of the United Kingdom in Means to Prosperity , 1933
(Keynes (1973–1989), C.W., IX, 352).
613
24 Against Rigid Rules – Keynes’s View on Monetary Policy and Economic Theory
or debit with the Currency Union as a whole. This means that the overdraft facilities,
whilst a relief to some, are not a real burden to others” (C.W., XXV, 74–75). He gave
examples why bilateral arrangements are to be judged with scepticism. One main
objection to bilateral arrangements was that these are dependent on partial political rea-
sons and could cause or worsen divergences between countries.
10
Neither the creditor
nor the debtor country should be able to remain passive according to their balance of
payments. This exactly is the core of his multilateralism . Keynes’s proposal for discre-
tionary methods of adjustments is documented in his drafts on the I.C.U. with clarity.
11
Let me conclude: The I.C.U. was conceptualized as a method for dealing with
international problems rather than avoiding them. Therefore Keynes linked his
ideas, concepts and categories to the empirical world (see C.W., XXV, 77). This is
the reason why Keynes defi ned the Bancor to gold, because he did not want to see
the fi nance of the world economy depend on the US economy and US currency.
The adjustment mechanism Keynes had explained was beyond the laissez-faire
method . Moreover, it was beyond the dichotomy of “rules versus discretion” because
he attracted attention to the contemporary situation as a whole in which each country
will possesses a temporary position. A change of an individual’s position will also
change the outcome of the whole, but not in an additive manner, because the whole
is not simply the sum of its parts.
12
If one takes the whole as a changeable whole,
rather than as a fi xed entity, the investigation of its parts requires distinct methods
and means of analysis. A whole is to be interpreted as based on organic interrelations
and not as an linear addition of its components.
In brief, we have looked at some textual evidence of Keynes’ work. The next
point I would like to make is to introduce some methodological aspects.
Some Philosophical Considerations
For Keynes the need of shaping international monetary relations was linked to the
need of developing new terms and concepts. It is not possible to explain economic
problems in terms which exclude problems at all. The need of a new thinking
required new categories and terms which step beyond the faith in illusionary con-
cepts or rigidly designed propositions, proposed certainty and complete knowledge.
Keynes used the term proposition in the meaning of judgment and persuasion
(see Muchlinski
2003a ) . Therefore, a proposition is linked to contemporary world,
to experience and expectations.
10
See his drafts on I.C.U. (1941–1943) and the role of the Bancor mechanism reprinted in Horsefi eld
(
1969 , Vol. III, 27). Keynes emphasized international responsibility; see also Keynes (C.W., XXV,
77–76).
11
“Proposal for an International Clearing Union” (April 1943) collected by Horsefi eld ( 1969 , Vols.
I–III), reprinted in C.W., XXV; The synthesis of C.U. and S.F. and Keynes’s objections are reprinted
in C.W., XXV, 308–314.
12
We fi nd textual evidence in Ethics in Relation to Conduct ( 1904 ) , see Muchlinski ( 1996 ) .
614 E. Muchlinski
It was Keynes’s demand to leave elements which were constructed for the sake
of formal elegance and determined by the orthodox theory in the past and to intro-
duce a modern view of economic thinking. Orthodox theory is loosely equated with
classical theory and neo-classical theory and their implicit premises and strictly
defi ned assumptions. The core of it are the equilibrium theory, the assumption of
rational optimal behaviour and the formal model approach to expectation-building,
hence the axiomatic deduction as the predominant method.
Keynes, in contrast, demanded to make explicit what is implicit in the use of prem-
ises and claims. The predominance of deductive reasoning is a further inadequacy for
economics as a social science. Keynes emphasized the relevance of inductive reason-
ing in economics. He stated: “It seems to me that economics is a branch of logic, a
way of thinking. (…) Progress in economics consists almost entirely in a progressive
improvement in the choice of models. (…) Economics is a science of thinking in
terms of models joined to the art of choosing models which are relevant to the contem-
porary world” (C.W., XIV, 295–296, Letter to R.F. Harrod, 4 July 1938). Whereas,
model building is the appropriate theoretical approach, deduction as the only way of
reasoning should be judged with caution and supplemented by individual judgment
and conventional judgment (Muchlinski
1999a, 2003a ) . This is the reason why some
of his early manuscripts and A Treatise on Probability are of importance to understand
the turn of categories he implemented (Muchlinski
2002 , 2003b , 2007a ) .
I briefl y describe some basis principle of ontological realism, traditional view on
empiricism and constructivism in order to clarify the reasons why Keynes’s economic
thinking cannot be assign to views which are relevant for orthodoxy.
Corresponding to the historical lines of the philosophy of science, one can sketch
some historical epochs (Chalmers
2006 ) . The need to apply realist principles to
economic theory has been proposed by some economists (Baert
1996 ) . Contrary to
idealism, realism includes an acceptance of an outside or ontological given world.
It is hard to deny that certain objects, like stones, trees, houses do exist. But this
does not imply, that economic circumstances or “facts” are part of the ontological
given world.
To be brief: Ontology assumes that objects exist independently of one’s percep-
tion or recognition. An ontological view maintains that A’s exist independently of
how one thinks or feels about them. More generally: A property or principle is onto-
logical if it is a part of the very substance (itself). Therefore, the property or principle
is inherent to the object. Kant as well as New-Kantian was opposed to ontology.
The question is, if ontological realism has any relevance for economic science.
I would rise some scepticism because economic structures and objects are not
already given. Economic facts are created or constructed facts. They are based on
defi nitions and concepts in order to describe economic decisions and actions on
markets. As Keynes explained economic decisions and actions are based on expec-
tation-building in the light of uncertainty and conventional judgment or “average
opinion” because “to a man in a state of ignorance” there is no “escape clause”
(Muchlinski
2011b ) . Moreover, economic facts are not independently of one’s
perception or recognition. According to Keynes’s work, I propose to interpret that
his view is not based on ontological realism.
615
24 Against Rigid Rules – Keynes’s View on Monetary Policy and Economic Theory
I turn now to the traditional view on empiricism. This branch of empiricism
focused on the correspondence between truth and reality. Two basic hypotheses are
to be mentioned: One maintains that there is no role for a priori principles. The
second hypothesis states that any proposition about facts or events basically roots in
experience. This proposition is either a description of experience or possesses a
logical relation to this empirical description based on an inductive conclusion.
Hume’s view that experience is the accumulation of subjective experience caused
the problem of justifying objective knowledge .
13
This was the starting point for Kant’s philosophy, a transcendental perspective.
Kant asked in Critique of Pure Reason (CPR), what is being ? He answered by link-
ing the question to thinking and thought. Science, as he outlined with the Copernican
turn “only express a relationship with the faculties of knowledge” ( Kant Critique of
Pure Reason (
1781/1965 ), Part B 266). Knowledge is a result of an interaction of
intuition and concept. In all of this, uncertainty still remains since intuition is just a
prerequisite of knowledge, not a fi nal point in justifying knowledge. Thinking is
also linked with transcendental logic which implies that a real potency is reduced to
epistemological possibility . There is no epistemological certainty in Kant’s episte-
mology. His conception of being emphasizes the intelligibility of things, their rela-
tion to our perception and understanding, in which logic has an important place. An
important conclusion of the Kantian philosophy is a different understanding of
experience. Scientifi c methods do incorporate a non-observable systematic order
independently of its supposed empiricist real order. That is to say, that any observa-
tion is to be seen as impregnated by theories. Consequently, the dualism of observa-
tion and theory broke down. The transcendental philosophy, say Kant’s philosophy,
works out the superior function of logic as embedded in language and a priori prin-
ciple . Nevertheless, all theories must lead back to experience otherwise they would
be called “empty” or “blind” concepts. Kant’s critique of knowledge has taken the
place of ontology and metaphysics. Let us turn briefl y back to Kant’s philosophy:
We are in possession of certain modes of a priori knowledge. (…) In what follow therefore,
we shall understand by a priori knowledge, not knowledge independent of all experience.
(…) Thus we would say of a man who undermined the foundations of his house, that he
might have known a priori that it would fall, that is, that he need not have waited for the
experience of its actual falling (Kant Critique of Pure Reason (
1781/1965 ), Part B 3).
Kant emphasized: “though all our knowledge begins with experience, it does not
follow that it all arises out of experience” (Kant Critique of Pure Reason (
1781/1965 ),
Part B 1). Analogous to Kant, Keynes pointed out the limits of experience as a guide
to decision. His criticism is addressed to the British empirical school:
If our experience and our knowledge were complete, we should be beyond the need of the
calculus of probability. And where our experience is incomplete, we cannot hope to derive
from it judgements of probability without the aid either of intuition or of some further a
13
For a discussion on Hume’s view: Keynes (1921); for a discussion of how Keynes was concerned
with Kant, Fitzgibbons (
1998 ) , Muchlinski ( 1998 ) .
616 E. Muchlinski
priori principle. Experience, as opposed to intuition, cannot possibly afford us a criterion by
which to judge whether on given evidence the probabilities of two propositions are or are
not equal ( Keynes (1973–1989), C.W., Vol. VIII, 94).
14
This transcendental approach of Kant emphasizes experience without neglecting
its limitations (Parsons
1992 ) . The quintessence of it all is that any object is given
by perception. It excludes the possibility of identifying the perceived object with
this object itself. For Kant, language is not only a medium of communication, but
also a constituent element of knowledge. Whereas, the Kantian Philosophy is a
transformation of metaphysics, the Analytical Philosophy – the later Ludwig
Wittgenstein (his work since 1929) and Gilbert Ryle ( 1966 ) among others – in turn
has taken the place of ontology. Wittgenstein and Ryle picked up on these ideas
more precisely (Muchlinski
2011c ) .
Is there any link to Keynes work? His economic theory does not build upon
traditional empiricism as introduced earlier. Keynes’ theory of knowledge implies
uncertainty and the unsurmountable fragility of knowledge. He objected to empiricism
in The Treatise on Probability . He explained probability from an epistemological
point of view. A probabilistic proposition contains the perceived fact by an indi-
vidual and the a priori principle .
The next point, I would like to make deals with constructivism. Without going
into greater details on the origins and developments of constructivism, constructiv-
ists maintain that scientifi c knowledge is a result of scientifi c work in progress or
thinking. Consequently, facts are not revealed to scientists, but are constructed by
them. Scientifi c knowledge therefore is constituted. Of course there are different
interpretations among and about constructivists. Whatever the difference may be,
one particular feature of constructivism can be identifi ed: Science does not discover
a determinate structure of reality. According to this interpretation, two possible con-
clusions can be made: One leads to the idea that any scientifi c process has to deal
with social constructions for the sake of an understanding. The second interpreta-
tion is basically more pessimistic because it states that neither social facts nor the
society can better be understood than the natural world. In its strong version, con-
structivism denies that any object refers to contemporary world since it follows the
view of mind constructed reality. As a mind construction reality is nothing more
than a notion or in the meaning of Kant, an empty concept.
Contrary to the version outlined in the previous paragraph a modifi ed approach
to constructivism shall briefl y be introduced: It refers to truth as a matter of consid-
erable importance.
15
However, truth, facts and events are bound by social construc-
tions. Finally, truth is socially constructed. According to this view, economics is due
to the interpretation, defi nitions, perceptions, and their acceptance by the community
14
There is no systematic connection between “truth” and probability of a proposition as Keynes
argued: “It has been pointed out already that no knowledge of probabilities, less in degree than
certainty, helps us to know what conclusions are true, and that there is no direct relation between
the truth of a proposition and its probability” (Keynes (1973–1989), C.W., Vol. VIII, 356); see
Carabelli (
1988 ) , Davis ( 1994 ) .
15
Samuels provided a critical assessment of it (Samuels 1996 ) .
617
24 Against Rigid Rules – Keynes’s View on Monetary Policy and Economic Theory
of science. What follows from this? The consequences are fi rst at all the refutation
of the positivist view of science and its presumed idea of a homogeneous truth.
Therefore, assumptions and concepts in economic theories i.e., liquidity preference
or axiom of scarcity, the category of doubt and uncertainty, should be discussed
within the social circumstances in which they have been established and not as
ontologically given reality.
In brief, we have considered features of some lines of philosophy. Philosophical
theory should be distinguished from scientifi c theory and its methods, for instance the
economic theory. Scientifi c methods imply a non-observable systematic order which
is not linked to a supposed real order, because of the importance of a priori principle.
I am now turning to Keynes’s economic theory in order to explain why his view
is compatible with the transcendental philosophy. Consequently, experience can
explain to us what happened, but it cannot reveal to us what will happen.
A Closer Look at Keynes’s Economic Theory
from a Philosophical Point of View
Keynes’s thinking provided the basis for his criticism of orthodoxy and model
building in economics. He transformed orthodox categories such as rigour and
complete knowledge into uncertainty and ignorance, expectations, state of confi dence,
degree of belief, etc. He characterized knowledge in The General Theory as “vague
and scanty” (Keynes (1973–1989), C.W., Vol. VII, 148).
For Keynes, it is important to relate concepts or categories to the perceived world.
This approach excludes that he was dedicated to realism in the meaning of ontological
realism. Evidence for my hypothesis is provided by Keynes’s work on the interna-
tional monetary system. International monetary coordination should avoid a fallacy
of composition . It relied on the very idea of individuals – or countries – must take
responsibility for their own benefi ts regarding the consequences as a whole. Keynes
explained the fallacy of composition that an individual’s rationality does not neces-
sarily imply a rationality of the whole – i.e., the entire economy or the global market –
because the latter is not simply an addition of its parts.
16
Against Rigidly Fixed Rules as Dry Bones
Where are the roots of his view that rigidly fi xed rules independent of the contem-
poraneous economic that are not adequate for monetary policy and international
monetary relations? The roots are to be found in his objection to the explicit and
implicit premises of the classical theory (GT, xxi, 33, 192, 371; C.W. XIII, 488).
17
16
Ethics in Relation to Conduct ( 1904 ) , Egoism ( 1906 ) , Muchlinski ( 1996 ) .
17
See also Carabelli ( 1991 ).
618 E. Muchlinski
His instrument of thought was logic, but not bivalent logic.
18
He did not criticize the
empirical unacceptability of its conclusions or a logical inconsistency between prem-
ises and conclusion, but rather the implication of orthodox premises. As Keynes stated:
“Granted this, all the rest follows” (GT, 1936, 21). The superstructure of classical the-
ory was constructed in a careful way in order to achieve “logical consistency” (Keynes
(1973–1989), C.W., Vol. VII, xxi). Keynes defi ned classical logic (i.e., Aristotelan logic)
as dry bones . Therefore, he characterized the premises of neo-classical economic
theory as dry bones .
19
He objected to rigidly fi xed rules which are designed for the sake of formal aes-
theticism or rigidity and which are to be interpreted as dry bones .
20
Keynes rejected
(neo) classical assumptions because of its alleged universality in space and time. In
his view an important criteria in determining a model’s validity is its link to the con-
temporary world , that is, the perceived world (Keynes, C.W., XIV, 296). Therefore,
the (neo) Classical theory is to be rejected because of its missing link to the contem-
porary world and its bivalent logic. In this meaning, he rejected constructivism.
The Situational Context or the Corpus of Knowledge
The philosophical roots of Keynes’s view lead back to his theory of probability,
which is of course a theory of knowledge (Keynes (1973–1989), C.W., Vol. VIII, 19).
In A Treatise on Probability , (1921) he sketched the metaphor corpus of knowledge
to explain why acquiring knowledge does not lead to certainty since the fragility
of knowledge still remains (Keynes (1973–1989), C.W., Vol. VIII, 4). He transformed
traditional notions by transforming traditional understanding of logic. He made the
turning point in his position even more transparent:
As soon as we have passed from the logic of implication and the categories of truth and
falsehood to the logic of probability and the categories of knowledge, ignorance, and ratio-
nal belief, we are paying attention to a new logical relation in which, although it is logical,
we were not previously interested, and which cannot be explained or defi ned in terms of our
previous notion (Keynes (1973–1989), C.W., Vol. VIII, 8).
Keynes emphasized inductive elements of reasoning. Induction is an element of
outlining what probability means. The theory of probability refers to the implication
18
Classical logic refers to Aristotelan logic or bivalent logic: “a or non-a”. Keynes judged on basis
of “fuzzy logic”, which implies the abandonment of dualist concepts. One important principle of
fuzzy logic is “multivalence”, which implies the understanding of “a and non-a” (Kosko
1993 ) .
19
In Chapter 2 of the GT, Keynes outlined the implicit assumptions underlying the classical theory
of employment, which all led back to a single central one: the assumption of independence from
the level of output and employment (Keynes (1973–1989), C.W., Vol. VII, 21–22; GT, xxxii–xxxiii,
18; C.W. XIII, 278).
2 0
Should Economics Be Hard Science? – Duménil and Lévy introduce four arguments against for-
mal aestheticism in economic theory. They outline that the formalist approach to economic theory
is only one possible method or language; “but this role is non-exclusive. The notion of a multiplicity
of language in economics refers to a plurality of approaches” (Duménil and Lévy
1997 , 276).
619
24 Against Rigid Rules – Keynes’s View on Monetary Policy and Economic Theory
of induction. In contrast to deduction, induction bears no possibility to use the logical
conception of Aristotle called bivalent logic .
But it has been seldom apprehended clearly, either by these writers or by others, that the
validity of every induction, strictly interpreted, depends, not on a matter of fact, but on the
existence of a relation of probability. An inductive argument affi rms, not that a certain
matter of fact is so, but that relative to certain evidence there is a probability in its favour
(Keynes (1973–1989), C.W., Vol. VIII, 345).
As we have seen, logic is part of Keynes’s theory of knowledge , and lies beyond the
classical conception of logic. We are able to link this consideration with the
Wittgenstein’s later work, Wittgenstein (Muchlinski
2011b ) . The citation given previ-
ously is important from the viewpoint of the history of economic thought . This transfor-
mation of concepts and categories documented the distance from the British Empirical
School, as well as ontological realism and constructivism.
Keynes described probability as a logical relationship between two propositions:
premise and conclusion (Keynes (1973–1989), C.W., Vol. VIII, 11). Not only two
propositions, but the acquaintance which allows one to speak of probability (Keynes
(1973–1989), C.W., Vol. VIII, 19). To say something upon a probability-relation
implies receiving a representation of it, rather than the thing as it is supposed to be
ontologically. He referred to ignorance (Keynes (1973–1989), C.W., Vol. VIII, 356).
Therefore, the signifi cance of probability depends on individual judgement under
uncertainty in order to perceive the relation between propositions with a “rational
degree of belief”:
The theory of probability is logical, therefore, because it is concerned with the degree of
belief which it is rational to entertain in given conditions, and not merely with the actual
beliefs of particular individuals, which may or may not be rational (Keynes (1973–1989),
C.W., Vol. VIII, 4).
21
He conceptualized the theory of probability as a theory of knowledge. This provided
a certain framework which is paradigmatically found in his economic theory, for
instance, state of confi dence, liquidity-premium, expectation and conventional
judgement.
22
Keynes’ position can be described as a realistic approach insofar as
one accepts a world outside of the individual. In his later work, Wittgenstein comes
to the consideration that it is in language that expectation and fulfi lment make con-
tact (Muchlinski
2006 ). The realist approach should not be confused with the so
called “critical” realism.
23
In Keynes’s view, one fi nds also rationalist elements
(O’Donnell
1989 ). He was opposed to idealism, i.e., he rejected empty concepts,
and traditional empiricism, i.e., he emphasized the limits of experience and of the
British Empirical School (Muchlinski
2002 ).
21
Keynes explained the term rational degree of belief in Chapter 2 of the Treatise on Probability
by reference to propositions and knowledge. “The highest degree of rational belief, which is termed
certain rational belief, corresponds to knowledge ” (Keynes (1973–1989), C.W., Vol. VIII, 10).
22
See Bateman ( 1991 ) on induction in Keynes’ thinking.
23
Further investigation on “critical realism” is given by Baert ( 1996 ) , Parsons ( 1992 ) .
620 E. Muchlinski
Transformation of Categories: Or the Roots
of Uncertainty and Ignorance
The transformation of categories as outlined in the previous paragraph provides the
methodological foundation that there is no sound theory of formal brilliantly
designed and rigid premises to be found in his work. Keynes, then, stepped into the
realm of terminological and economic uncertainty for the sake of clarity. Uncertainty
is inevitably inherent concerning decisions, actions and choices. This is why all
plans or drafts are to be interpreted as a chance to succeed or to fail.
In contrast, the criteria in classical theory are universality and rigour as the basis
for certain knowledge, deduction and formal aestheticism. (Neo) Classical theory
seeks to reduce uncertainty to the same epistemological status as certainty by using
mathematical calculus (C.W., XIV, 1937, 213).
24
According to Keynes’s argument,
economy as a system contains aspects of irreversibility created by interactions among
different people who are involved in pursuing their economic goals. He relied on
conceptions of degree of credibility, degree of confi dence, degree of rational belief,
etc. In summary, Keynes economic theory goes beyond constructivism, ontological
realism and empiricism since he defi ned economic theory as a social science based.
Concluding Thoughts
Keynes tried to balance his ideas for the new international monetary system with the
contemporary and perceived situation. The debates on international monetary
arrangement, to which Keynes’ lent his infl uential voice, documented that his theo-
retical view is beyond constructivism, ontological realism and empiricism. He
thereby revolutionized economic theory by integrating the categories of knowledge,
ignorance, rational degree and precariousness. He abandoned constructivism because
he rejected empty concepts as dry bones. He also left traditional empiricism and
ontological realism behind him since he needed to develop and to discuss new cate-
gories as a priori principles. His view of economic theory encompasses fragility and
precariousness of knowledge since he had already rejected Benthamine calculation.
He viewed bivalent logic as inadequate for his purpose to fi nd solutions to economic
problems. What needed to be discussed is how this simplicity fi ts with perceived
economic problems (Duménil and Lévy
1997 ; D’Autume and Cartelier 1997 ) .
One crucial point is, although the nature of rules in models is a particular descrip-
tion, rules itself often are interpreted as normative guidelines without deeper refl ection
on the normative sense.
25
Moreover, they are taken as universal rules or universal laws.
2 4
Hillard argued, Cartesian reductionism in classical theory was of no relevance to Keynes’s thinking
(Hillard
1992 , 66).
2 5
Caution is required as Edward Levi said: Economists, like jurists often argue by example, main-
taining, for instance: “the controlling similarity between the present and prior case” (Levi
1948 /1967, 7).
621
24 Against Rigid Rules – Keynes’s View on Monetary Policy and Economic Theory
As Keynes said, “taken (it) for granted” all the rest follows. Rules or the dichotomy
of “rules versus discretion” as introduced earlier are not given by the law of gravity.
Economics and economic theory is neither guided by rigidly constructed terms nor
by universal laws. On the contrary, terms, rules and laws need to be related to
economic actions, perceptions, experiences and decisions. The often claimed rela-
tion to natural phenomena like the law of gravity is not convincing. Economic
actions and decisions are not driven by universal power or hidden tendencies or
mechanisms.
26
Economic parameters like short-term and long-term interest rates and prices are to
be understood as results of the decision-making process under uncertainty. Surprisingly
or not, the community of science has not been successful in defi ning the term rule ; no
one has ever written down a satisfactory rule until now. “When formal elegance
becomes an end – rather than a means to an end – for theoretical research, theory risks
being of little help as a guide for practical decision making. The diffi cult quest for a
model which can be trusted completely as a descriptive – let alone prescriptive – tool
for economic policy is still only at its beginning” (Issing
2005b , 13).
Talking about monetary policy as constructed by a false dichotomy, i.e., “rules
versus discretion”, pretending credibility seems to be a contradiction. The effective-
ness of monetary policy is not a result of a continuity of fooling the public about the
goals, strategies, and forecasts made by central banks. One result of my contribution
is that the famous dichotomy “rules versus discretion” is of no relevance to Keynes,
because he had used the term “rules” not in the meaning of a formal brilliantly
designed notion. He defi nitely made a distinction between non-rigidly-fi xed rules
and discretion.
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JG B kh ( d) HdbkfhHi fE iTh h
The impact on economics of John Maynard Keynes’s The General Theory of
Employment, Interest, and Money of 1936 has been so large as to make it diffi cult
over 65 years later to reconstruct the professional economics stage onto which it
entered. While scholarly attention to the work began in different institutions
at different times after its publication, by 1950 it would have been diffi cult to fi nd a
college or university whose economics teaching or research programs were uninfl u-
enced by The General Theory.
A personal note: I began my formal study of economics in 1937 in a college
setting in which the received Marshallian view of theory (essentially microtheory)
was undisturbed by Keynes’s just-published General Theory. However, then-
standard courses in “business cycles” and in “money and banking” were offered
alongside a “value and distribution” microtheory course without any sense of incon-
sistency between the three areas. (Today’s familiar categories of microeconomics
and macroeconomics were unknown at the time. Indeed, these terms entered the
English language only after World War II. For convenience, we use the terms even
when referring to an earlier period.) It was only when I entered upon graduate study
at Duke University in 1940 that I learned of The General Theory. Calvin B. Hoover,
who chaired the Duke University economics department, was a personal friend of
Keynes and, no doubt, was responsible for the early introduction of the book into
the Duke graduate economics program.
The book’s infl uence on public policy is equally a story of overwhelming success
although its policy prescriptions were always politically controversial. No one in the
history of economics has set out so consciously to make his ideas the ruling ones
both with the profession and with policymakers and succeeded to the extent that
Keynes did. Why and how did he do it?
R. Brandis (*)
University of Illinois at Urbana , Champaign , IL , USA
Chapter 25
Keynes’s “Long Struggle of Escape”
Royall Brandis
626 R. Brandis
Keynes’s own explanation is well known. He said at the beginning: “I have called
this book the [sic] General Theory of Employment, Interest and Money, placing the
emphasis on the prefi x general. The object of such a title is to contrast the character
of my arguments and conclusions with those of the classical theory of the subject,
upon which I was brought up…I shall argue that the postulates of the classical
theory are applicable to a special case only and not to the general case…” (Keynes
[1936]
1973a p. 3, emphasis in original).
In a footnote to the word “classical,” Keynes said he meant it to include, among
others, Alfred Marshall, Francis Edgeworth, and Arthur Pigou – the immediate past
and then-present leaders of the English economics profession. Furthermore, Keynes
said, this difference between his ideas and theirs went far beyond that of a mere
argument among scholars, for “the characteristics of the special case assumed by
the classical theory happen not to be those of the economic society in which we
actually live, with the result that its teaching is misleading and disastrous if
we attempt to apply it to the facts of experience.” (Ibid).
Thus, both the dominant theory and its policy implications were wrong: the
theory because it purported to be exhaustive when it only met a special case, the
policy implications because they were for a theoretical world that had no counter-
part in the real world. Now, in 1936, after a century of error by the best minds in the
discipline, all was to be made clear. Later in The General Theory , Keynes did
acknowledge a few predecessors, notably Malthus. Surely, this must be the supreme
example of chutzpah in economics. If Keynes had not been a leading economist and
an important fi gure in British public life, it is doubtful that many reviewers would
have read further than chapter I before dismissing the work as that of a crank.
In fact, by 1936, not even classical microeconomics was encompassed entirely in
Marshall’s Principles. The year 1933 had seen the publication of Edward
Chamberlin’s Monopolistic Competition and Joan Robinson’s Imperfect Competition.
Macroeconomics had never pretended to be Marshallian or Ricardian even though
the latter’s macroeconomic view was said to have triumphed early in the nineteenth
century over Malthus’s ideas in their argument about “gluts.” For a century before
1936, macroeconomics had been fully occupied with two broad questions: (1) the
relationship between money and prices, especially the general price level, and
(2) business cycles. In the latter area, major concerns were changes in total employ-
ment and in the economy’s aggregate output.
Indeed, Keynes, himself, by 1936, was no stranger to either of these two macro-
economic areas. As long ago as 1913, he had authored a paper entitled, “How Far
are Bankers Responsible for the Alternations of Crisis and Depression?” (Keynes
[1913] Keynes
1973b , 13 pp. 2–14) Ralph Hawtrey authored a book ( Good and Bad
Trade) on the same subject in that same year. Hawtrey seems to have been working
along lines similar to Keynes, but earlier than Keynes; however, he was not a
member of the Cambridge School, and he does not seem to have taken the fi nal
steps that Keynes took in The General Theory.
Keynes’s 1913 paper offered what Keynes hoped was a new theory of what
caused business cycles. More recently, he had published in 1930 what he must have
hoped was a defi nitive work on money – the two-volume A Treatise on Money.
627
25 Keynes’s “Long Struggle of Escape”
By 1936, over twenty years after his fi rst essay in business cycle theory, he still
had not achieved a dominant place in that area of macroeconomics either. Yet, in
the 1920s and early 1930s, he was constantly publishing pieces on macroeconomic
policy. Many of these dealt with the effects of the business cycle – especially
unemployment.
Business Cycle Theory in 1936
It will be useful to review the state of business cycle theory at the publication of
The General Theory . In September 1930 (the same month Keynes’s A Treatise on
Money was published), the League of Nations commissioned Gottfried Haberler to
do a study of business cycles (or “trade cycles” in British terminology). The study
was to cover both theory and statistical testing of theory. The statistical work was
interrupted by the onset of World War II and apparently never completed. The
theoretical volume was divided into two sections: Part I, a survey of then-current
theories of the business cycle, and Part II, an attempt by Haberler to synthesize
these theories into a theory of the cycle. This volume, with the title, Prosperity and
Depression, was fi rst published as a League of Nations document in 1936. In one
of those coincidences dear to the heart of a historian, the preface to a later (1939),
public edition, tells us that the manuscript of the 1936 volume “was substantially
completed” in December 1935. (Haberler [1936]
1939 , viii) Keynes’s Preface to
The General Theory is dated 13 December 1935. Thus, we have, precisely dated,
the last word on business cycle theory at the time of the completion of The
General Theory.
Haberler’s book fi rst impresses the reader by its roll call of distinguished econ-
omists (mostly twentieth century) who had, by 1936, made contributions to busi-
ness cycle theory. Among these were R. G. Hawtrey, F. A. Hayek, F. Machlup,
L. Mises, L. Robbins, G. Cassel, J. Schumpeter, A. Aftalion, J. M. Clark, S. Kuznets,
R. F. Harrod, W. C. Mitchell, D. H. Robertson, A. Hansen, F. W. Taussig, E.
Lindahl, G. Myrdal, B. Ohlin, W. S. Jevons, H. L. Moore, and A. C. Pigou. Keynes
is mentioned, but in a minor way – usually grouped with Hawtrey, Pigou, and
Robertson; the reference is to his Treatise on Money.
Haberber’s book is also notable for the fact that there is only one mention of
Say’s Law and that is in the citation of a title to an article by Hans Neisser. Even
here, the reason for the citation is Neisser’s cycle theory; there is no discussion of
Say or Say’s Law here or elsewhere in Haberler’s book. Coming at this same
question from Keynes’s position, his chapter (22) in The General Theory, “Notes on
the Trade Cycle,” while clearly separating his new theory from then-current business
cycle theories, is at the same time, very respectful of those theories. Again, there is
no mention of Say’s Law. What Keynes purports to do is to use his new theory to
clear up questions raised, but not answered satisfactorily, by existing cycle theories.
He says, “if we are right … our theory must be capable of explaining the phenomena
of the trade cycle.” (Keynes [1936]
1973b p. 313).
628 R. Brandis
From this, it seems fair to say that whatever may have been the status of Say’s
Law in 1936, business cycle theory had a life of its own. Indeed, one might argue
that this had been true for 100 years past. Over that long period, virtually every
notable name in economics had participated in the business cycle colloquy. The fact
that the economic history of that 100 years had been characterized by recurring
periods of prosperity and depression was undeniable although the quantity and
quality of data concerning the phenomena were far less than what we have today.
What had resulted by 1936 from all of this effort was a multiplicity of theories,
none of which (including Haberler’s own attempted synthesis) had come to domi-
nate the fi eld. It was through this morass that Keynes sought a clear, but hitherto
untrodden, path. To a considerable degree, Keynes’s bold attack on Say’s Law and
classical theory may have been a smoke screen behind which he could construct a
new approach to business cycle theory.
A few general statements can be made about the development of business cycle
theories: First, they had always been dynamic theories. They began with a recogni-
tion of the fact of continual change in the overall economy. Further, they were
historical theories. There was a basic assumption that whatever economic condi-
tions are today, they are, at least in part, the result of the past history of the economy,
especially the history of the recent past. Finally, almost all who worked on the
problem were attracted (perhaps distracted) by the idea that there was a periodicity
in terms of calendar time to the various aspects of the cycle.
Scientism no doubt played a part in this. Jevons, who was explicit in his belief
that economics should be like physical science, thought he could tie business cycles
to the periodic change in sunspots. His mechanism operated via changes in agricul-
tural output (believed to be correlated to sunspot changes via the weather) which, in
turn, sparked change throughout the economy. Jevons believed he could demonstrate
statistically that the periodicity of the sunspots was the same as that of the business
cycle. Thus, economics, or at least a key part of the subject, could attain the predic-
tive power of astronomy. Jevons may have carried connection of the cycle to calendar
time further than anyone else, but business cycle theorists generally were entranced
by the possible periodicity of the cycle with respect to the calendar. This notion with-
ered gradually and is marked by the shift from the use of the word “cycle” to that of
“fl uctuation.” We should note that this emphasis on calendar time marked a clear
separation from Marshallian microeconomics in which time, e.g., “the short-run,”
was measured in purely economic terms without regard to the calendar.
The broadest classifi cation of the theories presented by Haberler was twofold:
monetary and real. Under each category were theories emphasizing different aspects
of the economy as well as mixed theories that attempted to incorporate factors from
one category into a theory emphasizing the other. The causal focus from the mone-
tary point of view was on the quantity of money and its velocity (transactions or
income velocity). The general idea was that an increase in MV accompanied rising
physical output and employment while a decrease was associated with the reverse
effect. However, in a prescient footnote, Haberler added: “It is conceivable that
the rise and fall of the volume of production might be accompanied by an opposite
movement of prices.” (Haberler [1936]
1939 , 14, f.2) In general, writers on the
monetary aspects stressed the familiar factors of bank credit conditions, interest
629
25 Keynes’s “Long Struggle of Escape”
rates, and price level changes. This led to consideration of central bank policy and
to the “rules” of sound banking under the gold standard, this latter institution being
largely moribund by 1936, but not expected to remain so.
The proponents of the real side as the prime mover in business cycles stressed
either investment in physical capital and the Acceleration Principle or the failure of
consumption to keep pace with rising output. Both the interest rate and entrepre-
neurial expectations were recognized as key factors in determining changes in the
level of capital creation. Under-consumption business cycle theories faced directly
the relationship of saving and investment. About the closest Haberler comes to
Say’s Law is at this point:” it is clear that the social function of saving is to release
resources from the production of goods for immediate consumption for the produc-
tion of producers’ goods.” (Haberler [1936]
1939 , p. 125) However, this is followed
shortly by the statement that while the “opponents [of under-consumption theories]
have shown the theoretical possibility of a smooth absorption of savings in new
investment, they have not shown its necessity.” (Ibid, p. 126, emphasis in original)
A special case of real causes of the cycle was variation in agricultural output. The
relative decline of importance of agriculture in the advanced economies by 1936
had reduced interest in this approach. The role of Jevons in such special theories has
already been mentioned.
In summary, by 1936 business cycle theory had reached a stage of sophistication
at which all the theoretical problems attacked in The General Theory had been
raised and various solutions proposed. However, there was no agreement as to the
relative importance of any particular problem and no agreement as to its correct
solution. Equally important was the inability to derive from the theories any agreed
governmental policy to ameliorate the human suffering spawned by unemployment.
The Great Depression of the 1930s had given this problem particular urgency.
Business Cycle Policy in 1936
Business cycle theoretical work was far more advanced in 1936 than were policy
recommendations. The reasons for this are not hard to fi nd. The fundamental
approach of cycle theory did not treat any one phase of the cycle as normal and the
other phases as abnormal and, thus, something to be modifi ed or eliminated. It was
the cycle that was normal. Of course, economists recognized the full-employment,
prosperity phase of the cycle as much the happiest for the participants in the system,
but attempting to reduce or eliminate the other phases or to extend the length of the
prosperity phase meant interfering with the mechanism of the cycle – to many a
dangerous procedure which might make matters worse.
If one believed, as some did, that the business cycle had the inexorability of some
natural mechanism in the physical world, there was nothing to be done. One might
as well talk of having a policy governing the acceleration due to gravity. Others
thought something could be done, but only with great caution, for interference with
the “natural” course of the cycle might only make things worse. There was no
agreement among this latter group as to just what ought to be done.
630 R. Brandis
A prevalent idea was that one might mitigate the worst features of the depression
phase by damping down the best features of the prosperity phase, in other words,
settling for less-than-full employment at all times to prevent larger scale unemploy-
ment part of the time. Again, there was no agreement on how this could be
accomplished. Moreover, stability at something like a recession level was not a very
happy solution. It would be like replacing periodic bouts of serious illness with a
continuing malaise. Keynes, himself, was an advocate of no one policy. His predi-
lection was to produce a situation-specifi c policy, but one point was clear: the social
concern which Marshall, no doubt, had nurtured led Keynes to refuse to accept the
notion that the laws of economics severely narrowed the options open for public
action to relieve unemployment in recession or depression.
Another diffi culty in the 1930s in trying to achieve a better, that is higher average
level of operation of the economy was the minor responsibility for the performance
of the economy often assigned to government in the industrialized nations. This was
particularly true in the United States where the economic policy roles (if any) of
the federal, state, and local governments were not clearly demarcated. It was the
Roosevelt Administration’s New Deal in 1933–1938 that laid the groundwork for
acceptance of Keynesian-type policy proposals, not the other way round.
Furthermore, the changes in the Federal Reserve Act, made in that same 1930s
period, coupled with the virtual abandonment of the gold standard, meant that the
bounds of monetary policy were vastly extended. Most importantly, the federal
government was no longer restricted in its fi scal policy by the danger of gold out-
fl ows from the Treasury or the banking system. Thus, in the United States, the
institutional foundation was laid for Keynesian economic policies before or con-
temporaneously with the arrival of The General Theory in 1936.
In Britain, where Keynes had a voice that was heard – if not always heeded – on
economic policy, he had to deal with institutional and political arrangements different
from those in the United States. Also, the British economy was much more sensitive
to the international economic situation than was the U.S. economy of that day. By
1928, Keynes was advocating policies that indicate rather clearly that he reached
“Keynesian” policy conclusions before he had constructed a theoretical base for
them in The General Theory. As Moggridge put it in summarizing a mid-1928
article by Keynes on the British unemployment problem: “He advocated an expan-
sion of public expenditure with a supportive, slightly expansionary, monetary policy”
(Moggridge
1992 , p. 461). Obviously, by 1928, Keynes was well along on his
A Treatise on Money, but it was not to furnish the theoretical underpinning for these
policy recommendations that one might have expected.
The Reception of A Treatise on Money
Although a congratulatory letter from J. A. Schumpeter upon the publication of the
Treatise said, “I believe it will ever stand out as a landmark in its fi eld” (quoted in,
Keynes 1973 13 p. 201), the professional reception of the book generally was
631
25 Keynes’s “Long Struggle of Escape”
respectful, but more critical than Schumpeter’s letter. Keynes, himself, was not
really happy with the volumes although he had been seven years in the writing. The
book appeared a year after the stock market crash in the United States, and that
nation, as well as the rest of the industrialized world was already a fair way down
the slope of recession that was to reach bottom in the U. S. in 1932–1933. The
Treatise must, upon publication, have seemed vaguely out of date. Considering what
the following decade was to bring in the Great Depression, it was certainly the case
that policymakers would not fi nd in the book the kind of answers that they had
begun to seek ever more desperately.
In the other area important to Keynes – academic economics – he was equally
disappointed. Two years after publication, it was clear that the profession was not
according to the ideas of the Treatise more than cursory attention. As Haberler’s
treatment indicates, the Treatise made only a minor stir in the over-crowded fi eld of
business cycle theory. The book’s emphasis on the role of money and the rate of
interest in determining the overall level of economic activity looked more and more
to have missed the point. When scholarly criticism of the Treatise began to be heard
almost literally on Keynes’s doorstep (with the “Cambridge Circus” of colleagues),
Keynes gradually came to see the need to do more than just revise the Treatise. The
result, of course, was The General Theory.
The Challenge Facing Keynes
The challenge Keynes faced in the mid-nineteen-thirties had three aspects. One
was the current British economic situation and what had preceded it. For whatever
reasons (Keynes would have said the terms under which Britain returned to the gold
standard in 1924), the nation had not enjoyed the prosperity of the 1920s that
much of the world, including the United States, had experienced. For Britain, the
decade of the 1920s had been marked by unemployment of varying degrees of
severity. The depression of the 1930s only made a bad situation worse. Through all
of this Keynes had been frequently in the public eye, usually as a critic of the ruling
economic policy and a proposer of policies of his own devising. He had had very
little success in achieving adoption of such policies. After 1933, American economic
policy did seem to be in step with his ideas, but that was largely coincidental; its
basis was pragmatic, not a new theoretical orientation. Keynes met Roosevelt in
1934, but if Keynes offered economic policy advice on that occasion it must have
passed Roosevelt by. After the meeting, Roosevelt told Frances Perkins, his Secretary
of Labor, that Keynes was very charming, but Roosevelt couldn’t understand what
he was trying to tell him.
The second aspect had to do with the state of business cycle theory in the 1930s.
The problem was not that there were no theories, but that there were far too many of
them. As Haberler’s book well demonstrates, there were so many different theories,
each upheld by one or more leading economists, that still another theory – no matter
how ingenious – stood little chance of acceptance by economists or of becoming
632 R. Brandis
the basis for public policy. In his early (1913) entry into this crowded arena, Keynes
had said that he was offering, “a general explanation of fl uctuations which is to
some extent novel…” (Keynes [1913] 1973 13 p. 2) Keynes was never modest when
it came to promoting his ideas. From the cycle theory point of view, the later (1930)
Treatise, no matter how respectful its reception, could only be judged a failure – and
failure was something Keynes had little stomach for.
The third aspect falls in the domain of the sociology of economics – treacherous
terrain indeed. How could Keynes make the economics profession (and, in turn, the
policymakers) listen to him? Harry Johnson’s very perceptive essay on the 35th
anniversary of The General Theory (Johnson [1971]
1978 , especially pp. 188–189)
listed fi ve characteristics required for a revolutionary theory in economics: (1) it
should attack the central tenet of orthodox theory (2) it should appear to be new, but
retain as much as possible of the old ruling theory – here Johnson suggested the
effi cacy of giving old concepts new and confusing names (3) it should be diffi cult,
but not too diffi cult to understand; this would lead seniors in the profession to try to
dismiss it while hungry younger ones could learn it and use it to challenge their
elders (4) it should offer a new methodology more attractive than what was then
available and (5) it should offer an important empirical relationship -in Keynes’s
case the consumption function – to attract the quantitatively inclined. The General
Theory, Johnson believed, satisfi ed all fi ve characteristics.
Without denying any of the above, I would like to go back a step before Johnson’s
analysis to ask the question Keynes must have asked himself at some point between
the publication of the Treatise and the conceptual beginning of The General Theory:
How could he make the profession listen to him? Surely, not by entering the fi eld of
business cycle theory more directly than he had with the Treatise. That would
require overcoming the Hydra that was the state of cycle theory in the 1930s. Unless
the Hydra was overcome, there was little chance that Keynes’s theory would be
pronounced the theory of the cycle. Yet there would seem little point in starting
again from orthodox monetary theory. He had gone that route more than once, most
recently with the Treatise.
Three chapters of the Treatise were devoted to what Keynes called the “credit
cycle.” Unemployment is given some attention in this part of the work although prices
and the interest rate are in the forefront. Haberler, in 1935, on the basis of the Treatise,
classifi ed Keynes as a monetary over-investment cycle theory advocate. We can
note that nowhere in the Treatise is there a reference to J. B. Say, to Say’s Law, or to
T. R. Malthus. The walls of Keynes’s prison appear to have been invisible ones.
We know from his preface to the Japanese edition of the Treatise that as late as
April 1932, Keynes saw a need only for “extending and correcting the theoretical
basis of my views.” (Keynes [1930] 1973, p. xxvii) Indeed, in a summary chapter
of the Treatise, he seems already to be well outside the stockade of Say’s Law. He
said, “The chapter [20] is…an essay in the internal mechanics of the price-wage-
employment structure during the course of a cycle which represents a recovery in
the volume of employment from a preceding slump which has reached an equilib-
rium between prices and costs of production, but is still characterized by unem-
ployment.” (Keynes [1930] 1973 p.274, emphasis supplied) Yet, in The General
633
25 Keynes’s “Long Struggle of Escape”
Theory, Keynes was going to state, “Say’s law, that the aggregate demand price of
output as a whole is equal to its supply price for all volumes of output, is equivalent
to the proposition that there is no obstacle to full employment” (Keynes [1936]
1973 p. 26). It was this Law that Keynes argued blocked understanding of the
unemployment problem as well as prevented adoption of policies to correct
the problem. It is almost as though there were two different economists at work
on the same problem.
Keynes’s Response to the Challenge
Sometime after April 1932 (the date of the preface to the Japanese edition of the
Treatise ), Keynes must have concluded that he had to fi nd an entirely new angle
of attack on the ruling economics establishment if he were not to be merely one of
a number of economists who were listened to more or less respectfully on business
cycle problems. Since we will differ with it somewhat, let us fi rst present the 1973
opinion of Donald Moggridge whose familiarity with Keynes’s writings and
activities during the 5-year period between the Treatise and General Theory is
unsurpassed.
Moggridge, who edited the Collected Writings volume on the preparation of
The General Theory, has this to say about why changes in aggregate output moved
to center stage in Keynes’s thinking: “Three outside infl uences seem to have been
preeminent: the worldwide slump after 1929, which moved the English ‘local
diffi culties’ of 1922–1929 on to a wider stage, the general reception given to the
Treatise, and discussions in Cambridge during 1930–31.” (in Keynes 1973 v.13:
p. 338) We should note that the Cambridge “discussions” amounted to a critical
seminar on the Treatise by some of Keynes’s younger colleagues. While scholarly
and well meant, they may well have rankled Keynes. One participant, the young
Joan Robinson, in 1933, would publish her Imperfect Competition to immediate
acclaim and notice in the profession. This was hardly likely to improve Keynes’s
satisfaction with his own performance in the Treatise.
What can be said contra Moggridge? I do not fi nd Moggridge’s explanation
persuasive in concentrating the origin of the revolutionary ideas of The General
Theory in the period immediately following the publication of the Treatise. It ignores
Keynes’s important role as a public man in Britain as well as his personal history.
I wish to emphasize that I do not mean to disparage the technical work done by
Keynes or the contributions of his colleagues in the early 1930s after the publication
of the Treatise. All of this aspect of the development of The General Theory is
beautifully laid out in Volume 13 of the Collected Writings. What I do mean to
argue is that this is an incomplete explanation. It yields a picture of the genesis of
The General Theory as being solely in theoretical questions, puzzles, professional
criticisms and the responses which they elicited from Keynes. It presents a model of
scholarly, scientifi c advance. It ignores the human motivations of a complex and
proud man.
634 R. Brandis
There is now another, carefully researched, and very different sociological
evaluation of the activities of the same persons in the same period. This is an article
by Nahid Aslanbeigui and Guy Oakes in the March
2002 issue of the Journal of
the History of Economic Thought. The article is entitled, “The Theory Arsenal: The
Cambridge Circus and the Origins of the Keynesian Revolution.” I do not think
the article contradicts what I have to say, but it is less accepting of the orthodox
explanation than I am. Let me give a brief description of the argument of the piece.
I begin with some quotations from the article.
“The Keynesian Revolution did not emerge complete and in glittering perfection
from the text of The General Theory, like Minerva from the head of Zeus. The revo-
lutionary consensus of 1936–1946 was not achieved on the basis of the intrinsic
scientifi c merits of The General Theory or its inherent explanatory power” (p. 6).
“The Keynesian Revolution is best understood not as a book but a collection of
intersecting social mechanisms: a complex of social interactions, negotiations,
adjustments, and a host of contingencies that occurred between the publication of
the Treatise on Money and Keynes’s death” (p. 6).
“For the Keynes of The General Theory, a theoretical choice was a strategic
choice. Theory became strategy. It follows that The General Theory cannot be
understood on the basis of a philosophy of science committed to the idea of an
epistemologically pure theory and a clear distinction between a theory and its
uses” (p. 7).
The authors’ argument is that, after the publication in 1930 of the Treatise on
Money, a small group of Keynes’s young colleagues at Cambridge (the now famous
Cambridge Circus) formed what can only be called a conspiracy to replace “classi-
cism,” that is, the orthodoxy of the time, with a new approach. Keynes became the
stategist of this movement. However, the young revolutionaries (as well as Keynes),
were steeped in the Cambridge tradition of economic analysis which had been
inherited from Alfred Marshall. This tradition was essentially a microeconomic
one, but did have any connection to the macroeconomic area of money and prices.
There was no identifi able Marshallian business cycle theory tradition. The authors
do not examine this reliance on microeconomic theory as the base for constructing
a new macroeconomic theory. I will, however, return to this point.
Austen Robinson, then virtually the only survivor of the between-the-wars group
of Keynes’s close Cambridge colleagues, speaking in 1983 at the Keynes Centenary
Conference at King’s College said that the present generation of economists did not
grasp the fact that Keynes’s fi rst concern was policy – not theory.
As I have already indicated, the actual crystallization of Keynes’s determination to
write a revolutionary book must have come after the writing of the preface to the
Japanese edition of the Treatise in April 1932. However, I would argue that the under-
lying motivating force had its inception in the period at the end of World War I.
Clearly, we are now moving into an area of analysis that economists – even
historians of economic thought – usually seek to avoid. The idea of the economist
as the dispassionate scientist is a very attractive one. Alas, it may not always be
an accurate description, particularly when considering the work of a man like
635
25 Keynes’s “Long Struggle of Escape”
Keynes. In 1919, Keynes published The Economic Consequences of the Peace
(Keynes [l919] 1973) and, overnight, went from the position of a young profes-
sional economist with a promising academic/public career to the status of a best-
selling author whose controversial reportage, analysis, and criticism of the Versailles
Conference and Treaty were being discussed by intellectuals and policymakers
worldwide as well as in his own country. Sudden fame is a very heady experience
which no man comes through unaltered. One of the things that contributed to
the controversy (and to the book’s large sales) was Keynes’s brash treatment of the
major national leaders at the Versailles Treaty Conference. He was not only critical
of their product, the Treaty, but limned their personalities and motivations in unfl at-
tering ways. It was, for Keynes, a very rewarding experience, professionally and
fi nancially.
A second, much quieter activity also made its contribution. At least as early as
1922, Keynes had begun reading each year a paper on Malthus to the under-
graduate Political Economy Club at Cambridge. This was a charming piece
having mostly to do with Malthus the man and with the Essay on Population.
That Keynes would be interested in Malthus is no surprise. After all, both he and
Malthus had India connections, Keynes spending two years as a civil servant in
the India Offi ce as well as lecturing and publishing a book on Indian fi nance
(Keynes [1913]
1971a ) while much of Malthus’s career was spent on the faculty
of the East India College. Perhaps even more to the point, both were young men
when they published books that brought them wide public notice. Malthus was
32 when the Essay appeared; Keynes was 36 when Economic Consequences
was published.
By 1933, when he was preparing the Malthus paper for publication in his
Essays in Biography, (Keynes [1933]
1972 ) Keynes had added two sections to his
paper – one on Malthus’s macroeconomics, the other on the controversy between
Malthus and Ricardo over “glut.” Included in the addition was the memorable
sentence: “If only Malthus, instead of Ricardo, had been the parent stem from
which nineteenth-century economics proceeded, what a much wiser and richer
place the world would be today!” (Ibid pp. 100–101) Also in 1933, the Ricardo-
Malthus correspondence over “gluts” fi rst became available in its entirety to
Keynes. From this material to J. B. Say and Say’s Law as the point at which the
discipline took the wrong turn, would not have been a diffi cult path for Keynes to
backtrack. And now he had the great names of the orthodox discipline arrayed
against him: Ricardo, John Stuart Mill, Marshall, and Pigou. (Keynes [1936] 1973
pp.18–21) This, of course, paralleled the case of the Economic Consequences of
the Peace with Keynes’s treatment of the great fi gures of the Versailles Conference:
Woodrow Wilson, Lloyd George, and Georges Clemenceau. Now it all came
together and Keynes launched himself on his new project. No one date can be
fi xed for its beginning, but by December 1933 he had put down his fi rst try at a
Table of Contents for the new book (something Keynes always did very early in
the composition process). Two years later, the book was fi nished and our world
was never to be the same again.
636 R. Brandis
Advance and Retreat
Was Keynes’s “struggle for escape” a struggle to escape a prison largely of his own
devising? I would argue that it was. Clearly, the impression he gave in The General
Theory of a profession in thrall to a century-old idea (Say’s Law) was not correct.
After all, when Ricardo and Malthus were arguing about “gluts,” industrialization
and a monetary system that penetrated the entire economy were so new that the later
notion of a business cycle could then only dimly be perceived. The notion that there
was essentially no development of macroeconomic theory between Ricardo and
Keynes will not stand up. Indeed, Keynes’s own very respectful treatment of busi-
ness cycle theories (and theorists) at the end of The General Theory (Keynes [1936]
1973 pp. 313–332) shows that he did not think the profession impotent in under-
standing, or even in generating, useful policy ideas to combat what all acknowl-
edged in the 1930s to be a critical economic situation.
What was the case was that none of the policy recommendations to be derived
from the business cycle or monetary theories of Keynes’s day went far enough to
satisfy the social consciousness of a product of Marshall’s teaching and the
Bloomsbury environment. The inevitability of the cycle meant the inevitability of
less than full-employment much of the time, and Keynes would not accept that.
Why try to be heard in an already over-crowded fi eld when the end result would still
be a disappointment? The concentration of monetary theory on prices rather than on
output also led to a policy dead end.
However, when Keynes set out on his new path, those who came after him fol-
lowed only part of the way. When Keynes rejected business cycle theory (by omis-
sion rather than overtly), he turned from its dynamic approach and took the static
Marshallian microeconomic approach as his model. He sought to transfer the familiar
Marshallian microeconomic concepts of demand, supply, equilibrium price, and
equilibrium quantity from an individual market to the overall economy. He sensed
that this approach brought with it new theoretical problems, and he made a start on
trying to solve, or at least to defi ne, them. To those who followed in his footsteps
these problems appeared peripheral; they had no qualms about ignoring them.
These problems are important today not only because they expose fundamental
diffi culties in Keynes’s theory but also because they underlie our inability to explain
real-world conditions that fall outside Keynes’s theory (despite his claim of the
theory’s generality). These problem areas are: (1) the relationship between micro-
economics and macroeconomics and (2) the relationship between relative prices
and the general price level. Obviously, problem 2 can be thought of as a subset of
problem 1 and, to some extent, Keynes did think of it in that way.
Problem 1 was described by Keynes in a typical Keynesian turn of phrase. He
said, “We have all of us become used to fi nding ourselves sometimes on the one side
of the moon [microeconomics] and sometimes on the other [macroeconomics],
without knowing what route or journey connects them, related, apparently, after the
fashion of our waking and our dreaming lives” (Keynes [1936] 1973 p. 292). He
rejected the disciplinary division of his day between “the theory of value and
637
25 Keynes’s “Long Struggle of Escape”
distribution” on the one hand and “the theory of money [or prices]” on the other.
It was this division, Keynes argued, which was at the root of the confusion in
economic theory. (Ibid pp. 292–293).
Keynes suggested several new bifurcations of economics without really settling
on one as most appropriate. The one that is most familiar today was that between
“the theory of the individual industry or fi rm” and “the theory of output and employ-
ment as a whole. ” (Ibid p. 293, emphasis in original). By shifting the emphasis, if
not the contents, in the micro/macro division, Keynes seems to have believed he had
found a path between the two sides of the moon. However, it was by virtue of
another division, namely, that “between the theory of stationary equilibrium and the
theory of shifting equilibrium” that Keynes seems to have thought he had solved
the problem (Ibid p. 293). In this schema, macrotheory ceased to be a theory of
money and became incorporated into the theory of value and distribution
although money still played a key role as “a subtle device for linking the present
to the future” (Ibid p. 294). Keynes laid out no clear path between his “stationary
equilibrium” and his “shifting equilibrium” models. We are still waiting for such a
path although there is a large literature which purports to show the way. More
precisely, we still have no logically consistent model that includes both micro-
economics and macroeconomics. Consequently, we are often offered microeco-
nomic policies as solutions to macroeconomic problems and, less often, the reverse.
The theoretical ground for such policies is, to say the least, shaky.
The second problem, that of the general price level, Keynes spoke of as a
measurement concept included in one of the “three perplexities which most impeded
my progress in writing this book” (Ibid p. 37). He went on to say, “the well-known,
but unavoidable element of vagueness which admittedly attends the concept of the
general price level makes this term very unsatisfactory for the purposes of a causal
analysis, which ought to be exact” (Ibid p. 39). It was to avoid this problem that
Keynes introduced the notions of the labor unit and the wage unit. His audience
quickly rejected those unfamiliar concepts.
The Nature of the Problem
At the heart of Marshallian microeconomics is the concept of the equilibrium price
for a product. This price equates the quantity of product demanded with the quantity
of product supplied in a market. The units of quantity are arbitrarily selected. It is
only required that the same unit be used on both sides of the market. This equilib-
rium price is a relative price and therefore can be operationally defi ned. In an epis-
temological sense, therefore, it has meaning. Given the relative prices of any two
products, the value of a unit of one in terms of units of the other is determinable.
What Keynes wanted to do was transfer this analytical device to the macroeco-
nomic sphere, but he knew there was no way to add and average all the prices in an
economy and thus arrive at the general price level at some moment in time.
Similarly, he was aware that there was no unit of measurement which would serve
638 R. Brandis
to encompass all products and be summed to yield the economy’s aggregate supply
at that same moment in time.
Keynes’s attempt to fi nd a way out of his dilemma is laid out succinctly in Chap.
4 of The General Theory. He failed in this endeavor, but he knew there was a
dilemma. Those who followed simply substituted changes in the price level for the
general price level without comprehending that by doing this they were shifting
from a Marshallian static theoretical basis to a dynamic one reminiscent of business
cycle theory. Something similar occurred with the supply side concept.
When Alvin Hansen published his very infl uential A Guide to Keynes in 1953
(Hansen
1953 ) , his treatment of Keynes on this point was cavalier: “Keynes’s
analysis could have proceeded quite as well had he adopted the price index as his
defl ator instead of his wage-unit …Fundamentally the matter is of no great conse-
quence. On balance Keynes’s readers would probably have preferred constant-value
dollars to constant wage-unit dollars” (Ibid p. 44). Hansen completely missed
Keynes’s point that there was a serious fl aw in using the general price level (not the
price index) as a measurement device. If Keynes’s proffered solution to the problem
was not an improvement (which it was not), that did not remove the original
problem which concerned Keynes. Nevertheless, once the imprimatur of the
acknowledged leader of American Keynes scholars was placed on this faulty inter-
pretation, Keynes’s “perplexity” was allowed to fade away.
Conclusion
We have long since become accustomed to having some economist publicly
“explain” a rise in the price index by naming some item(s) in the index that rose in
price more than the average increase for the relevant period. This view of things is
thoroughly ecumenical – the political orientation of the then-current Administration
or of the economist makes no difference. It is as if one explained the cause of a
fever by reference to the behavior of the mercury in the thermometer. In the quieter
arena of academia, we have become equally inured to the ubiquitous insertion of
the letter “P” in macroeconomic equations or graphs to represent the general price
level at a moment in time. Alas, the reality of the letter does not confer reality on
the concept.
If this were just intellectual gymnastics practiced by academics, we might safely
ignore it, but macroeconomic policy recommendations important to the well-being
of all are expected of our profession.
We can have no more confi dence in our policy recommendations than we have in
the theory that underlies them. We badly need to strengthen our macrotheory base
which today has an immense superstructure built on it. It is a curious twist in the
history of economic thought that while Keynes was trumpeting his escape from
classical theory, he was, in fact, quietly slipping the shackles of business cycle
theory. At the same time, he was relying heavily on static Marshallian microtheory
concepts to build his new dynamic theoretical model.
Sic itur ad astra .
639
25 Keynes’s “Long Struggle of Escape”
References
Aslanbeigui N, Oakes G (2002) The theory arsenal: the Cambridge circus and the origins of the
Keynesian revolution. J Hist Econ Thought 24(1):5–37
Haberler G (1939) Prosperity and depression. League of Nations, Geneva
Hansen AH (1953) A guide to Keynes. McGraw-Hill, New York
Hawtrey RF (1913) Good and Bad Trade. Longmans, London
Johnson ES, Johnson HG (1978) The shadow of Keynes. Basil Blackwell, Oxford
Keynes JM [1913] (1971a) Indian currency and fi nance.Vol. 1 of The Collected Writings of John
Maynard Keynes. Macmillan, London
Keynes JM (1971b) A treatise on money, vols V and VI. Macmillan, London
Keynes JM (1972) Essays in biography, vol X. Macmillan, London
Keynes JM (1973) The general theory of employment, interest and money, vol VII. Macmillan,
London
Keynes JM (1973) In: Moggridge D (ed) The general theory and after, Part I, vol XIII. Macmillan,
London
Moggridge DE (1992) Maynard Keynes: an economist’ s biography. Routledge, New York
641JG B kh ( d) HdbkfhHi fE iTh h
Introduction
Starting with an outline of the life and career of John Maynard Keynes, the paper
focuses on his “Monetary Theory of Production” as a challenge to “the Classical
School”. As the title of the paper reveals, it analyses whether Keynes understood the
conditions of the existing monetary economy.
The core of the paper consists of a critical assessment of Keynes’s theories of
money, of central banking, as well as of interest and employment. It demonstrates
that, inspite of his promising distinctions between money of account and money
proper as well as between individual and aggregate demand, there are severe fl aws
in Keynes’s monetary analysis, especially: (1) the confusion of mutual clearing of
debt titles with a substitution of money proper for debts, (2) the confusion of debt
titles offered by a creditor with those offered by a debtor, (3) the confusion of an
explanation of the rate of interest with the possibility of earning interest by giving
up money, and, therefore, (4) badly established links between the rate of interest,
money, and output.
These fl aws explain why Keynes missed to correctly formulate the conditions
of a monetary economy, especially with regard to the links between the rate of
interest, good securities, and the creation of money. Unable to distinguish between
debt titles bought by the central bank from creditors and titles bought by it from
the Treasury, he eventually proposed “Government printing money” as the source
H.-J. Stadermann (*)
Berlin School of Economics and Law, Hochschule für Wirtschaft und Recht Berlin ,
Badensche Strabe 50–51 , 10825 Berlin , Germany
e-mail: [email protected]
Chapter 26
John Maynard Keynes and the Theory
of the Monetary Economy *
Hans-Joachim Stadermann and Otto Steiger
*Slightly revised and abridged version of Stadermann and Steiger, 2001 , 283–321.
Translation by Ariane Stadermann
642
H.-J. Stadermann and O. Steiger
of fi nance for current public expenditures. In the end, his insuffi cient monetary
analysis contributes to his failure to overcome the orthodoxy of his time. In this,
he resembles Marx and, therefore, Keynes can be called the Karl Marx of neoclas-
sical economics.
An Outline of the Life and Career of John Maynard Keynes
John Maynard Keynes (1883–1946) is regarded as the greatest economist of the
twentieth century. He was born in Cambridge as the only son of John Neville
Keynes, economist and later registrar of Cambridge University.
Keynes was educated at Eton and studied mathematics (receiving a degree in
1905) as well as economics at King’s College, Cambridge under Alfred Marshall
and Arthur Pigou. He then entered the Civil Service, where he worked for the India
Offi ce. His fi rst book in economics, Indian Currency and Finance (1913), grew out
of this work.
In 1908, Keynes became lecturer in economics at Cambridge University, where
in 1909 he submitted his dissertation A Treatise on Probability (published in revised
form in 1921). Shortly after the outbreak of World War I, Keynes entered the
Treasury, and by 1919 he was its principal representative at the Peace Conference at
Versailles. His disagreement with the Peace Treaty led to his resignation and to his
vehement denunciation of the treaty in Economic Consequences of the Peace (1919),
which made him a world celebrity overnight.
In the wake of his success, Keynes resigned his lectureship at Cambridge and
earned his living in the following two decades as a publicist on economic-political
topics and from speculation on the stock market. At the same time, he became editor
of The Economic Journal and also wrote a trilogy, with which he made funda-
mental contributions to monetary economics: A Tract on Monetary Reform (1923),
A Treatise on Money (1930), and The General Theory of Employment, Interest and
Money (1936). The latter publication paved the way for the new discipline of
macroeconomics. Whether the book triggered a revolution in economic theory or
not is still under discussion − also in this paper.
Between the two World Wars, Keynes was a leading fi gure in various British
governmental bodies, amongst others, the famous Macmillan Committee (1929–
1931). He also played a leading role in the negotiations with the United States
government during World War II. In 1944, he became one of the architects of the
Bretton Woods agreement, which established the International Monetary Fund and
the World Bank.
Keynes also played a prominent role in the cultural and intellectual life of
contemporary Britain. For many years, he was a member of the famous Bloomsbury
Circle, and he was instrumental in establishing the Arts Council − interests which
ranged far beyond the confi nes of economics.
643
26 John Maynard Keynes and the Theory of the Monetary Economy
Monetary Theory of Production as a Counter Argument
to the Classical School
Just like Karl Marx aimed to overcome classical economics with his “critique of
political economy” in the nineteenth century, Keynes also sought to bring down
classical as well as neoclassical economics, which he both termed “the Classical
School”, in the fi rst third of his century. He states that this school only dealt with “a
special case”, but cannot comply with the fundamentals of the economic system
within which we live, “with the result that its teaching is misleading and disastrous
if we attempt to apply it to the facts of experience” (Keynes
1936 , 3).
Keynes’s critique mainly argues against the barter or real exchange economy of
the Classical School. He goes beyond the traditional argument of whether money is
neutral or not and emphasises that money has to be regarded as an operational
factor, which infl uences the economic motives and decisions of individuals. In his
“Monetary Theory of Production” (Keynes
1933b ) , he specifi cally argues against
Alfred Marshall’s Principles (1890), where money is used as an important but
ultimately neutral medium to determine the economy’s barter exchange relations or
the relative prices of goods. The Classical School defi ne them as the decisive factors
for economic activity. Instead, Keynes emphasises that statements about the barter
economy are not necessarily transferable to the monetary economy. Despite this, he
does not intend a total break from classical and neoclassical theory but aims to
complete the barter theory the Classical School. Keynes interprets that school, as a
specifi c case of his General Theory which only deals with the unusual state of full
employment. A general theory of the economy should also analyse phenomena such
as business cycles, crises, and unemployment in which money and interest are
important factors (Keynes
1933b , 125).
In the General Theory , which indeed is also a theory of the rate of interest and
money, one can − surprisingly − not fi nd an analysis which really sheds light on the
differences between barter and monetary economy. Keynes shows a non-elaborated
theorem, which he believes to be capable of overcoming the false dichotomy of
economic theory between value theory and monetary theory. Its central argument is
that “ the importance of money essentially fl ows from its being a link between the
present and the future. ” But this only happens at the end of his theory of employ-
ment, developed in books I to IV of the General Theory , (Keynes
1936 , 293).
The correct dichotomy, therefore, has to be stated as follows: the theory of value
as a theory of relative prices in a barter economy works with given quantities of
employment. All agents have stable expectations about the future. Consequently, no
particular link is needed between the present and the future. The same is true with
respect to a particular theory of money. However, money is necessary for a theory
of the monetary economy within which macroeconomic variables, output and
employment in particular, cannot be regarded as given. They need to be determined,
because expectations are insecure and, consequently, changes in expectations about
the future will trigger changes in decisions in the present. Therefore, the assumption
644
H.-J. Stadermann and O. Steiger
of given employed resources cannot be sustained. The fact that expectations may
change necessitates a medium to reduce the uncertainty resulting from this change.
Such a medium is money as the most secure way of storing up value.
1
Theory of Money
So what does Keynes consider to be money, and how does he explain its origin, and
what does he think about its role in the economic process? In the General Theory ,
he only discusses the latter question. The quantity of money M can be created
without any problems as “loanable funds” or “pool” by the banking system in the
form of M
1
and M
2
, depending on the demand of the public for transaction and
speculation funds, L
1
and L
2
, respectively (Chap. 15). Keynes is aware of the differ-
ence between non-interest-bearing money and interest-bearing claims on money.
At the same time, however, he does not only consider central bank money to be part
of the money supply − banknotes and credit balances at the central bank − but also
demand deposits and time deposits up to three months at commercial banks (Keynes
1936 , 167, fn. 1).
How the demand for cash, needed for current transactions of the economic
agents, is to be fulfi lled, is not considered by Keynes in Chap. 15. He is content with
the general conclusion that the quantity M
1
changes independently from the rate of
interest, i , and is directly associated with changes in aggregate income, Y. He is only
interested in the creation of money for the purpose of speculation, M
2
. Here the
focus is on the rate of interest or the price of fi xed-interest-bearing securities and,
consequently, the variation of this part of the money supply by open market opera-
tions of the central bank. This relationship creates the opportunity for a monetary
policy capable to regulate investment by the rate of interest. The benchmark for
investment, however, is the long-term interest rate which is not determined directly
by the money market. The central bank – limited to transactions on the money
market – can only try to infl uence the rate of interest on the capital market. Therefore,
according to Keynes, the central bank – instead of just buying and selling short-term
securities – should also enter into long-term engagements with the aim of directly
infl uencing the rate of interest in the capital market (Keynes
1936 , 197). This
unusual conclusion − unusual at least with regard to the state of the predominant
theory of banking of that time − is derived from Keynes’s analysis of money as State
money in his Treatise on Money , which is heavily infl uenced by Georg Friedrich
Knapp (
1905 ) .
1
Keynes does not even ask how this insecurity could be overcome by the use of forward
contracts.
645
26 John Maynard Keynes and the Theory of the Monetary Economy
Keynes starts the Treatise with a promising distinction between money of account
and money proper , which is based on the works of James Steuart (
1767 , I, 526) and
Ralph Hawtrey (
1919 , 2).
2
Similar to their approaches, Keynes regards money of
account as the primary concept of the theory of money, as it directly stems from
debts, and money proper can exist only in relation to a money of account.
“A money of account comes into existence along with debts which are contracts
for deferred payment, and price lists, which are offers of contracts for sale or
purchase. Such debt and price lists, whether they are recorded by word of mouth or
by book entry on baked bricks or paper documents, can only be expressed in terms
of a money of account.”
“Money itself, namely that by delivery of which debt contracts and price
contracts are discharged , and in the shape of which a store of general purchasing
power is held , derives its character from its relationship to the money of account,
since the debts and prices must fi rst have been expressed in terms of the latter.
Something, which is merely used as a convenient medium of exchange on the spot,
may approach to being money, inasmuch as it may represent a means of holding
general purchasing power. But if this is all, we have scarcely emerged from the stage
of barter. Money proper in the full sense of the term can only exist in relation to a
money of account” (Keynes
1930a , 3).
Furthermore, Keynes emphasises that money in any case has to be legal tender
which, therefore, must be accepted as a means of dissolving debts, not just as a
means of barter to enable the transaction of goods. At the same time, however, he
always considers money proper as State money, whose quality and quantity is deter-
mined arbitrarily by government, which means that the latter can also change the
money’s quality over time.
3
According to Keynes, this State money has existed as the only money in the
crude form of monetary economy for millennia. A development in the monetary
system only began in early modern times, when it was discovered that debts denom-
inated in a money of account could be used as a substitute for money proper when
winding up credit contracts. Keynes calls these titles “bank money” and emphasises
that they must not be confused with money proper. The discovery of bank money
led to a revolution in the monetary system, as soon as the State in the 18
th
century
declared its own debt titles as legal tender. “The state may then use its chartalist
prerogative to declare debt itself is an acceptable discharge of a liability” (Keynes
1930a , 5). He refers to the French Revolution and – without mentioning it explicitly–to
2
See also Hawtrey’s ( 1930 , 545) remarks that debts are not defi ned by money, but that “money
must be defi ned in terms of debts”. Neither Steuart nor Hawtrey are acknowledged by Keynes.
3
Keynes’s notion of State money is slightly misleading, as is it not bound to the existence of
genuine states. In a historic discourse about the development of money, he shows that State money
had already existed in early societies as commodity money, where authorities are supposed to have
determined what quantity of certain goods (such as cereals or goats) had to be the standard unit
used as money of account in loan contracts (Keynes ,
1930a , 10–12).
646
H.-J. Stadermann and O. Steiger
the revolutionary authorities’ issue of assignats .
4
The missing properties of money
in such State paper notes had been demonstrated correctly by James Steuart (
1767 ,
I, 131 f.) and Jean-Baptiste Say (
1803 , 283).
5
However, seemingly unimpressed by
their fi ndings, Keynes (
1930a , 6; emphasis added) maintains that such notes are
money. “A particular kind of bank money is then transformed into money proper – a
species of money proper which we may call representative money . When, however,
what was merely a debt has become money proper, it has changed its character and
should no longer be reckoned as a debt, since it is of the essence of a debt to be
enforceable in terms of something other than itself.”
6
In this, Keynes makes a serious mistake, which up until now has not been
corrected in the literature about money. He confuses the mutual netting of claims,
which make the use of money redundant, with the substitution of money for
claims, which he wrongly calls bank money . Within banking operations, this netting
of liabilities is generally feasible without any problems: a creditor’s claims for
money can be netted off with claims for money against third parties instead of
payment, i.e . instead of a transfer of money. However, the liability does not substi-
tute money in this case but a clearing of liabilities is simply substituted for the
payment of money. This may at fi rst sight seem like splitting hairs, but the distinc-
tion is an important one. Its omission in Keynes’s work makes the distinction
between genuine money and State notes, brought into circulation at a forced rate,
impossible. The same fl aw occurs in his discussion of “bank money”, where he
misinterprets various kinds of claims. “Bank money” does not just include bills of
exchange and cheques, with which the public can bring mutual claims or claims
4
In the case of the assignats that from 1789 onwards were issued for disowned church possessions
of land, royal domains and the land possessions of emigrants, the necessary securities did not exist.
They lacked the opportunity to safely enforce them. It was lacking because they could only be
transferred into private property from the possession of the State through a competing public. At
the same time, it was predetermined that, as soon as there was a desire to redeem these titles, the
competition would not cease to exist until the price of the land had risen toward infi nity and
the value of the assignats had fallen to zero.
The
original assignats issued at sight at the Caisse de l’Extraordinaire were never paid at all.
They were received in payment for the national domains bought by competing individuals.
However, as has been admirably shown by Jean-Baptiste Say, their nominal value could never give
any determinate value to the assignats , because the value of the former increased exactly in propor-
tion as that of the latter declined. The Treasury did not bother about this, because the rise in the
price of its domains enabled it to cash a greater amount of assignats and re-issue new ones for its
expenditures, without enlarging the quantity of the assignats . The Treasury was not aware that,
notwithstanding these advantages, the rise in the price of the domains meant a rapid devaluation
of the assignats . “The error was discovered in the end, when it was impossible any longer to
purchase the most trifl ing article with any sum of assignats , whatever might be its amount.
The next measure was to issue mandats , that is to say, papers purporting to be an order for the
absolute transfer of the specifi c portion of the national domains expressed in the mandat : but,
besides that it was then too late, the operation was infamously executed” (Say
1803 , 283).
5
See more detailed Stadermann and Steiger ( 2011 p XXX ) . On Say confer also fn. 4 above.
6
Most interestingly, Keynes’s idea of “representative money” has its renaissance in the Post
Keynesian theory of money, especially by Randall Wray (
1998 ) ; see more detailed Steiger 2005 .
647
26 John Maynard Keynes and the Theory of the Monetary Economy
against their bank deposits into circulation, but also banknotes which constitute a
claim against the issuing bank. It is this misconception, which allows Keynes
(
1930a , 14; and see 1930b , 235) to maintain that “the evolution of bank money in
the shape of bank notes [shows] the way towards representative money”.
Keynes’s concept that State liabilities − unlike private ones − could be trans-
formed into money without any problems, stems from his experience as civil servant
at the Treasury during World War I. To fi nance Britain’s war expenditures, so-called
“government-issued treasury notes” were declared legal tender. The Treasury could
deliver them to the Bank of England up to the amount of a book loan granted by the
Bank. The treasury notes sooner or later ended up in the hands of the commercial
banks which received the notes by discounting (not rediscounting) bills of exchange
approved by the Bank of England for this purpose. The resulting growth in the
supply of money, in combination with government spending, created cash surpluses
at the commercial banks which they used to purchase treasury bills, thereby fi lling
again the cash accounts of the Treasury. Until all treasury notes were replaced by
bills of exchange, approved by and in the possession of the Bank of England, the
Bank owned a reserve of treasury notes and, accordingly, the Treasury cash at
the Bank (Cunliffe Report
1918 , §§ 9–14).
Keynes (
1930a , 9) explicitly calls the State notes a “reserve” of the Bank of
England for its central bank money. “The State money held by the central bank
constitutes its ‘reserve’ against its deposits. These deposits we may term central
bank money .” This detour via the Bank of England, the exchange of State notes
against central bank money, Keynes regards as superfl uous. However, foregoing
central bank money, Keynes (
1930b , 201) considers unfeasible for reasons of prac-
ticality. He assumes that the Treasury, unlike the central bank, would have no way
of controlling the demand deposits of the commercial banks. This would lead to a
creation of bank money, like State money without restrictions, if the commercial
banks expanded their deposits in step. Under such circumstances, even the smallest
incident would show the inherent instability of the entire system, as individual
commercial banks, competing with each other, could oppose neither to an increase
nor a decrease in the quantity of bank money. An individual commercial bank would
only be able to do this if its competitors had to equal out their balances with money
they could not create themselves, central bank money.
7
Only these banknotes would
threaten those banks with a withdrawal of cash, which created deposits faster.
The existence of a “bank of banks” issuing this money would, furthermore, offer the
facility to even out an insuffi cient cash balance by the delivery of assets when
needed. The central bank also offers to act as a clearinghouse facilitating the easy
netting off of balances between banks (Keynes
1930a , 24 f.).
7
An idea of this kind pre-supposes the, however insuffi cient, assumption that commercial banks
would offer demand deposits or banknotes in loan agreements to the public, not against goods
securities but by purchasing unsecured debt titles. But if the ‘monetary authority’ issued banknotes
against good securities, this is impossible. Good securities cannot be provided by commercial
banks but by purchase in loan agreements, just as much as they cannot provide banknotes if they
do not sell good securities temporarily to the central bank.
648
H.-J. Stadermann and O. Steiger
After the end of the war, the opportunity to continue the issue of State notes
no longer existed. However, they remained in circulation until 1928. This allowed
Keynes to transfer his idea of money proper, derived from the debt title treasury
note, to interest-bearing loans of public authorities. The fact that the acquisition
of money by the Treasury was done within the same institutional framework,
even after the issue of treasury notes had ended, may have contributed to this
view. According to the Banking Act of 1948, the Chancellor of the Exchequer is
even until today not obliged to go directly to the open market, but will, in a fi rst
step, receive an advance in central bank money from the Bank of England and, in
return, hand over treasury bills. The Bank then decides whether to keep the quan-
tity of central bank money constant by selling the bills to the public or to increase
it by keeping them in their reserves. This has remained the modus operandi of the
Bank of England until our times. The Government, therefore, still has the option
to print money .
8
It used to be the practice that the Chancellor of the Exchequer would even deter-
mine the rate of interest for this transaction. Only in connection with the demands
for independence of central banks in the European Monetary Union, this practice
has been modifi ed in so far as the Monetary Policy Committee of the Bank of
England now determines the rate of interest. This at least provides the option of
fi nancing under market conditions, even though the Bank still has the right to deter-
mine the rate of interest in outright transactions.
After all, Keynes’s ideas of the creation of money lack solid underpinning. He
confuses debt titles, which creditors bring into circulation out of their funds of
claims, with titles offered directly on the market by debtors . Although all these titles
represent liabilities, only the creditor, not the debtor may use them as substitution
for payment in money proper. Contrary to Keynes’s opinion, a mere recognition of
a debt is not a substitute for money, but the opportunity to borrow money within a
credit contract for a specifi ed period of time.
8
See Begg et al., Economics ( 1984 ) , pp. 385 f.; emphasis added): “There are two ways in which
the PSBR [Public Sector Borrowing Requirement] can be fi nanced. First, the Government can
borrow from domestic residents. To do so, it sells fi nancial securities, government bills and bonds,
to domestic residents. How does this happen?
“
The
government sells securities to the Bank [of England] in exchange for the cash it needs to
meet its defi cit. In turn, the Bank undertakes an open market operation selling these securities on
the open market in exchange for cash. At the end of the process, domestic residents are holding
interest-bearing government securities but the money supply is unchanged. Through its defi cit
spending, the government has put back into the economy exactly the cash it withdrew from the
economy in selling securities in exchange for cash. And the Bank, through its sale of securities, has
replenished the cash it initially lent the government.
Second,
the government can fi nance the defi cit by printing money . Actually, it sells securities
to the Bank in exchange for cash, which is then used to meet the excess of spending over tax
revenue. The stock of government securities held by commercial banks or private citizens is unal-
tered but the monetary base has increased. The money supply will increase by a larger amount
because of the money multiplier”.
649
26 John Maynard Keynes and the Theory of the Monetary Economy
Theory of Central Banking
The weaknesses of Keynes’s monetary theory become apparent in his theory of
central banking, which he develops in book VII of the Treatise (1930b, 187–347).
There, he develops the idea that the central bank could control the reserves of
commercial banks to the extent to which it has control over its own assets. The aim
of controlling the reserves is to stabilise the economy’s net investments by regulating
the rate of interest. The central bank has the following assets at its disposal: (1) gold
and foreign currency, (2) investments in securities and (3) loans to commercial
banks. To Keynes, gold and foreign currencies only are of interest in connection
with safeguarding the parity of the domestic currency. Therefore, he alone focuses
on the two latter items. By buying and selling securities, i.e . transactions on the
open market, or, alternatively, variations in granting loans by discounting bills of
exchange at varying discount rates, the central bank has the opportunity to regulate
the quantity of central bank money in a way that would counterbalance disequilibria
within the economy as a whole. Such situations always occur if investment, I ,
differs from savings, S , or, in other words, the market rate of interest, i , and Wicksell’s
natural rate of interest, n , are unequal.
If I is lower than S , or i is greater than n , this means that speculators anticipate a
slump, which is characterised by a preference to hold “bank money” rather than
corporate bonds,
9
as it is expected that the bonds may later be purchased at a lower
price. The opposite situation, i.e . if I is greater than S or i lower than n , indicates a
boom in speculation. Holding corporate bonds is preferred to holding “bank money”,
as it is expected that bonds can later be sold at a higher price.
Out of the two scenarios, the following recommendation for the central bank’s
operations to bring the economy back to equilibrium can be derived: (1) by buying
securities and, consequently lowering the rate of interest, it can counterbalance a
slump in speculation and (2), conversely, by selling securities or increasing the
discount rate, it can slow down a boom in speculation.
Furthermore, debt titles issued by public authorities can be used by the central
bank to regulate the quantity of money. Keynes does not make a distinction between
titles the Bank purchased under market conditions and the Treasury notes it received
from the Chancellor of the Exchequer and then has to sell on the open market to
forestall an expansion of the quantity of central bank money.
At fi rst sight, the difference between the two ways of creating money seems to
be only a technical one. Equal results in monetary policy are imaginable under
both methods. However, institutional circumstances will lead to opposite results.
9
Keynes’s emphasis on the difference between holding bank money and holding corporate bonds
only becomes understandable when considering the British fi nancial system. Direct loans of banks
to private companies, so-called industrial loans , are only granted for investment in working
capital, i.e . wages, raw material, etc. Loans for investment in fi xed assets are not granted directly
by the banks, but are fi nanced by the asset owners on the markets for bonds and equities. That is
why they are called fi nancial loans . If they cannot debit their deposits at the banks, the proprietors
of these assets ask for bank loans, and will then purchase the titles from brokers.
650
H.-J. Stadermann and O. Steiger
The British system requires a strong government and a central bank policy
consequently focussing on the stability of its currency to achieve an equilibrium
rate of interest on the money market, which will encourage investors to risk their
assets at this rate as security for generating money. This will always be the case if
(1) assets are purchased that can be sold as readily as those assets which have to be
collateralized for the acquisition of money and (2) the nominal rate of interest,
which has to be paid for the acquisition of money, is suffi ciently compensated for
by the expected rate of return of the assets acquired. This means that whenever
assets are demanded as securities for refi nancing at the central bank, the problem
can arise that the supply of suitable securities to maintain the current circulation of
money will be insuffi cient. This will in any case occur if the asset proprietors
expect to only see, with the money they get for their good securities, investments
in nominal assets generating too small a return, because the assets and the capital
invested will be devalued dramatically by infl ation. In this case, the central bank
would, according to Keynes, still issue money, namely against titles which it needs
to keep in its portfolio because it bought them at its own risk and which it hopes to
sell at a later date on the market.
However, the sale of securities on the market is, in a non-interventionistic central
banking system, ensured by market forces, i.e . the interplay of rate of interest and
price of securities. Debt titles, carrying a rate of interest estimated to be too low by
the market, will receive a higher equilibrium return by a decline of the price at
which they are traded. Consequently, a suffi cient supply of money at the market is
not only ensured if the government is particularly stringent in its budgetary practices
and the central bank is particularly concerned with stability. It is mainly ensured, as
the creation of money is only based − besides the rate of interest − on good securities.
This rationale is unknown to Keynes, because he never focuses on good securities in
the relationship between commercial banks and the central bank as he defi nitely
does with respect to that between banks and non-banks. Obviously, he realises that
commercial banks always have to pay attention, not only to credible promises to pay
interest for their loans but also to suffi cient delivery of good securities. Thereby,
Keynes distinguishes between (direct) industrial loans for investment in working
capital and (indirect) fi nancial loans for investments in fi xed assets. Generally, the
securities provided for direct loans consist of the own capital of loan seeking corpo-
rations, usually their machinery. For indirect loans, the securities provided are the
good securities of asset proprietors who buy corporate bonds with bank loans.
Keynes’s discussion of securities, however, only aims to invalidate the prejudice
that fi nancial loans are more insecure for banks than industrial loans. The former
contain a speculative element and are not self-liquidating. Self-liquidation happens
when industrial loans are used as working capital for the production of commodities
(Keynes
1930b , 310–312).
10
1 0
Keynes ( 1931 , 150–158) gives an in-depth discussion of the meaning of securities in credit
contracts and the dangers that are linked with their devaluation.
651
26 John Maynard Keynes and the Theory of the Monetary Economy
Pursuant to Keynes’s ( 1930b , 243) opinion, the central bank is not led by the
profi t motive, but a public or monetary authority, guided by the interests of society.
“What the law − or, failing the law, the force of a binding conventions − should attend
to is the regulation of the reserves of the member banks, so as to ensure that the
decision as to the total volume of bank money outstanding shall be centralised in
the hands of a body whose duty it is to be guided by considerations of the general
social and economic advantage and not of pecuniary profi t.” Good securities, there-
fore, are of no interest to the central bank, as opposed to commercial banks.
Basically, its task is to purchase potentially high-risk debt titles of the government
to correct the outcome of the market caused by the profi t motive, in order to stabilise
the general price level or to refl ate output after a contraction (Keynes
1930a , 227).
Such ideas have always been met with enthusiastic applause from the audience who
hardly worried that intervention of this kind could, to paraphrase a parable by
Keynes, be one of those remedies that would cure the disease of unemployment by
killing the patient (Keynes
1936 , 323), the monetary economy. Keynes’s ideas seem
even stranger when it is considered that German monetary theory already at the
beginning of the twentieth century had developed convincing distinctions between
“paper money”, issued as State notes, and money proper, issued by credit banks.
Wilhelm Lexis (
1901 , 15), for instance, had clearly concluded that “paper notes”
issued by the state “exclusively serve the issuer … as a means of borrowing ”.
Therefore, they have to be distinguished from private securities, such as bills of
exchange, and are dramatically different from banknotes.
In his enthusiasm for the alleged victory of “bank money” over money proper
and the transformability of state debt titles into money proper, Keynes only insuffi -
ciently looks for an analysis of the conditions and operations of the central bank
within a monetary economy. His judgement about this institution, therefore, remains
contradictory. On the one hand, he assumes that commercial banks could infi nitely
increase the quantity of demand and time deposits, if they act in step and are not
bound by the restriction of adjusting balances with a kind of money they cannot
create themselves. On the other hand, he emphasises that the central bank can,
without restrictions, create money for the Chancellor of the Exchequer, because it is
not the central bank but he who decides in the end what has to be accepted as money
proper in loan contracts and economic transactions.
Keynes reaches the fi rst conclusion, because he does not ask the crucial question:
against what are those demand and time deposits generated? Had he noticed that
such deposits are generally only to be granted against good securities, he would
have also recognised that nobody in the banking system would pledge good securi-
ties for deposits if he could not realise them by investment or consumption activi-
ties, which would compensate for the loss of unrestricted disposal of his property.
Consequently, an infi nite expansion in the volume of demand and time deposits
certainly would not occur.
Keynes reaches his second verdict, because he overlooks that the restriction to
the expansion of private loans does not apply to the Chancellor of the Exchequer, if
he can always trigger the creation of new means of payment (representative money)
against his treasury bills. The loss of stability, which Keynes expects from a system
652
H.-J. Stadermann and O. Steiger
in which commercial banks are not controlled by the central bank, would arise
from the public sector which can fi nance itself at will with the help of the central
bank. Consequently, the central bank will decide either not to increase the monetary
basis as far as the public sector’s demand for money is expanded or it will do just
that. In the fi rst case, it would have to sell the treasury bills of the Chancellor of the
Exchequer as liquidity papers to the non-banks. By doing this, savings each time
will be withdrawn from private investments, and they will increase the stock of
State-issued bills. This would result in what Keynes (
1936 , 220 f. and 376 f.)
describes as nationalisation of investments in Chaps. 16 and 24 of his General
Theory : constantly increasing the inducement to invest by “State action… as a
balancing factor” to compensate for the decline of the private investor, i.e . “the
euthanasia of the rentier, of the functionless investor”. This would be a situation in
which the State would abolish exactly those market forces, which Keynes in his
supposedly revolutionary theory believed would be able to explain better than the
Classical School. In the second case, the central bank would have to accept a
collapse of the value of money. Infl ationary expectations would be on the rise, but
the rate of interest would at the same time decline due to the over-supply of money.
Instead of being channelled into public projects, investment would gravitate towards
securities in foreign currencies. This would be the case until, by rising exchange
rates and prices, demand and supply on the money market would allow for a rising
rate of interest which in the end, in accordance to the conditions created by fi nancial
and monetary policy, would be again at an equilibrium level and, thereby, counter-
balance the initially intended effects (see more detailed Stadermann
1996 , 141–148).
Theory of Interest and Employment
The weaknesses in Keynes’s theories of money and central banking continue to
reappear in his theory of employment in the General Theory . His analysis of the
links between employment, interest and money differs from that in the Treatise in
two aspects, the second being the result of the fi rst. While in his Treatise aggregate
output is regarded as constant, in the General Theory it is considered to be a
variable. Therefore, investment and savings are always equilibrated by a variation
in output, and they are not a result of changes in the rate of interest. This, in turn,
downgrades the (neoclassical) theory of the rate of interest to a “bootstrap” theory.
The rate of interest needs a new explanation.
In Chap. 13 of the General Theory , Keynes argues that the decision to accumu-
late savings out of a given income merely means a reduction of consumption. If this
is true, savings are not, as in the Classical School, brought into equilibrium with
investment by the rate of interest. Interest only matters when it comes to deciding
on how to hold the income saved. Savings could be held as “bank money”, as
fi xed-interest-bearing securities, or as direct investment in real capital assets. Only
when choosing between “bank money” and bonds, which Keynes considers as a
case of retaining vs. giving up money and, therefore, money’s liquidity premium , the
653
26 John Maynard Keynes and the Theory of the Monetary Economy
rate of interest could emerge. This assumption seems to be strange in two ways.
On the one hand, the existence of money is taken for granted (and therefore ignored)
when it comes to choosing between “bank money” and bonds, and also ignored is
the fact that the rate of interest already stems from the credit creation of money by
the central bank. Keynes confuses the opportunity to gain interest by giving up
money with an explanation of the rate of interest itself (see more detailed Heinsohn
und Steiger
1996 , 194–206; and see 2000a , 496).
11
On the other hand, it needs to be
considered that “bank money” per se already carries a rate of interest, even if simply
a lower one than that in the credit market. In actual fact, it would only be necessary
to consider a choice between hoarding of central bank money and interest-bearing
titles in general. The fact that Keynes uses the term “hoarding” seems to be evidence
for this. However, this contradicts his linking of holding money to speculation funds.
The latter consists of “bank money”, which is held by those who consider the level of
the current rate of interest on bonds as insuffi cient with respect to the uncertainty
of their future rate (Keynes
1936 , 208 f.). Whenever expectations are certain, this
explanation of the rate of interest is redundant, as demonstrated already by Marshall
(1908, 73; see more detailed Stadermann and Steiger
2001 , 278–280).
Keynes’s new theory of the rate of interest becomes a signifi cant part of his prin-
ciple of “ the effective demand ”, which, as the decisive determinant of output and
employment, he regards as the core of the General Theory (Keynes
1936 , 25). He
develops the principle in Chap. 3 as a counterpart to the law, which he like others
falsely accredits to Say and according to which any supply will create its own
demand, thereby insuring “that crises do not occur ” (Keynes
1933b , 125).
12
Keynes
gives the example of an individual producer who generates returns on the goods
market to cover his costs of production. He does this by increasing the employment
of his resources until marginal costs equal marginal returns, i.e . until he maximises
his profi ts. Keynes realises that the producer thereby generates income for the
factors of production, other producers and for himself.
He then transforms the individual producer’s choice-theoretical constellation to
one applicable for producers in the aggregate. For that purpose, Keynes develops an
aggregate supply function in which increasing employment, N , leads to a rise of the
11
Hajo Riese ( 2000 , § 39, 493) has tried to defend the liquidity premium theory of the rate of inter-
est by formulating the idea that in creating money the central bank produces “money as an asset”
and at the same time “foregoes the free disposal of its asset ‘money’”. However, he overlooks that
the central bank does not have the option at all, other than a proprietor of money, to hold the money
it created. Therefore, the central bank cannot forego its holding either. The notes that are returned
to the central bank are no longer money and, therefore, deleted from its books. Furthermore, Riese
does not recognise that in the process of creating money, assets are valued in money when
purchased by the central bank, but this valuation does not turn money into an asset. Look at
comments on Riese by Heinsohn and Steiger
2000b , § 10, 518, and Stadermann 2000 , § 8, 535.
12
Stadermann and Steiger ( 2001 , 134–140) have shown that a closer look at Say’s famous Chap.
15, “Of the demand or the market for products”, in his Treatise (1803, 132–140) reveals that “Say’s
law” does not contain remarks about crises, but in fact is a theory of stagnation or growth. Its
formulation as a theory of the impossibility of crises is due to David Ricardo in 1817 and James
Mill in 1821.
654
H.-J. Stadermann and O. Steiger
“aggregate supply price”, Z . This in turn leads to the equation Z =
j
( N ), where Z is
the price per output unit multiplied by the aggregate quantity of output. The prereq-
uisites necessary for this function are given by the assumption of fi xed nominal
wages and production techniques.
This assumption could, with some modifi cation, be made to conform to Say’s law
as formulated by Ricardo and James Mill. An increase in aggregate demand, stem-
ming from increased employment and income, which Keynes calls “aggregate demand
price”, D − meaning price per unit demanded multiplied by the aggregate quantity of
demand −, would lead to a softening or outward shift of the budget restriction of con-
sumers.
13
This, in turn, would trigger a right and upward move of the position of the
traditional aggregate demand function, N = f (D) , in proportion to the increase of
employment on the traditional aggregate supply function, N =
j
( Z ). This will con-
tinue until full employment, N
f
, is achieved (see Fig. 26.1 ).
N
f
N
D, Z
N=ϕ (Z)
N=f(D)
N=f(D‘)
N=f(D‘‘)
Fig. 26.1 Aggregate demand
function and aggregate
supply function modifi ed
by Say’s law
13
It has to be noticed that an individual demand curve, other than an individual supply curve, is
derived from a given income. Changes in income, therefore, lead to a move on the supply curve and
to a shift of the demand curve. For the meaning of this difference for the specifi cation of Keynes’s
aggregated demand and supply functions see Hagemann and Steiger
1988 , 27–32.
The
same applies to the aggregate demand curve, moving from top left to bottom right, N = f (D),
as seen in graph 1 , which pre-supposes that aggregate income has to remain constant. Only
under this condition, the statement of the aggregate demand curve, which may at fi rst sight seem
surprising, holds true that with increasing employment, N , the aggregate demand price, D, has to
fall or that N can only rise together with a declining D . If N , however, is rising, this can only mean
that in this particular D , made up by price level and quantity of demand, the price level has to
fall − admittedly by more than the quantity of demand is rising.
Basically,
N = f(D) does not say anything else than the aggregate demand curve, AD, in macro-
economic textbooks, namely, that when the price level, P, is falling, aggregate real income, Y, will
rise: Y = f(P). The only difference is that, instead of income, the nominal volume of money, M, has
to be held constant, as can be seen by the derivation of an AD -curve from an IS/LM -model with
variable P .
655
26 John Maynard Keynes and the Theory of the Monetary Economy
However, Keynes rejects any such possibility, as he believes that an automatic
adjustment of D to Z would lead to employment being indeterminate. Accordingly,
the economy would continue to remain in an instable equilibrium until full employ-
ment of resources is reached. As distinct from the accepted view of neoclassical
theory, Keynes considers full employment not to be the point of intersection between
the demand and supply curve in the traditional wage-labour diagram of the labour
market, but a condition under which aggregate supply of labour ceases to be elastic.
A constellation of this kind, however, ignores the true law of the relationship
between aggregate supply and aggregate demand, which is determined by effective
demand. The latter Keynes (
1936 , 25) defi nes as follows: “The value of D at the
point of the aggregate demand function, where it is intersected by the aggregate
supply function, will be called the effective demand .”
Effective demand, therefore, is the aggregate demand for consumption and
investment goods, D = f(N) , expected by producers at a special level of employment.
This expectation at the same time will limit the aggregate supply, Z=
j
(N), this
being the reverse of the explanation of employment in the traditional school. Keynes,
therefore, rejects the idea of a demand curve varying its position with and being
itself independent of income. Instead he defi nes an aggregate demand curve on its
own right, which appreciates the fact that an increased income, generated by an
increase in employment, will not automatically and totally be spent for consumption
or investment goods. Expenditure for consumption will rise with income, but
according to a “psychological law” only by an amount lower than the increase in
income meaning that the marginal propensity to consume, dC/dY , is smaller than 1
(one). This propensity will trigger the expected aggregate demand for consumption
goods, D
1
= c (N) , which in turn determines the shape of the total demand curve:
D = f(N) = D
1
(N) + D
2
(see Fig. 26.2 below).
The term D
2
, defi ned as D
2
= j (N) − c (N) , is the aggregate demand for invest-
ment goods expected by the producers. Here Keynes does not further elaborate on
investment, which he instead regards as exogenous. This allows him to determine
the shape of the aggregate demand curve by the aggregate demand function for
consumer goods. This, in turn, leads to the possibility to specify a clear point of
intersection between the aggregate demand and supply curves. This point deter-
mines a quantity of employment, N
u
, which can be lower than that of full employ-
ment, N
f
(see Fig. 26.2 below, upper section).
Keynes’s way of determining employment by effective demand has an inherent
weakness, which becomes apparent when looking at the shape of the aggregate
supply curve. This function shows over-proportional growth of aggregate supply
when employment increases. This means that the marginal productivity of labour
and, consequently, real wages, w/p, will decline with increasing employment (see
Fig.
26.2 , lower section). In Chap. 2 of the General Theory , Keynes ( 1936 , 17) does
not reject this apparent correlation between real wages and employment, which is at
the heart of neoclassical theory, but reverses the functional relationship of the two
terms: not the level of real wages determines the level of employment, but the level
of the latter is the determinant of the level of real wages.
656
H.-J. Stadermann and O. Steiger
However, pursuant to Keynes’s assumption of constant nominal wages, w, falling
real wages have to be the result of a rising price level, p. A rise in effective demand
by increasing employment can, therefore, only be achieved by selling money
illusion to labourers, and this will, in every case, lead to a decline in labour
productivity.
The success of recommendations based on this theory is also bound to further
conditions that Keynes does not elaborate on. In order to achieve an increase in the
price level and a decrease in labour productivity under the condition of constant
nominal wages, an increase in output needs to be lower than an increase in labour.
In his discussion of the fi nancing of public work programmes, Keynes assumes, not
surprisingly, as will be shown in Section “Employment Policy and the Financing of
the Central Bank” below, that a decrease in real wages by an increase in the price
level can be achieved without any problems by simply creating “new money”.
N
f
N
D, Z
Z =ϕ (N)
N
u
D
1
=χ (N)
D = f (N)
}D
2
= ϕ (N)-χ(N)
N
N
u
N
f
w/p= f(N)
w/p
Fig. 26.2 Aggregate demand
and supply curves according
to Keynes’s principle of
effective demand
657
26 John Maynard Keynes and the Theory of the Monetary Economy
The problem − with respect to the employment level − of an insuffi cient effective
demand could not arise in Keynes’s model, if the marginal propensity to consume is
equal to one or if the income not consumed, i.e . savings, is spent in total for invest-
ment purposes. In both cases, Say’s law (according to Ricardo’s und James Mill’s
interpretation) would be applicable. Keynes rejects the fi rst scenario because of a
propensity to consume smaller than one according to his “psychological law”. The
second scenario he rejects because he assumes that there are no market forces at
work which could automatically raise the level of investment required for full
employment. To Keynes, the problem of controlling the economy as a whole is,
therefore, one of controlling that part of effective demand, which will close the − with
rising income − widening gap between expected demand for consumption goods
and expected aggregate demand in a way that full employment can be achieved.
Keynes’s discussion of the relationship between aggregate supply and aggregate
demand shows three options to increase effective demand (see Fig.
26.2 above,
upper section): (1) moving the total supply curve, Z , to the right by lowering
nominal wages; (2) moving the consumption curve, D
1
, upwards by a redistribution
of income which will lead to a higher propensity to consume; and (3) shifting the
demand for investment function, D
2
, upwards. Keynes provides an in-depth discus-
sion about lowering money wages in Chap. 19.
14
He arrives at the conclusion that
this would be successful only if expected aggregate demand, D , would not be infl u-
enced by such a policy. Assuming this, however, would not be realistic, as a fall in
wages will trigger a fall in the price of goods which, as a consequence, would mean
defl ation. This, in turn, would have an adverse effect on the marginal effi ciency of
capital , which measures the prospective yield of an investment by discounting it to
the present. An increase in the marginal propensity to consume by redistribution of
income would take up too much time. The main issue, therefore, lies in determining
the expected aggregate demand for investment goods, complementary to consump-
tion. However, this will be diffi cult to master due to uncertainty of prospective
returns of capital assets, and as consumption is increasing at an under-proportional
level, investment would have to increase constantly in order to support full employ-
ment of resources.
The calculation for investment demand, as discussed in book IV of his General
Theory , is based on comparing the marginal effi ciency of capital with the current
rate of interest. The optimistic thought, therefore, that investment during slumps or
booms could be counterbalanced by central bank policy, i.e . by interest rate policy
as discussed in his Treatise no longer convince Keynes in the case of a slump, which
according to his General Theory would mean unemployment. A policy of easy
money does not lead to unlimited investment in corporate bonds. Consequently,
1 4
Keynes obviously does not propose the idea, which has often been formulated by left-wing
Keynesians to strengthen effective demand by an increase in money wages, as in his model this
would lead to a leftward shift of the Z -curve, with the result of a decrease in effective demand.
The only alternative would be an increase in wages, which would trigger an increase in D
1
or
D
2
, thereby over-compensating the increase in Z . This, however, is just what is not feasible in
his model.
658
H.-J. Stadermann and O. Steiger
there is no infl ux of money to producers for investment into fi xed capital assets. This
case in Chap. 15 is called a liquidity trap . Even those entrepreneurs whose marginal
effi ciency of capital is suffi ciently high in relation to the current rate of interest, will
not receive cash, as all additional money created by the central bank will be held as
“bank money” because of an expectation of rising rates of interest.
Another one of Keynes’s arguments against an optimistic view of the possibili-
ties of the central bank refers to his insight that the rate of interest would fall more
slowly than the marginal effi ciency of capital, as output increases. The reasons for
this argument, as developed in Chap. 17 of the General Theory , are the particular
characteristics of money. Money differs from goods insofar as its elasticities of
production and substitution are nearly equal to zero. The fi rst characteristic means
that an increased demand for money − as opposed to goods which are not
money − does not lead to its increased supply, because “labour cannot be turned on
at will by entrepreneurs to produce money in increasing quantities as its price rises
in terms of wage unit” (1936, 230). The second characteristic means that an increase
in the value of money in the case of defl ation does not trigger − as opposed to non-
money goods − a substitution of money by goods, which are now less expensive.
This means that an increase in the value of money will not stimulate a demand for
an alternative to money.
Keynes ’ s discussion of money as a good with peculiar characteristics completely
fails to recognise the importance of money as a means of guiding the production of
goods. To reach this goal, it is necessary that money is only brought into circulation
at the market rate of interest and against good securities, and not by arbitrary issue.
Furthermore, money cannot be substituted by another good, as it is the basis of
contracts in a monetary economy. Contracts, therefore, can only be satisfi ed by
money. But fi rst of all, the supposition of elasticity near zero fails practice in money
market. Indeed, “money production” seems to be inelastic for producers of com-
modities. But it is not inelastic at all for proprietors of assets which are refi nanciable
at the central bank. These owners are able to pledge their property as long as it is
free of liabilities. The proportion of property converted to money by creating
temporary liabilities against the banking sector depends on the rate of interest and
the marginal effi ciency of capital. A difference between both rates has to equal the
property premium at least.
15
If the property premium will not be realised in credit
market, owners of suitable assets are not inclined to use their property as collateral.
Keynes imagines that if commodity producing entrepreneurs are unable to
“produce” money instead of goods (in case of defl ation), then the market as a whole
will be unable to do it. As a result of this, he argues that it is a task of fi scal policy
to create increasing demand in the commodity market by printing money, as will be
shown in the following section.
15
The term “property premium” has been coined by Heinsohn and Steiger and is fundamental to
their property theory of interest and money. It means the immaterial yield arising from the potential
of property titles to be burdened and encumbered in a money loan; see Heinsohn and Steiger
1996 ,
15, 20–22, 91, 122 f, and 181 f.; and see
2000a , 484 and 499–501.
659
26 John Maynard Keynes and the Theory of the Monetary Economy
Employment Policy and the Financing of the Central Bank
In his discussion of the links between employment, the rate of interest and money,
Keynes moves away from the conditions that determine a monetary economy. His
economic-political recommendations, therefore, are inappropriate in this context.
According to his argumentation, a slump cannot be met by central bank policy
alone. Consequently, autonomous investments by the State should stabilise employ-
ment. In his economic-political publications prior to the publication of his General
Theory , in which he vehemently favours State investment programmes, he simply
remarks that they should be fi nanced by loans (Henderson and Keynes
1929 , 110;
Keynes
1933a , 341 f.).
16
In the General Theory itself, such programmes are not the central topic, although
the necessity of fi ghting unemployment keeps cropping up. In his notes on mercan-
tilism in Chap. 23, Keynes criticises the Classical School’s idea that the rate of
interest could, by market forces, be brought to a level that would give rise to the
investment necessary for full employment. “In truth the opposite holds good. It is
the policy of an autonomous rate of interest … and of a national investment
programme directed to an optimal level of employment which is twice blessed in
the sense that it helps ourselves and our neighbours at the same time.” (1936, 349).
There are practically no statements in literature on how Keynes in his General
Theory thought to fi nance his national employment programmes. This may have
had something to do with the fact that his followers were not convinced that their
master had thought of fi nancing it by a central bank. However, this was exactly what
Keynes had in mind. He openly talks about the government’s printing money (1936,
200). As far as it is known to us, only Victoria Chick (
1983 , 318 f. and 335, fn. 1)
has clearly revealed that Keynes indeed had in mind fi nancing State investment
programmes exclusively by central bank credit. However, she is also embarrassed to
call it “printing money” because this could be “misleading” and prefers, therefore,
the more harmless phrase “creating new money”: “Keynes … was very specifi c
about the source of fi nance for his ‘public works’: new money. … or newly-created
money.” However, as an adherent to the Post Keynesian State theory of money
Chick is convinced that “the essence of the matter is well captured enough by …the
phrase ‘printing money’.”
A quarter of a century before Keynes, in 1911, the opportunity to create new
money was the prerequisite for Joseph Schumpeter’s dynamic entrepreneur, who
creates new combinations of goods. Schumpeter, however, did not consider the
banking system as interplay of government, central bank and commercial banks; he
only focused on commercial banks that grant loans. Just like Keynes, he intends to
16
In Chap. 10 of the General Theory , in the famous Sect. 6 on burying and digging up banknotes
as means against unemployment, “the term [public]’loan expenditure’ … fi nanced by borrowing
from individuals” is mentioned in a footnote (Keynes
1936 , 128 f., fn. 1). Although Keynes recog-
nises that public loan expenditure “operates by increasing investment … and the propensity to
consume”, no analysis of its operation is given in the book; see further this section below.
660
H.-J. Stadermann and O. Steiger
prove that investments can be undertaken independently from prior savings.
The money required for purchasing the means of production necessary for the new
combinations does not come from savings, but from a creation of new money that is
different from the money required for fi nancing re-investments. “This [different]
method of obtaining money is the creation of purchasing power by banks. The form
it takes is immaterial. … It is always a question, not of transforming purchasing
power which already exists in someone’s possession, but of the creation of new
purchasing power out of nothing − out of nothing even if the credit contract by which
the new purchasing power is created is supported by securities which are not them-
selves circulating media − which is added to the existing circulation. And this is the
source from which new combinations are often fi nanced, and from which they
would have to be fi nanced always , if results of previous development did not actu-
ally exist at any moment” (Schumpeter
1926b , 72 f.; the fi rst three emphases added
by the authors, following the German original, Schumpeter
1926a , 108 f).
17
Contrary to Keynes’s theory, Schumpeter’s new money does not consist of
central banknotes, which commercial banks could not possibly create, but of so-
called “credit means of payment” like bank deposits and bank acceptances,
i.e . claims on money which − not unlike Keynes’s “bank money” − can also be
used just like cash in transactions with non-banks. However, Schumpeter only
reaches this conclusion because he − again not so unlike Keynes − makes a false
distinction between money proper and “book money” used in the banking sys-
tem. Schumpeter considers cash to be only coins, whereas he falsely regards ban-
knotes to be credit means of payments. Although a banknote is usually issued in
a loan contract, it must, however, not be confused with the loan itself, which is a
claim on banknotes.
At fi rst sight, there would not seem to be a problem with good securities, if
money is created this way. If a bank can create something that can be used just as
cash without any restriction, then it does not require securities; any claim against the
bank can be fulfi lled without diffi culties. A consequence of this would be that if
banks are not restricted by stocks of goods and ready cash when granting a loan,
they could indeed lend money infi nitely. Each improper use of loans for investment
and each consumption of loans could be “corrected” ex post by the banks. Schumpeter
sees that this is not really going to be possible and seeks reasons for the limitation of
credit expansion. He fi nds his explanation in the potential failure of entrepreneurs as
debtors to fulfi l their obligations to pay interest and to redeem their liabilities if their
innovations do not succeed. In this case, “the banker intervenes with purchasing
17
In the fi rst edition of his treatise, Schumpeter ( 1911 , 197) formulates this idea less fi ercely.
Instead of letting the new money to be created “out of nothing”, he assumes that “one could easily
say that the banker creates money”. Already in his fi rst book, Schumpeter (
1908 , 417 f.) reveals a
“ fi rst-rate ” interest in the fi gure of the banker, who “ creates money himself, e.g . by issuing
banknotes ”, without using his own property (or even that of his debtors). On Schumpeter’s verdict
that collateral, although of some advantage for a borrower, has nothing to do with the essentials of
a money loan see Heinsohn and Steiger
1996 , 241–257.
661
26 John Maynard Keynes and the Theory of the Monetary Economy
power drawn from the circular fl ow, for example with money saved by other people …
Hence the necessity of maintaining a reserve, which acts as a brake” (Schumpeter
1926b , 113).
18
In saying this, Schumpeter reveals a fundamental lack of understanding of the
accounting principles of banking. Obviously, value adjustments on bad loans of
the bank have to be made at the cost of the bank’s own capital. The bank would
immediately have to fi le for bankruptcy if its assets were already used up and if the
proprietors of the bank were unable to replace them. This also reveals that his
assumptions are incorrect about the necessity of a cash reserve as a substitute for
securities to be delivered by the entrepreneur as debtor or to be provided by the bank
as creditor in the form of own capital.
This problem cannot arise in Keynes’s theory. The government cannot come into
a situation of over-indebtedness, as it uses the central bank like a gold mine for
printing money, meaning that it can substitute the money proper it lacks by “repre-
sentative money” at any time.
Obviously, in the wake of Richard Kahn’s discussion of the multiplier, Keynes
(
1936 , 128 f., fn. 1) notices that public works could be fi nanced also by “borrowing
from individuals” where, however, a crowding-out of private investors by the rising
rate of interest would be impossible to prevent. This could not be counterbalanced
by a policy of easy money by the central bank alone, as Keynes concludes in Chap.
12 of General Theory . Instead he emphasises: “I expect the State … taking an even
greater responsibility for directly organising investment” (1936, 164). This method
of fi nancing for such activities does not bother, as he develops, in Chap. 10 of the
General Theory , the idea that in fi ghting unemployment any kind of State-sponsored
activity is better than doing nothing at all. This will be especially true, however,
because the State is not concerned with profi tability. Keynes illustrates this thought
with his well-known example of fi lling old bottles with banknotes and burying them
in disused coalmines with the intention of digging them up later on as a way to fi ght
unemployment, which “would be better than nothing” (1936, 129).
In Chap. 15, Keynes, then, only deals with what he feels is most important when
discussing “fi scal policy”,
19
the fi nancing of employment programmes. He con-
siders this to be an alternative to what he calls monetary policy − the lowering of the
rate of interest by the central bank. His train of thought can be sketched as follows:
fi nancing of public expenditure means an increase in the quantity of money, M ,
which in turn will trigger an increase in national income, Y . In order for income to
increase more than only temporarily, the greater quantity of money must not only
increase the cash amounts hold for transactions, M
1
, but also those hold for specula-
tion, M
2
. This will be the case because the recipients of the increased incomes will
not simply demand consumer goods, C , but will also invest in corporate securities
and, thereby, allowing entrepreneurs to demand capital goods, I . The purchase of
18
The German original is even less precise; see Schumpeter 1926a , 162.
19
As pointed out by Chick ( 1983 , 318), “Keynes spoke of ‘public works’; ‘Keynesians’ speak of
‘fi scal policy’”.
662
H.-J. Stadermann and O. Steiger
these assets will trigger a rise in their price, i.e . a decline in the market rate of
interest, r , which in turn will further increase I and Y . At the same time, the increase
in I will result in absorption of that part of the quantity of money not required for
transaction purposes, i.e. the speculation funds. A policy of more money, implying
lower rates of interest which lead to increased income, amounts to the same as a
policy of easy money, meaning lower rates of interest which lead to more money
and, thereby, to increased income.
The fact that Keynes approves of the nowadays frowned upon direct borrowing
by the government from the central bank,
20
which ultimately means fi nancing by the
printing press, seems so incredible that we feel it is necessary to quote Keynes
(
1936 , 200 f.; emphasis added) here in detail:
“The relations of changes of M to Y and r depend, in the fi rst instance, on the way in
which changes in M come about. Suppose that M consists of gold coins and that
changes in M can only result from increased returns to the activities of gold-miners
who belong to the economic system under examination. In this case changes in M
are, in the fi rst instance, directly associated with changes in Y , since the new gold
accrues as someone’s income. Exactly the same conditions hold if changes in M are
due to the Government printing money wherewith to meet its current [sic] expendi-
ture ; − in this case also the new money accrues as someone’s income. The new level
of income, however, will not continue suffi ciently high for the requirements of M
1
to
absorb the whole of the increase in M ; and some proportion of the money will seek
an outlet in buying securities or other assets until r is fallen so as to bring about an
increase in the magnitude of M
2
and at the same time to stimulate a rise in Y to such
an extent that the new money is absorbed either in M
2
or in the M
1
which corresponds
to the rise in Y caused by the fall in r . Thus at one remove this case comes to the same
thing as the alternative case, where the new money can only be issued in the fi rst
instance by a relaxation of the conditions of credit by the banking system, so as to
induce someone to sell the banks a debt or a bond in exchange for the new cash.”
“It will, therefore, be safe for us to take the letter case as typical. A change in M
can be assumed to operate by changing r , and a change in r will lead to a new
equilibrium partly by changing M
2
and partly by changing Y and therefore M
1
.
2 0
Most astonishingly, still today even leading central bank theorists like Willem H. Buiter, chief
economist of the European Bank for Reconstruction and Development and former member of
the Monetary Policy Committee of the Bank of England, do not understand that such a fi nancing
leads to a debtor’s money. In a recent paper, Buiter (
2004 , 45 f.; emphasis added) sees no differ-
ence in the effects between direct borrowing by the government from the central bank and in the
open market:
“Can the Central Bank implement a helicopter drop of money on its own? … In practise, Central
Banks do not act as fi scal agents of the state in this way. This means that Governor Mervin King
cannot send a £1,000 check, drawn on the Bank of England, to every household in the nation.
He needs Chancellor Gordon Brown’s help. Gordon Brown can implement the tax cut and borrow
from the Bank of England to fi nance it. In the Eurozone, direct borrowing by national Treasuries
from the ECB and the central banks of the ESCB [the European System of Central Banks] is not
permitted, but the same effect can be achieved by the Treasury borrowing in the market and the
Central Bank purchasing the same amount of Treasury debt in the secondary market.”
663
26 John Maynard Keynes and the Theory of the Monetary Economy
The division of the increment of cash between M
1
and M
2
in the new position of
equilibrium will depend on the responses of investment to a reduction in the rate
of interest and of income to an increase of investment. Since Y partly depends on r ,
it follows that a given change in M has to cause a suffi cient change in r for the resul-
tant changes in M
1
and M
2
respectively to add up to the given change in M .”
What is noticeable about this passage is that Keynes seems to know the correct
way of creating money, namely, selling assets and delivering collateral by commer-
cial banks to the central bank. However, his emphasis is not on the term assets , but
debts or bonds , i.e. liabilities. Clearly, an asset, nominal asset, is always a liability.
In creating money, however, the central bank is not interested in undertaking a trans-
action with the debtor of a title, but only with its creditor.
21
Obviously, Keynes does
not understand the distinction between a creditor’s and a debtor’s money . Therefore,
in his theory, the creation of central bank money through the purchase of assets from
commercial banks does not differ from the purchase of liabilities from the govern-
ment. The fi rst scenario seems to be nothing but the more widespread method of
creating money, which could easily be replaced by another, as “new money” in both
cases and, therefore, new income would be created. It is apparent how Keynes
focuses on technical processes but does not understand their meaning. Good securi-
ties as the basis of the creation of money by a central bank never occurred to him.
After all, in view of what we know from Keynes’s discussion of State debts and
money proper in general and from the practices of the Bank of England since 1948
in fi nancing State expenditures in particular, this statement is hardly surprising.
Furthermore, it is not surprising that nobody reproached Keynes for this, because
James Steuart’s principles of the creation of banknotes were buried in oblivion.
Apart from some interesting insights on the subject by Jean-Baptiste Say and Henry
Thornton (
1802 ; see more detailed Stadermann and Steiger 2001 , 179–184), no one
has discussed the meaning of good securities in the process of creation of creditor’s
money for ages.
As shown in Section “Theory of Money” of this paper, Keynes blurs the differ-
ence between State debt titles and money proper. He claims that public liabilities
could be converted without interference by the open market, just like private “bank
money”, into money proper by the Bank of England in the form of “representative
money”. In the same section, it was demonstrated how this is put into practice. It is
always the Chancellor of the Exchequer who approaches the Bank of England fi rst,
which then has the opportunity to sell − by agreement with the Treasury − the State
debt titles on the open market.
Keynes consequently defended such behaviour even after the publication of his
General Theory . In a memorandum of May 29, 1939 to the Chancellor of the
Exchequer, with a copy to the Governor of the Bank of England, Norman Montagu,
21
Therefore, in the credit issue of banknotes in modern central banking systems like the Eurosystem,
national central banks are forbidden to accept “as underlying assets debt instruments issued or
guaranteed by the counterparty [commercial bank], or by any other entity with which the counter-
party has close links” (ECB
2004 , 41 and 43).
664
H.-J. Stadermann and O. Steiger
he develops the idea that the State, like a private debtor, could undertake expenditures
prior to their fi nancing. This difference had not existed in times when coins were
the only currency. “But with modern representative money and a modern banking
system, we know that the necessary ‘fi nance’ can be created by a series of ‘book’
or ‘paper’ transactions. The Treasury can ‘pay’ in effect by ‘book’ entries and the
book entry can be transformed into a regular loan at a much later date” (Keynes
1939 , 540).
However, only half a year later − in his recommendations of November 1939
on How to Pay for the War − these ideas no longer appear. Keynes (
1940 , 367–439)
now recognises the danger of infl ation resulting from such fi nancing of government
activities, as was experienced during World War I. That is why he recommends,
instead of this fi nancing Britain’s war expenditures by compulsory savings, meaning
that all recipients of income would have to invest a certain amount in the State-
owned Post Bank.
Keynes as the Karl Marx of Neoclassical Economics
Keynes sees a policy of public employment programmes only as a relatively short-
term intermediate solution. As a long-term perspective, which he discusses in Chaps.
16 and 24 of his General Theory , he imagines a quasi stationary economy, in which
the marginal effi ciency of capital and the rate of interest are brought down to almost
zero. In such a state, no accumulation takes place, i.e . net investments are equal to
zero and, maintenance of the capital stock apart, the entire surplus is consumed. Not
unlike John Stuart Mill’s famous discussion of stagnation, an increase in welfare
could then only be achieved by non-economic processes. “Progress would result
only from changes in technique, taste, population and institutions.” (Keynes
1936 ,
220 f). But it is just these types of stimuli that neoclassical theory regards as crucial
for change, too; the only difference being that they are thought to be caused by
economic mechanisms.
However, more interesting than to compare Keynes with Mill is to confront him
with Karl Marx, who just like Keynes tried to overcome the orthodoxy of his time.
As we know, Marx’s critique of classical economics did not succeed. Instead, he
went so far as to insult “fi nancial” capitalists as “parasites”, which meant a fi erce
rejection of the rate of interest. In the end, Marx’s proposal to nationalise property,
which ultimately meant its abolishment, laid the foundation for the destruction of
the monetary economy (Stadermann and Steiger
2001 , 214 f.). Of course, Marx
never understood the connection between property, i.e . good securities, and money.
Instead, he developed the vision of an economy free from crises in which totally
unleashed productive forces would arise from the abolishment of private property.
Also Keynes could not signifi cantly weaken neoclassical economics with his
criticism, as he substituted an insuffi cient analysis of the monetary economy with a
theory that does not just omit the prerequisites of a monetary economy but also
endangers them, not very unlike Marx’s ideas. Just like Marx, Keynes furthermore
believed that technical progress would resolve all the economic problems of
665
26 John Maynard Keynes and the Theory of the Monetary Economy
mankind. Already prior to the Great Depression and, consequently, prior to his
General Theory , in his article on “Economic Possibilities for Our Grandchildren”
(Keynes
1928 ) he had wanted to prove that a farewell to economic problems is
possible. The supply of goods that is already available in abundance he, therefore,
reduces to a problem of administration. Marx probably did not have signifi cantly
different ideas when thinking about socialism. Keynes, therefore, can be called with
due right the Karl Marx of neoclassical economics.
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667JG B kh ( d) HdbkfhHi fE iTh h
A Short Outline of the Life of Sir James Steuart
James Steuart (1713–1780) was born in Edinburgh as the only son of Sir James
Steuart, Solicitor General of Scotland. After a 6-year journey to the Continent,
between 1735 and 1740, he became an advocate of the Jacobite Restoration, and
after the Stuart army lost the battle of Culloden in 1745 he had to leave the United
Kingdom. Shortly after returning to Scotland in 1763, he published his magnum
opus, An Inquiry into the Principles of Political Œconomy (Steuart
1767 ) . It is the
most comprehensive work on mercantilistic thought and one of the most important
books in economic literature. In more than 1,300 pages, it deals with topics of the
most various natures – from population, agriculture, trade and industry, to banking
and money, exchange rates and taxes.
In 1771, Steuart was fi nally pardoned for his role in the 1745 Jacobite Rebellion.
This allowed him to become an adviser to the East India Company. In 1773, he
inherited several estates on the condition that he added Denham to his name. This
explains why his entry in several dictionaries is as Denham, Sir James Steuart.
H.-J. Stadermann (*)
Berlin School of Economics and Law, Hochschule für Wirtschaft und Recht Berlin,
Badensche Straße 50–51 , 10825 Berlin , Germany
e-mail: [email protected]
Chapter 27
James Steuart and the Theory
of the Monetary Economy*
Hans-Joachim Stadermann and Otto Steiger
*Slightly revised and abridged version of Stadermann and Steiger 1999 ; and see 2001 , 45–86
Translation by Ariane Stadermann
668 H.-J. Stadermann and O. Steiger
The Place of Steuart in the History of Economic Thought
The monetary economy is a system of production of goods governed by a
controlled scarcity of money. As opposed to the picture drawn by the classical and
neoclassical theorists, monetary economy is not just the barter of goods or real
exchange in which the use of a special good called money is just a way of
simplifying the exchange. The central factor in budget restraint in the monetary
economy is a scarcity of money and not a scarcity of resources or goods. However,
the restraints are not – as will be demonstrated below – made up of a currency,
which is created out of the blue by means of debts by the central bank and kept
scarce by the interest rate, as Post Keynesian – for example, Wray
1998 – or
Monetary Keynesian’s
1
assert. A more convincing view is brought forward by the
perfector of mercantilism, James Steuart, who presents a surprisingly accurate
analysis of monetary economy.
James Steuart’s Inquiry was published 9 years prior to Adam Smith’s Wealth of
Nation. It is he who fi rst uses the term Political Economy in the title of an economic
publication, within the English-speaking world – a term which had been introduced
150 years previously by Antoyne de Montchrétien (
1616 ) . It can be argued that
Steuart, by using the term, wanted to dissociate himself from the mercantilist
project makers who had suggested one adventurous plan after the other to their
sovereigns.
Steuart, after all, is regarded to be the most signifi cant theorist of mercantilism
( Lippert 1901, 1104). However, as his work was published at a time when mercan-
tilism was being confronted with physiocracy, it did not get much attention from the
beginning, as it seemed to be a theory of the ancien regime . The victory of Adam
Smith contributed to the fact that most of Steuart’s work remained unknown.
2
This
undoubtedly includes his original ideas about banknotes. Whenever Steuart is
referred to, he is at best known as a population theorist, who anticipated the theory
of Thomas R. Malthus, or as a price theorist and discoverer of the numéraire.
In Eli F. Heckscher’s (
1931 ) classical study on mercantilism, Steuart is not
mentioned at all. The same applies to the signifi cant study of Thomas Guggenheim
(
1978 ) . In Valentin Fritz Wagner’s ( 1937 , 162, 169 and 273) famous treatise on the
history of the theories of credit, Steuart plays only a minor role. The same holds
true of Charles Rist’s (
1938 ) classical work about the history of monetary and
credit theory, a profound work that deals with the authorities of the eighteenth and
1
A modern German school of Keynesianism founded by Hajo Riese, Freie Universität Berlin; see
Riese (
2000 ) .
2
Not only the victory of Smith’s theory but also his method not to refer to Steuart’s treatise at all.
Smith knew Steuart’s treatise very well and was eager to reject the latter’s theory, as has been
revealed in a letter of 2 September 1772 by Smith to a member of the British parliament published
fi rst in
1972 : “I have the same opinion of Sir James Steuart’s Book that you have. Without once
mentioning it I fl atter myself, that every false principle in it, will meet with a clear and distinct
confutation of mine” (Smith 1972, 163).
669
27 James Steuart and the Theory of the Monetary Economy
nineteenth centuries, and in which Steuart is only mentioned briefl y and, in
addition, interpreted incorrectly. His suggestion of a monetary system of banknotes
based on solid collateral is inappropriately introduced as an idea of a “currency
without a specifi c basis” (1938, 336). More recently, he is regarded as the antici-
pator of the Keynes’s theory of effective demand (Vickers
1959 , 268; and Eltis
1987
, IV, 496). Even in the extensive comments on the occasion of publication of
the facsimile edition of his work of 1767, the following perplexing statement can
be found: “Steuart’s interesting points of view about banknotes, credit and banking
can unfortunately not be discussed in detail here” (Schefold
1993 , 11).
In the following sections, these “interesting points” shall, as far as to our knowl-
edge for the fi rst time, be analysed in detail. In the third section, we will examine
how Steuart views the transition from the feudal system to the monetary economy.
The fourth section discusses the core of Steuart’s theory of the monetary economy,
the connection between money of account, money proper and good securities. The
fi fth section examines Steuart’s conditions for keeping banknotes in circulation.
In the sixth section, we look at the question of why, whenever Steuart was examined
so far, his revolutionary views of monetary theory were not recognised. In the last
section, Steuart is discussed as a precursor of Walter Bagehot.
The Change from Scarcity and Lack of Freedom
to Wealth and Liberty
For his thoughts on monetary theory, Steuart starts to focus on the analysis of popula-
tion and agriculture as basis of a free nation’s economy. By so doing, he intends to
show how the break-up of feudal governments leads to the freedom of citizens, which
in turn leads to the development of trade and industries, and ultimately to credit and
wealth, the counterparts of which are debts and taxes. It is important to note that this
development leads Steuart to establish a whole new system of economics. Unlike all
his contemporaries, he understands how the feudal system was based on imposing
force on unfree workers while the new one gives incentives for workers to show
entrepreneurship and creates demand based on needs for new goods. In former times,
people were “forced to labour because they were slaves of others, men are now forced
to labour because of their own wants” (Steuart
1767 , I, 40).
Labour is performed in all systems of production; it can be forcibly done, but
real industriousness develops only under the conditions of freedom. Ingenuity and
a lack of freedom cannot be reconciled. “INDUSTRY is the application to
ingenious labour in a free man, in order to procure, by the means of trade, an
equivalent, fi t for the supplying every want ” (Steuart
1767 , I, 166) . Steuart uses
his population theory to explain the transition from the feudal system to an econ-
omy of free citizens.
He regards the possessors of land in a feudal system as heavily restricted in their
actions. “Formerly a gentleman who enjoyed a bit of land knew not what it
was to have any demand made upon him, but in virtue of obligations by himself
670 H.-J. Stadermann and O. Steiger
contracted. He disposed of the fruits of the earth, and of the labour of his servants
or vassals, as he thought fi t. … The only impositions commonly known to affect
landed men were made in consequence of a contract of subordination, feudal or
other, which had certain limitations; and the impositions were appropriated for
certain purposes” (Steuart
1767 , I, 13). In these societies, production supplied the
goods for self-consumption and for barter, which Steuart describes as “trade in its
simplest form.” In the original state of feudal society, the amount of agricultural
produce would put a limit on the population. This limitation can be lifted by labour,
which consciously aims to increase the agricultural produce. However, this surplus
does not increase wealth per capita , as the increased production leads to a rise in
population. An increase in wealth is only possible if the labour of the rural popula-
tion, which is aimed at increasing crops, produces a surplus, which in turn could
feed free workers who would devote their time to fostering crafts and manufacto-
ries in villages and towns. Industry is the mean which rids the countryside of
unnecessary consumers of foodstuffs and creates goods that satisfy new needs and
also lay a foundation for trade between countryside and town. While in its original
state, barter only means the exchange of simple goods and does not necessitate
money, the industrial production, achieved through trade, is dependent on money
and credit from its very beginning.
The model developed by Steuart on the transition from barter to trade is essen-
tially different from the one that is proposed by the classical and neoclassical theo-
rists even up to modern times. His model deals not about an inherent inclination in
human beings towards advantageous exchanges of goods. There is no problem if
the number of exchange partners increases, only the barter model runs into diffi -
culties (transaction costs), since it ultimately makes the partners use a means of
exchange, a special good called money. Steuart does not introduce credit as a loan
of saved consumption goods. “The most simple of all trade, is that which is carried
on by bartering the necessary articles of subsistence. If we suppose the earth free
to the fi rst possessor this person who cultivates it will fi rst draw from it his food,
and the surplus will be the object of barter: he will give this in exchange to any one
who will supply his other wants” (Steuart
1767 , I, 175). That barter develops as a
means of combating shortages and overcoming scarcity is to Steuart equivalent to
the “conveniences of a simple life”. He distinguishes it from the consumer’s
demand, which develops according to the products created by the industries, which
Steuart calls “luxuries”. He makes a clear distinction between consumption of
simple material reproduction and consumption, which goes beyond this, namely
of goods, which were created by the ingenious work of craftsmen. As long as
scarcity can be averted by mutual barter, there is no need at all for money, and
money will, should it exist, be stashed away in a chest. Although he does not
explicitly say so, he does think that the clinking coin, stashed away, is something
quite different to the money in trade and industry. While the former is only a left-
over of past times, he cannot imagine the latter without credit.
A consequence of this credit-based money is “that the free hands of the state, who
before stopped working, because all their wants were provided for, having this new
671
27 James Steuart and the Theory of the Monetary Economy
object of ambition before their eyes, endeavour, by refi nements upon their labour, to
remove the smaller inconveniences which result from a simplicity of manners. People,
I shall suppose, who formerly knew but one sort of cloathing for all seasons, willingly
part with a little money to procure for themselves different sorts of apparel properly
adapted to summer and winter, which the ingenuity of manufacturers in their desire of
getting money may have suggested to their invention” (Steuart 1767 , I, 178).
In this transition process from production of basic needs to trade and industry,
Steuart sees the merchant as playing a central role. He is primarily the one who, in
place of those coins uselessly lying around, supplies the money through credit for
those who wish to trade and produce. He is a representative of the producers to the
consumers and of the consumers to the producers. He combines in one person all
those functions, which, in modern economic theory, are attributed to the market as
the location for the exchange of goods. Therefore, his role is not limited to mediat-
ing between acting producers and reacting consumers – as in classical theory – or
between acting consumers and reacting producers – as in neoclassical economics.
The merchant as the central person in the mercantile system has consequently van-
ished from barter-oriented classical and neoclassical theory. The loss of this agent
has a greater meaning than may be apparent at fi rst sight. It cannot simply be
replaced by Adam Smith’s invisible hand or Leon Walras’ auctioneer. Both these
auxiliary constructions exclude a meaningful use of money, let alone give it a foun-
dation. However, Steuart’s merchant has the function of spreading the wealth of the
well-off by creating money for the industrious.
The merchant as mediator between producers and consumers is also the one who
determines the value of goods. Steuart makes a distinction here between two com-
ponents in the price of goods, the so-called real value of the good and the profi t at
the time of sale. The real value is determined by the merchant who estimates the
value of the following three components: fi rst, the productivity of work, secondly
the necessary maintenance of the producer, and thirdly the value of the raw materi-
als used in producing this good. In general, the price cannot fall below this real
value. If the price is above this value, it indicates a profi t. While the consumers limit
the profi t by their demand, the producers avoid a loss by not selling their products
to the merchants below their production costs. The latter are interested in a “moder-
ate” profi t, as this leads to the greatest demand
3
possible, which in turn has the
advantage of enabling a large supply of goods, with the ability to cover the costs.
What at fi rst sight looks exactly like Adam Smith’s price theory – determination of
price by adding a profi t rate to the costs – turns out to be something quite different.
While in Smith’s theory, the potential demand is limited by production, Steuart
shows that demand is independent of production.
3
Steuart ( 1767 , I, 172–175 and 181–183) distinguishes between a “large” demand in terms of
quantities, which enables a large supply, and a “high” demand in terms of prices, which indicates
a demand greater than the supply. In modern theory, the fi rst constellation is a buyer’s and the
second a seller’s market.
672 H.-J. Stadermann and O. Steiger
This view stems from his discussion of the “demand and supply equilibrium” (Steuart
1767 , I, 205 f. and 216–225),
4
where he makes the distinction between a “complete” and
an “incomplete” equilibrium. A complete equilibrium is defi ned as competition on the
demand side being almost equalled by competition on the supply side. Based on
“double-sided competition”, this equilibrium can fl uctuate only within certain limits.
It can be disturbed in two ways: (1) demand increases in relation to supply and (2)
supply increases in relation to demand. Both cases lead to an incomplete equilibrium.
Steuart calls these disturbances of the equilibrium one-sided competition, that
means, competition that only exists amongst the suppliers or the demanders. In case
of surplus supply, the suppliers cannot sell their entire production at the planned
profi t. The production will either be reduced or they will try to get rid of their excess
production by lowering prices. Even in this case, the incomplete equilibrium will
continue to exist because on the one hand the consumers will benefi t from the lower
prices, while on the other the producers will incur a loss. The decline in prices will
lead to the sale of all goods produced. However, it will ultimately trigger a decrease
in production, without which covering the costs and gaining a moderate profi t
margin will not be feasible. What we have here is an equilibrium with unemploy-
ment . Steuart calls this equilibrium incomplete because not all offers can effectively
be realised. Nowadays, we would call this state a stable equilibrium, as the rate of
interest – unlike neoclassical theory – will not harmonise the constellation.
The case of surplus demand will trigger competition amongst those who demand,
with no competition at the same time amongst the suppliers. Now profi ts are gener-
ated through increases in prices, the profi ts will be temporary only as they lead to an
increase in the real value, that means, the costs. To put it in Steuart’s words, “these
profi ts become … virtually consolidated with the real value of this merchandize”
(1767, I, 221 f.). This is an incomplete equilibrium, because increasing profi ts are
consolidated with increasing costs. Steuart’s analysis clearly shows how sceptical
he would have been towards Keynes’s suggestion that an increase in demand would
stimulate an increase in output and employment. The great demand he talks about
can only be achieved by stimulating trade, in order to improve the conditions for
credit against good security.
Money of Account, Money Proper and Good Security
What does Steuart mean by fostering trade? He discusses the opportunity to achieve
the following two aims:
“1. To promote the ease and happiness of higher classes, in making their wealth subservient
to their wants and inclinations.
4
It is an equilibrium of demand and supply and not of supply and demand, because of the
independency of demand. Steuart uses the term work synonymously to supply. In his model of
the supplier, the producer is a workman. The workman is an independent producer of goods
and not – like in classical theory – a wage labourer.
673
27 James Steuart and the Theory of the Monetary Economy
“2. To promote the ease and happiness of the lower classes by turning their natural faculties
to an infallible means of relieving their necessities.
“This communicates the idea of a free society; because it implies the circulation of a real
equivalent for every service; to aquire which mankind submit with pleasure to the hardest
labour” (Steuart
1767 , I, 302).
The “real equivalent” in this process is money. At fi rst, Steuart considers money
to be what still in today’s theory is described as numéraire and for the recognition
of which Joseph Schumpeter (1954, 296 f.) has praised him. “By MONEY,
I understand any commodity, which purely in itself is of no material use to man …,
but which acquires such as an estimation from his opinion of it as to become the
universal measure of what is called value, and an adequate equivalent for any
thing alienable ”(Steuart
1767 , I, 32). However, Steuart does not further pursue
this defi nition of association of the term “money” to a standard good in his later
discussion, a point for which Schumpeter (
1954 , 296 f.) has criticised him. Quite
to the contrary to that and the opinions of his fellow scholars, Steuart mainly
understands money to be a money of account . He generally sees a distinction there
between the coins, the intrinsic value of which is supposed to be caused by the
value of the precious metal of which they are made, and money of account.
“Money, which I call of account, is no more than any arbitrary scale of equal
parts, invented for measuring the respective value of things vendible (Steuart
1767 , I, 526).”
5
Steuart associates the use of money of account with commodities,
not as Keynes (
1930 , 3) later would, as primarily measure for credit and sales
contracts. However, Steuart introduces money of account as an abstract measure,
and not as a unit of account like Keynes’s (
1936 , 41–45) wage unit linked to a real
phenomenon, the price of which acts as the norm for all goods. This is particularly
true in the case of precious metals, the value of which measured in money of
account can be subject to daily fl uctuations.
Which money proper corresponds, in Steuart’s theory, to the money of account?
It is both coins and banknotes; however, he makes a clear distinction between the
monetary characters of the two. Coins made of metal are the means of payment for
people who are not creditworthy, as had already been emphasised by the French
mercantilist Pierre Boisguilbert (
1704 , 235).
6
They are an anachronism from feudal
society. Money proper, which Steuart actually is interested in, exists as banknotes
that facilitate payments between creditworthy proprietors. “A bank note is an
obligation. When I pay with a bank note, I do no more than to substitute the credit
of the Bank in the place of my own, in favour of the man to whom I give it.” Here
Steuart (
1772 , 7) makes the distinction between payments in coin and payments in
5
For the fi rst time, Steuart uses the expression money of accompt in a treatise on the principles of
money published six years earlier (Steuart
1761 , 175). Money of account here refers to coins only
and not to paper money.
6
“Only the poor are in need of the security of bullion money [coins]. As the other people get wealthier
by their industry, they use bills of exchange instead of coined money” (our translation of the German
translation). The quotation reveals that Boisguilbert still had no idea that coins can be substituted by
another money: banknotes. “Bills of exchange” are not money but a claim on money.
674 H.-J. Stadermann and O. Steiger
banknotes very clear: “When I pay in coin, I put the person in possession of the real
value of what I owe him. After this payment, he has no claim on me, or on any other
person whatever.” However, from this distinction one must not conclude that Steuart
makes the mistake which was common until the end of the gold standard where
coins were regarded as the actual money that is only substituted by banknotes.
He emphasises that the credit arrangements, which arise from the banknote, do not
cease to exist by using this note for further payments. So the only addition that
might be made is that he never explicitly mentions that money, if it circulates in the
form of precious metal coins, was never introduced into the economy by means of
a credit arrangement.
Here Steuart follows up on the ideas on the origins of money of earlier mercan-
tilists, which can be described as pawn or pledge theory of money. Arthur Monroe
(
1923 , 82 f.) states it in the following terms: “ ‘The fi rst use of money’, says [Rice]
Vaughan, ‘was as a pledge; for, since one of the parties to an exchange was often
unable to repay the other exactly, the corruption of man’s nature soon gave rise of
the use of pledges, in order to put exchanges on a more secure basis’. The same
idea appears later in [John] Locke and [John] Asgill. The latter goes on to say that
at fi rst, man used as pledges ‘particular tokens between one man and another’, till
by degree silver and gold, having acquired a value for other uses, became the
common pledge of the world”. This thought about the origin of coins can be found
with many mercantilists, especially Richard Cantillon. The latter explains why the
use of money stems from the previous use of precious metals, especially gold and
silver: “As this metal was esteemed at its cost value, at least, if few people who
possessed some of it, fi nding themselves in need, could pawn it to borrow the
things they wanted, and even to sell it later outright. Thence arose a custom of
fi xing its value in proportion to its quantity or weight as against all products and
merchandise” (Cantillon
1755 , 103).
For these mercantilists, a relation existed between the credit agreements, the
security needed for it and money in the form of precious metal coins. Any different
view of money seemed strange to them. The fact that Steuart makes a distinction
between creditworthy and non-creditworthy people allows him to overcome the
fi xation on the origin of money from precious metals and instead to elaborate on
money’s credit origins. Neither gold nor silver is money, but the note issued by the
merchant for good security. The merchant has a fund from his own wealth and later,
as a banker, he also has access rights to the assets of non-banks which seek credit
from him. Therefore, it is to be the fi rst and fundamental rule that notes have to be
issued against the best assets. For this process, Steuart creates the metaphor of con-
verting land into paper money .
The thought behind this metaphor is also a central one in Gunnar Heinsohn and
Otto Steiger’s (
1996 , 221–307; and see 2000 [2003]) property theory of interest and
money. Steuart anticipates their theory in the example of a proprietor, A , who would
like to consume the goods of a producer, B , but lacks the coins to pay for them.
A solves this problem by issuing a promissory note in the amount of the goods he
would like to purchase, secured by his property and gives it to B . B , for his part,
receives rights for a parcel of A’s property. The advantage of this operation is that
675
27 James Steuart and the Theory of the Monetary Economy
B is given the opportunity to produce, while A still has use of his property. This
means that to Steuart investing is possible without previous saving – as against to
the opposite conviction in the later classical and neoclassical theories.
“Which operation being over, the land and the industry remained as before, ready
to produce anew. Here, then is the effect of credit or symbolic money; and here
I ask, whether or not the notes of hand given by (A) to (B), do not contain as real a
value, as if he had given gold or silver?” (Steuart
1767 , I, 365) We will see that to
Steuart’s mind, this operation is not achievable without a promise by the borrower,
A , to pay interest to a further lender, C , the bank, who gives banknotes to A (which
the bank issued itself) so A can pay B .
Banknotes presume the existence of a bank, which is not primarily, as to a
classical theorist’s mind, a savings bank. The latter issues receipts after coins have
been deposited, which are believed to have circulated as actual banknotes. The
example that is always quoted in the literature for this case is the goldsmiths who
did not just issue these receipts for coins deposited but also for gold bars. This
option is not unknown to Steuart, but his focus is on credit banks that create or issue
new money and which make the existing money circulate more effi ciently. Steuart
sees this bank – in accordance with economic reality – as a union of proprietors
(at his time these were usually merchants) in an association. On the basis of a
banking contract, which under certain circumstances may require governmental
approval, the bank proprietors have to establish confi dence with the public. To get
this, they form a stock which may consist of various species of property. Then “they
grant credits, or cash accompts upon good security; concerning which they make
the proper regulations. In proportion to the notes issued in consequence of those
credits, they provide a sum of coins, such as they judge to be suffi cient to answer
such notes as shall return upon them for payment” (Steuart
1767 , II, 150).
The bank will only issue banknotes to debtors if it is able to gain the trust of the
public in three ways. It has to win the trust of investors who are willing to deposit
precious metals at the bank against demand deposits or its banknotes. Furthermore,
the bank has to win the trust of those who, by selling goods and services, become
proprietors of its notes, so that redemption of banknotes does not erode its own
capital or equity, its stock of bullion coins. However, most of all it needs to fi nd
proprietors who are willing to mortgage their good security for banknotes issued by
the bank in a credit contract and to pay interest on them.
7
It is that security and not
the deposits of the proprietors of the bank that are crucial for the issue of banknotes.
“When paper is issued for no value received, the security of such paper stands alone
upon the original capital of the bank, whereas when it is issued for value received,
that value is the security on which it immediately stands, and the bank stock is
properly speaking, only subsidiary” (Steuart
1767 , II, 151).
7
A bank which does not enjoy the confi dence of the debtors does not get any good securities
transferred. The debtor must fear a withdrawal of the pledges – which are the assets of the bank – in
case of bankruptcy. Enforcement threatens him even in the case he has fulfi lled his duties as debtor
vis-à-vis the bank.
676 H.-J. Stadermann and O. Steiger
Steuart understands that the consumers of luxury goods fi rst of all are coming
from the class of landed proprietors and, therefore, he recommends the banks to
issue bank notes secured by property of land.
“When a proprietor of lands gives his bond to a bank, it should be understood,
that as long as he regularly pays the interest of the money borrowed, the bank is not
to demand the capital.”
“For this bond they give notes, which are considered as ready money, and
therefore carry no interest. So the profi t of the bank is to receive interest for what
they lend, and to pay none for what they owe.”
“What they owe is the paper they issue. They owe this to the public; and the
security which the public has, is the security which the bank received from the
person who borrowed from them.”
“Hence the solidity of banks upon mortgage. Their notes become money, and the
whole property engaged to them.”
“But as the stock of the bank is of determinate value, and as the notes they issue
may very far exceed it, the credit of a bank will be precarious, unless the value of
the securities upon which they lend, be equal to all the notes in circulation. It will
also be precarious in proportion as the securities themselves are so. Hence the
interest the public has to take care that banks give credit upon nothing but the best
security” (Steuart
1767 , II, 603).
But what happens if the banks forgo to ask for good securities from their debtors
or pay their own bills with their own notes? In this case, they would actually be
liable with their own capital. Steuart points out that the bank’s own capital is only a
subsidiary form of security. What makes banknotes safe is the trustworthy pawns of
the debtors. Steuart claims that most people do not understand that banks can be
short of money, because they own some form of a money-generating mechanism
that requires no more than some “paper and ink to create millions”. However, if one
follows the principles of banking, one will see that an issue of banknotes that is not
backed by securities results in a decrease of its own capital or its profi ts as it puts a
debenture into circulation. “I have dwelt the longer upon this circumstance, because
many, who are unacquainted with the nature of banks, have a diffi culty to compre-
hend how they should ever be at a loss for money, as they have a mint of their own,
which requires nothing but paper and ink to create millions. But if they consider the
principles of banking, they will fi nd that every note issued for value consumed, in
place of value received and preserved, is neither more or less, than a partial spend-
ing either of their capital, or profi ts on the bank” (Steuart
1767 , II, 151 f.).
Steuart states a principle which should also be applied to modern central banks.
However, it is often the case that the notes issuing banks neglect this very rule and
issue money backed by the purchase of worthless materials or collaterals. The result
is easy to be seen: not only do they incur a loss of own capital and profi t, they also
weaken their currencies in relation to others. In history, the user of those currencies
always paid for such behaviour in a decline in welfare.
Therefore, own capital is an important factor for banks. However, if the principle
of good security is taken into consideration, own capital becomes secondary.
Generally, banknotes that are issued on the basis of good security from the bank’s
677
27 James Steuart and the Theory of the Monetary Economy
debtors can be kept in circulation without causing the bank any problems – as long
as there is suffi cient belief in the quality of these securities. As soon as the bank
cannot rely on this unconditionally, it needs to keep suffi cient own capital in liquid
form in order to comply with any wishes to redeem the notes at any time. It is
obvious that gold and silver coins, and not parcels of property of land, are the best
suited assets to be held as own capital of the bank to secure its granting of credit.
The same principle that applies to individual buyers also applies to banks: only a
bank that has a questionable ability to redeem its notes into adequate assets actually
has to keep bullion coins, and therefore, to redeem with the money of those who are
not creditworthy. A bank that is undoubtedly going to have good security will, in
turn, always be able to settle all of its liabilities with its own notes. Steuart considers
this also to be true for transactions with foreign banks. A negative balance of
payments is not corrected by specie fl ow but by drawing exchange bills on corre-
sponding banks at the foreign place, if credit is beyond doubt (1767, II, 346 f.).
However, a nation whose banks have made doubtful security the basis of their
notes–issue will never realise this. It will be forced to transfer precious metals, that
means, the money of those who have no credit.
Preconditions for the Ability for a Banknote to Circulate
Steuart ( 1767 , I, 131 f.), furthermore, discusses the obvious question why bank
debtors who own the best securities do not, as suggested above, issue notes them-
selves, backed by their own security, and then bring them into circulation. Could
they not avoid the payment of interest considering that they give the same amount
to the bank with their liabilities that they received in banknotes?
This question refers to John Law’s famous suggestion to the Scottish Parliament
to turn land into paper money in order to overcome the scarcity of silver currency
and to get rid of its instability. A committee of the parliament was supposed to be
authorised to issue notes at market value for land. Law considered three possibilities
for this: (1) The issue of notes shall be done by the committee backed by the land as
security. This should happen without actually transferring the legal rights to the land
and shall be limited to one half or two thirds of its value. However, the value of the
land itself is not further determined. (2) The notes shall be issued on a basis of a
transfer of property of land at its full value to the committee. The value being calcu-
lated on the basis of twenty annual instalments computed in silver currency. In this
scenario, the seller keeps the option of buying back his property. (3) There shall be
the opportunity to issue notes at the price of the property as determined in case (2),
but without the option to buy it back (Law
1705 , especially 82 f.).
All three scenarios aim at providing money backed by security to an extent that
corresponds to the aggregate demand in the economy. However, Law does not con-
sider that – as the bank’s own capital is made up of land and not of gold and silver –
the bank can only redeem land, which confl icts with the guaranteed buy-back option
the initial proprietors are granted. Furthermore, he does not consider that both the
678 H.-J. Stadermann and O. Steiger
sellers of property and the creditors receive banknotes . This contradicts the rules of
banking, as the proprietors of the bank’s own capital do not receive money from or
credit in the bank but a tradable claim against the bank which, however, is non-
redeemable. What kind of security would that be if the providers of the bank’s own
capital can have their shares paid out if needed? Although the volume of the issue is
limited by the parliament, the demand for money as a matter of principle is still to
be fulfi lled by the bank because otherwise – as Law fears – the nation would incur
a loss of profi table employment opportunities.
Law’s suggestion actually only simulates a refi nancing of securities, as it is com-
mon practice in banking. Instead of linking a sum of money to property, which
could be regulated by the market, he just aims at fi xing the maximum issuance. For
this purpose, however, he would not need property at all. Every randomly made
limitation would have the same effect. Law also fails to notice that not the fi nite
nature of the money supply is the essence of the monetary economy but rather the
regulation of this supply by the market.
Obviously, Law does not only focus on a political committee as monetary author-
ity that, by purchase and mortgaging of land which becomes its capital, issues paper
money at the going market rate of interest. He rather wants to provide a seemingly
serious justifi cation for the possibility to enlarge credit in principle. But why take
this complicated and dangerous detour of doubling the note issuance through a bank
called committee? Would it not be simpler for the landed proprietor to issue paper
money himself and, thereby, avoid the doubling that might endanger his property?
This takes us back to the question put forward by Steuart.
In contrast to Law, Steuart shows that the self-issuing of notes is dangerous for
another reason. He points out that the notes issued by the bank, but not the property
owner’s liabilities, can be kept in circulation. Here Steuart develops an explanation
of the rate of interest, which in parts anticipates Heinsohn’s and Steiger’s property
theory of the rate of interest. According to this theory, debtors are willing to pay
interest on money they borrowed although they already mortgaged good securities.
The debtor, however, wants to continue making use of his securities and, therefore,
he needs to avoid that someone makes claims on them although he fulfi ls his con-
tractual obligations. Steuart expresses this as follows: “And for what does he [the
debtor] pay that interest? Not that he has gratuitously received any value from the
bank; because in his obligation he has given a full equivalent for the notes, but
the obligation carries interest and the notes carry none. Why? Because the one
circulates like money the other does not. For this advantage , therefore, of circula-
tion , not for any additional value, does the landed man pay interest” (Steuart
1767 ,
II, 131 f.; emphases added).
This should be examined in more depth, as it not only gives an explanation of
the rate of interest but also avoids a weakness in Heinsohn’s and Steiger’s original
formulation of the property theory of the rate of interest.
8
In fact, the owner of
8
The weakness has been corrected, in accordance with our interpretation of Steuart’s analysis, in
Heinsohn and Steiger
2000 , especially 505 f.
679
27 James Steuart and the Theory of the Monetary Economy
property fi nds himself in a wholly different position if he uses the bank’s credit
facilities and acquires its notes backed by his liabilities than if he issued his own
banknotes backed on his property. If he fulfi ls the duties imposed on him by the
loan agreement, the bank cannot interfere with his property rights. Banknotes that
are issued by the bank always have to be redeemable by its own capital, which has
to be available in the form of precious metals and not in the form of securities the
bank received by its debtors. Notes which a debtor would issue at sight against his
own assets admittedly would not carry interest; however, every possessor of such a
note would be able to claim redemption into its issuer’s property at any time. This
would mean that the crucial point of mortgaged property still being of use to the
dutiful debtor is no longer realisable. Every increase in the value of land would
trigger such claims for redemption. Obviously, a credit system of this kind would
be of little appeal to a landed proprietor, because every borrowing would be equal
to a sale of his property which would only include a guaranteed buy-back option if
during the period of the loan the price of land would decline. Furthermore, it is
apparent that those things that give the lender security pose a threat to the bor-
rower. The landed proprietors are only willing to go into debt if they expect the
quality of their securities to depreciate. The creditor can avoid this only by claim-
ing more collateral – in relation to the current value of the security – and, thereby,
re-establishing the state in which the proprietors are unwilling to get indebted. This
dilemma can only be resolved by the bank and its promise to redeem the notes in
another form of assets, namely precious metals.
Taking this into account, Steuart is sure that in every country the “current [quan-
tity of] money” always adapts to economic transactions. Wherever the supply of
money is insuffi cient, a part of the landed property will be, as he calls it, melted
down and made to circulate in paper , which in turn reduces the shortage.
After all, it is hardly surprising that Steuart also gives a market-based
explanation of the rate of interest. He distinguishes between two kinds of propri-
etors. One kind mortgages his property in order to receive a loan to fi nance
investments in trade and industry projects. Such proprietors generate profi ts by
the loans and would never grant higher rates of interest than they are able to pay
with their profi ts. The other kind borrows for consumption. Such a proprietor is
characterised as a person “who can give good security, to pay to perpetuity, a
regular interest for money” and who “will obtain credit for any sum, although it
should appear evident, that he never can be in capacity to refund the capital”
(Steuart
1767 , II, 109 and 117–119). The spendthrift incurs, in Steuart’s theory,
no limiting criteria for his premature consumption. That is why, at fi rst sight, he
poses a threat for the development of trade and industry. By raising the market
rate of interest through his intense demand for credit, he prevents those propri-
etors from borrowing who aim to generate profi ts by investments. Instead of
turning immobile assets into labour opportunities for the poor, the spendthrift
only serves the purpose of satisfying the demand for foreign luxury goods and to
turn the balance of trade into defi cit. The rise in the rate of interest due to this
behaviour would, therefore, hinder trade and industry; it would make money
vanish and everything prone to collapse.
680 H.-J. Stadermann and O. Steiger
Things would, though, rarely get this far, says Steuart, because the increase in the
rate of interest would immediately trigger a decline of the price of any kind of
immobile property. The spendthrift, therefore, would get rid of his property very
quickly by “that cancer worm” of high rates of interest. Countries with fl ourishing
trade would have more cautious proprietors, and the bad example that the spend-
thrift sets would lead to a more vigilant lifestyle of the proprietors, which eventually
could bring the interest rate down to a level that will allow suffi ciently profi t-orientated
lending (Steuart
1767 , II, 118 f.).
These two groups of borrowers are faced on the market with the merchants-
proprietors acting as bankers. The bank aims to generate profi ts by lending
money. However, it also has to safeguard its own capital, which will be subject
to redemption whenever doubts arise about the quality of the securities used for
the loans. As the bank is restricted by competition, its pressing need to generate
profi t forces it to offer low rates of interest. If it subjects to the temptation of
raising the rate of interest to a level that even the biggest spendthrifts are just
willing to pay, then it would deprive trade and industry of the opportunity to
take up loans. Such a decrease in the demand for loans would soon lead to a
decline in the rate of interest.
Steuart’s discussion makes apparent the degree to which Adam Smith’s theory
is insuffi cient. The classical harmony, due to the illusion that a loan offer is created
by individual savings of a creditor, is not even remotely taken into consideration
here. The current profi t from investments is, in Steuart’s theory, not brought into
equilibrium by a rate of interest that evens consumption forgone today by a
suffi ciently high expected level of improvement of living conditions tomorrow.
9
It was this condition that allowed fl uctuations in the economy to be “assumed
away” in classical and neoclassical theory (Keynes
1933 , 125). The willingness to
renew loans, to enlarge or to decrease them has nothing to do whatsoever with a
willingness to forgo consumption. This, in turn, also does not infl uence producer’s
willingness to enter into debt. A transfer of the use of savings from the creditor to
the debtor is not part of the loan agreement. It is, rather, that the debtor competes
with the money he borrowed with other consumers on the goods market for the
current supply. Consequently, those who have an unchanged income will, assum-
ing that production initially remains at the same level, have to decrease their
consumption because of increased prices. This means that savings will be forced
amongst the agents in the economy. Equilibrium on the loan market is ensured on
the one hand by the debtors’ expectation of profi t and on the other by the creditors’
assessments of the quality of their debtors’ securities. These estimations are prone
to change in the economic process.
Steuart clearly shows the conditions required for genuine money which is
always a creditor’s money . He brings into the open why notes like the assignats
of the French Revolution, in spite of looking quite similarly, lack the quality of
9
Smith develops his theory of interest in two different parts of the Wealth of Nations (1776, 96
and 325).
681
27 James Steuart and the Theory of the Monetary Economy
the notes created by credit. Such notes, therefore, should only be called State or
arbitrary means of payment, that means a debtor’s money . Steuart lays the
foundation for the way modern central banks should, according to the principles
he elaborates, bring their notes into circulation, which is simply for the provision
of good securities. These do not necessarily have to be mortgages on land
property. Many assets show the characteristics that are prerequisite for qualify-
ing as good securities. Consequently, today’s central bank practice does not
show a coherent picture.
In the case of the assignats that were issued after 1789 against royal domains,
expropriated church and emigrant’s possessions, the required securities were not
available. These assignats lacked the property element of guaranteed execution.
It was lacking because they could only be transferred into private property from the
possession of the State by means of competition amongst the holders of the assig-
nats. At the same time, it was predetermined that, as soon as there was a desire to
redeem these titles, the competition would not stop until the price of landed prop-
erty had risen to infi nity and the value of the assignats had decreased to zero.
10
The opposite is true with regard to the circulation of the notes of today’s central
banks, which is regulated in accordance with an amount of secured assets of equal
value, owned by the central banks.
The Later Misjudgement of James Steuart’s Achievements
So why is it that Steuart’s insights into the monetary theory have not achieved the
recognition they deserve? The best known analysis of his monetary theory, by the
Keynesian Douglas Vickers in
1959 , contains many quotes that are also used in
this paper. However, Vickers’ main interest is not to show what money is, how it
is created and why it is needed. He is interested rather in interpreting Steuart as a
10
As we have shown in our contribution on Keynes in this volume (Stadermann and Steiger 2011 ) ,
this great economist failed to detect the missing monetary properties of the assignats . On the
contrary, Keynes praised them as a revolution in the development of the monetary economy.
The original assignats issued at sight at the Caisse de l’Extraordinaire were never paid at all.
They were received in payment for the national domains bought by competing individuals.
However, as has been admirably demonstrated by Jean-Baptiste Say, their nominal value could
never give any determinate value to the assignats , because the value of the former increased exactly
in proportion as that of the latter declined. The Treasury did not bother about this, because the rise
in the price of its domains enabled it to cash a greater amount of assignats and re-issue new ones
for its expenditures, without enlarging the quantity of the assignats . The Treasury was not aware
that, notwithstanding these advantages, the rise in the price of the domains meant a rapid devalua-
tion of the assignats . “The error was discovered in the end, when it was impossible any longer to
purchase the most trifl ing article with any sum of assignats , whatever might be its amount. The
next measure was to issue mandats , that is to say, papers purporting to be an order for the absolute
transfer of the specifi c portion of the national domains expressed in the mandat : but, besides that
it was then too late, the operation was infamously executed” (Say
1803 , 283).
682 H.-J. Stadermann and O. Steiger
precursor of Keynes’s theory of effective demand.
11
On the other side, Vickers
understands that Steuart’s association between money and good securities is quite
different from Law’s fanciful foundations of paper money. Furthermore, Vickers
concedes that Steuart had recognised the insuffi ciency of linking money to
precious metals that change in value by attempting to bind paper money to more
stable securities. But it is just this discussion Vickers considers to be irrelevant, as
he believes good securities to be somewhat anachronistic in the age of irredeem-
able paper money. He, therefore, accuses Steuart of never intending to analyse the
introduction of a non-redeemable fi at money (Vickers
1959 , 276).
Vickers (
1959 , 287) also reprimands that Steuart did not integrate Keynes’s
idea of interest as the price of giving up liquidity into his explanation of the rate
of interest. However, he overlooks that Steuart – just like Heinsohn and Steiger
(
1996 , 141–219, especially 193–214) – does not believe for a good reason in the
idea of holding money in a free economy: “The intention of permitting loans upon
interest, is not to provide a revenue to those who have ready money locked up, but
to obtain the use of a circulating equivalent to those who have a suffi cient security
to pledge for it”. (Steuart,
1767 , I, 379).
According to Vickers (
1959 , 280), Steuart got on the wrong track, because he
had overlooked that even the best securities can be subject to fl uctuations in their
market price. Instead, he should have replaced the precious metals simply by “trust”
in banks to be able to redeem their notes on demand at any time. By saying this,
Vickers gives an account of just what is still a widespread view in mainstream
monetary theory, namely that, with the rise of the central bank, banks of issue only
replaced precious metal currencies by unredeemable paper money, which is kept
scarce without any specifi c security. In order for fi at money to be accepted as
genuine money, no specifi c security is needed anymore, especially since the fi nal
establishment of central banks. This view, however, is confi rmed neither by today’s
central banks’ constitution nor by their re-fi nancing policies.
A more detailed account of Steuart’s principles, especially his monetary theory,
can be found in the works of Sama Ranjan Sen (
1947 and 1957). This author
emphasises even more of Steuart’s work that is of interest to us than Vickers does.
As opposed to the latter, Sen does not provide us with a unique analysis, and those
parts he does analyse, he unfortunately interprets incorrectly. For instance, he
claims that “by paper money Steuart always understands credit and never
irredeemable fi at money” (Sen
1957 , 81). This is a double mistake. Steuart never
makes this confusion: he only insists that money has to be issued in a credit
contract, backed by good securities and against interest. Like Vickers, Sen does
not understand that the non-redeemability of central banknotes in no way means
they are issued without good security.
11
Similar to Vickers, M.A. Akhtar (1778, 64–66; and see 1979 , 289–293) also detects that for
Steuart, money is not a veil laying over real economic transactions. He stresses, nevertheless, only
the role of Steuart’s paper money as a dynamic element and as a means to determinate the level of
economic activities, without considering that creating money affords an interest-bearing credit
contract and good securities.
683
27 James Steuart and the Theory of the Monetary Economy
Sen ( 1957 , 97) further reprimands Steuart for “confusing money with capital” by
attributing to money effects that only capital can achieve: the improvement of
welfare in general through higher productivity. Sen proves that even having a good
knowledge of an important work of mercantilism does not protect one from the
prejudices against mercantilism common until today.
Sen’s criticism is similar to Adam Smith’s, the creator of the term “mercantile
system”, who accused the mercantilists of abusing the popular equation of money
with wealth and coming up with a wrong explanation for the promotion of export.
An active balance of trade, they are assumed to have maintained, would be the best
way of increasing the wealth of a nation, as this brings money into the country
(Smith
1776 , 398–419, especially 400–403).
From the time of Eli F. Heckscher, still today the leading authority on mercantil-
ism, this judgement was reinforced even more. Since that time, the word is that
Mercantilists identifi ed money with wealth. Heckscher (
1931 , II, 169–174, especially
169) quotes mercantilists who seem to justify this judgement, but Thomas Mun,
whom Smith mentions as his only source, had already pointed out that his theory is
about the acquisition of money by means of the highest possible refi nement of
industrial goods. Export for Mun (
1664 , 5–19, especially 11–13) means only an
extremely lucrative form of the acquisition of money.
It only seems as if the critics of mercantilism fi nd their critique reinforced in Steuart’s
work. For instance, he states that “by wealth, I understand this circulating … equivalent
in money” (Steuart
1767 , I, 359). Heckscher takes this short statement out of context.
Steuart, however, continues to develop the line of argumentation as follows: “The
desires of the rich and the means of gratifying them make them call for the services of
the poor: the necessities of the poor, and the desire of becoming rich, makes them
cheerfully answer the summons; they submit to the hardest labour, and comply with the
inclinations of the wealthy, for the sake of an equivalent in money” (Steuart
1767 ,
I, 359 f.). Goods and services on the one hand and money on the other constitute the
circulation as reciprocal equivalents and lead to the question “which products can be
bought by money”. Money is crucial in this, as goods and land by themselves cannot
circulate. Regarding money and wealth as equals, therefore, does not mean anything
else but the acquisition of money by producing goods and services.
Consequently, “the acquisition of money, by the sale of industry to strangers …
was a way of augmenting the general worth of a nation” (Steuart
1767 , I, 464).
Therefore, it is not surprising that Steuart (
1767 , I, 516) does not just measure the
wealth of a nation by the amount of silver it possesses: “In short, the riches of a trad-
ing nation may resemble those of a trading man; who may be immensely rich, with
very little specie in his possession”.
12
Rather, he concludes that it does not make any
12
The same statement can be found already in Boisguilbert 1695 , 67: “Money can only be regarded
as a means or way … to a comfortable life. … This means that a certain country, in which the
quantity of money in circulation is small, can be regarded as rich, while the reverse is true for a
country with a large quantity of money, which can be in a state of misery, especially when it is
diffi cult to exchange its money for commodities” (our translation of the German translation).
684 H.-J. Stadermann and O. Steiger
sense to get as much precious metal as possible into the country by means of a
surplus in the balance of trade. If a nation has generated a surplus by trading with
foreigners, the result will be “that all nations will endeavour to throw their ready
money … into that country where the interest of money is high with respect to their
own and where in consequence the value of property in land is low” (Steuart
1767 ,
I, 464). In opposition to the prevailing views of the subject, Steuart reveals a correct
understanding of the relations within the balance of payments. Surpluses in trade do
not lead to a useless accumulation of precious metal but to an export of capital,
meaning capital investments in foreign countries. Thereby, Steuart distinguishes
between buying bonds (with a fi xed rate of interest) in foreign currency and making
real investments in a foreign country, in his case buying land in that country.
This also applies to the opposite situation. If a nation incurred a defi cit, it had the
opportunity to even it out by a transfer of precious metals. If this was to be avoided,
it could not be achieved by export of domestic banknotes that only circulated within
the country, because it was impossible to export the assets against which they were
issued: the land. In order to obtain the bills of exchange or the precious metal which
would be needed to even out the balance, the bank should sell annuity debts to its
foreign creditors. This can be achieved by issuing these titles at a suffi ciently high
rate of interest, payable by the domestic debtors and backed by good security.
Steuart forcefully suggests the supply of credit not to be rationed. In such a case, the
bank would transfer a part of its annual income to foreign creditors, as it in turn will
transfer a part of its earned interest abroad.
Steuart also has no doubt as to why the bank would undertake these
transactions. If it did not offer such titles, the balance could only be evened out
by transfers of precious metals. This would mean that the notes of the bank
would be presented to that bank for redemption in a corresponding amount of
precious metal. The import of capital triggered by a bank, therefore, is a way of
keeping its own notes in circulation. Steuart clearly sees that a bank will not
behave in a manner that would be congruent with the prevailing opinions since
the fl orid of the classical school. Equilibrium will not be achieved by a domestic
rationing of credit. Steuart reminds us that the domestic rationing of credit will
not lead to equilibrium in the balance of payments, but may trigger severe prob-
lems for the country. If a bank does not lend to those who offer good security,
then the result will lead the nation into a crisis, which ultimately also will affect
the bank because of the contraction of its business activity (Steuart
1767 , II,
161–195; and see II, 605–610 where the idea is resumed).
Steuart as a Precursor of Walter Bagehot
To advance loans to all those who wish to borrow against good security and at the
market rate of interest, Steuart (
1767 , II, 611) states as follows: “The melting down
of property, and keeping circulation full at all times. This is the business of banks.”
With this statement, he anticipates an idea, which fi rst in 1873 was brought back
685
27 James Steuart and the Theory of the Monetary Economy
into the discussion by Walter Bagehot under the name of open discount window , the
unlimited refi nancing of good security at market conditions by the central bank,
especially at times of liquidity crises.
“There are two rules: – First. That these loans should only be made at a very high
rate of interest. … Secondly. That at this rate these advances should be made at all
good banking securities, and as largely as the public ask for them” (Bagheot 1873 ,
187–189). For Bagehot (
1873 , 188,) even in times of crisis, it is not necessary that
the central bank grants loans against securities which bears the risk of causing it a
loss. Equally, it should not grant advances at preferential rates of interest. In order
to prove this, he uses the following two arguments: First, if “bad” securities were
accepted from the “unsound” people, the central bank would run the risk of incurring
a loss in its “banking reserve” (Bagehot
1873 , 187 f.).
13
Secondly, if preferential
rates of interest were paid, the danger might arise that the “sound” people will no
longer offer their securities to the bank for refi nancing. “The great majority, the
majority to be protected, are the ‘sound’ people, the people who have good securities
to offer” (Bagehot
1873 , 188).
Bagehot, however, only briefl y mentions this danger but does not explore its rami-
fi cation any further. The protection for the “sound” people is needed because competi-
tion for money needs to be safeguarded. If this competition for money is weakened or
eliminated, money no longer has the ability to control the economy, as the “sound”
people (with their properly calculated investment plans) will not be able to compete
with “unsound” people offering less valuable titles. This alarms them as they can
predict that a central bank with bad titles in its portfolio will have more trouble reduc-
ing the quantity of money than expanding it. Therefore, they fear a depreciation of the
value of their nominal assets (see more detailed Stadermann
1994 , 97-240).
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689
JG B kh ( d) HdbkfhHi fE iTh h
Introduction
This essay concentrates on the contribution to economics and economic policy of
Hayek. This can be conceived as an extension and correction of the general eco-
nomic equilibrium theory of Walras, Pareto and Barone. In the next sections, the
following themes will be treated, in order to show this, and to evaluate the signifi -
cance of the contribution:
1. Biographical sketch
2. Market economy and the centrally administered economy: the use of knowledge
in society
3. Theory of money and business cycle theory: the monetary over-investment
theory
4. Developments in the theory of market structures: the meaning of competition
5. Legal and political philosophy: economic and political systems
6. Economic policy and market economy
7. The history of ideas, psychology and methodology
8. Theory of evolution of institutions
9. Evaluation
G. Meijer (*)
Department of Economics , Maastricht University , Larixlaan 3 ,
1231 BL Loosdrecht, The Netherlands
e-mail: [email protected]
Chapter 28
Friedrich August Hayek (1899–1992)
Gerrit Meijer
690 G. Meijer
Biographical Sketch
The life of Hayek (Raybould 1999 ; Machlup 1977 ; Kresge and Wenar 1994 ) can be
divided into four phases and the catchwords can be Vienna, London, Chicago and
Freiburg i.Br. (Germany). He was born on May 8th, 1899 in Vienna. His father August
von Hayek (1871–1928) was a medical doctor. He later combined this with a Honorary
Professorship ( Privatdozent ) of Botany. His mother was Felicitas von Juraschek
(1874–1967). He had two younger brothers, Heinz and Erich (later to become
Professor of Chemistry and Anatomy, respectively). He characterizes his youth as a
happy time and his family (also in the wider sense of the word) as a happy family.
Very infl uential upon his life was the First World War during – and shortly
afterwards – which the Austrian-Hungarian Empire was destroyed. In the later years
of this war, he served in the army as an offi cer. As we will see later experiences
during and just after the war (years of hyper-infl ation, poverty and political and
social upheavals and experiments) have infl uenced his life and work.
He studied at the University of Vienna. He got a doctorate in Law and in
Economics. After this, he worked from 1921 to 1926 at the Abrechnungsamt
in Vienna as a legal advisor of Ludwig von Mises. This offi ce took care of the fi nan-
cial consequences of the Peace of St Germain. In 1926, he became the Director of
Das Osterreichische Konjunkturinstitut that was founded at the initiative of Ludwig
von Mises. Also he became a Privatdozent at the University of Vienna.
In 1926, he married Hella von Fritsch. They got two children: a daughter Christine
(1929), and a son Laurence (1934–2004). They did not go in the footsteps of their
father. Christine became an entomologist; Lawrence a medical microbiologist.
In 1923/1924, Hayek visited the United States (by boat of the Holland –
Amerikalijn: De Amsterdam and in the possession of a letter of introduction and
recommendation written by J.A. Schumpeter).
In 1931, he left Vienna for London. He got a professorship in Economics in the
London School of Economics (the Tooke Chair). At that time, Lionel Robbins was
the Director. In this way, Hayek moved to the fi nancial centre of the world and to the
capital of the most powerful empire of the world in that time. In 1938, he became a
citizen of the United Kingdom, and in 1943 (just before he destroyed his reputation
as an economist by publishing The Road to Serfdom), apparently at the proposal of
his friend J.M. Keynes, a Member of the British Academy. He was to stay in the
United Kingdom until about 1950. The decline of the British Empire under the
Labour Party of Attlee and Bevan both nationally and internationally, dissatisfaction
with the intellectual climate in the United Kingdom (especially in economics and
political science) belong to the reasons for this change. The most decisive factors
are after my opinion personal reasons. He had a divorce and a second marriage with
Helene Bitterlich, which brought him in confl ict for instance with Robbins.
Moreover, he became more and more interested in research in fi elds outside
theoretical economics since about 1940 until he left at the end of the forties.
From 1950 to 1962, he was a Professor of Social and Moral Sciences at
Chicago. He was appointed to the Committee on Social Thought. He was not
691
28 Friedrich August Hayek (1899–1992)
appointed as a Professor of Economics (the majority of the economists were of
the opinion that the writer of the Road to Serfdom had disqualifi ed himself as an
economist). This professorship (fi nanced by the Volcker Foundation) gave him
freedom of teaching and research in whatever subject he wanted.
From there he left in 1962 for Freiburg i.Br. (Germany) to become again a
Professor of Economics. In 1968, he became emeritus. He was active and taught and
published until the end of his life, for example, at the University of Salzburg (Austria).
In 1974, he got to his complete surprise the Nobel Prize in Economics (together with
G. Myrdal). On March 23rd, 1992, he died in Freiburg. He was buried in Vienna.
Market Economy and Centrally Administered Economy:
The Use of Knowledge in Society
Between both world wars the centrally administered economy was put in practice in
several countries. In the non-communist countries, direct controls were used on a
large scale (New Deal, etc.). The free exchange economy was at that time heavily
criticized, because of monopolizing, unemployment, etc. The centrally administered
economy on the other hand was posed opposite the free exchange economy as a
shining example. It is therefore understandable that Hayek was especially occupied
with the analysis of both the centrally administered economy and the free exchange
economy in order to study the economic process in and the performance of both
ideal types.
Hayek prefers the free exchange economy over the centrally administered econ-
omy for non-economic and economic reasons. He is of the opinion that the abolish-
ment of economic freedom will destroy other freedoms. It is for that reason that he
rejects the centrally administered economy and prefers a free exchange economy.
With regard to the economic aspects, he argues that economic calculation in the
centrally administered economy is not or not as well possible as in the free exchange
economy, where economic calculation takes place through the pricing process.
In an article published in 1920, Mises argued that in a free exchange economy
with money, the economic subjects value consumption and production goods, of
which they are the possessors, through exchange. The objective exchange value,
brought about in that way, is measured in money prices. The calculation in money
prices is restricted. In the fi rst place, the value of money is subject to fl uctuations,
but mainly not to such an extent that it impedes the calculations. Of more impor-
tance is that the calculation in money is based on exchange value and for that reason
is only possible for goods that are exchanged.
Two conditions have to be satisfi ed in order to make economic calculation
possible. All consumption and production goods have to participate in the exchange.
Moreover, there has to be a commonly used medium of exchange (money).
Otherwise, there will not be a common denominator. These conditions are fulfi lled
by calculation in money prices within the above-mentioned constraints.
692 G. Meijer
In the centrally administered economy, these conditions are not satisfi ed. Von
Mises thinks in this connection of a centrally administered economy with
collective property, completely central administration of production and free
exchange of consumption goods. Because the means of production are collective
property, they are not exchanged and priced. This means that exact economic
calculation is impossible. The decisions of the central administration are arbi-
trary. The argument that there is no exchange and no pricing does not apply of
course to consumption goods. Mises also indicates the bureaucratic character of
this society. The associated drawbacks are in the area of initiative and responsi-
bility (accountability).
The article of Mises (
1920 ) initiated a fi erce exchange of views, about the ques-
tion of pricing and consequently the possibility of economic calculation in the cen-
trally administered economy. Three reactions ought to be mentioned here (Hayek
1935 , pp. 207–214; 217–220; 1952c , pp. 197–204; 207–210).
The fi rst reaction is connected with the general equilibrium theory of Walras,
Pareto, and Barone. It implies that a solution is possible by using the system of
equations of general equilibrium theory. It would only be necessary to collect all
relevant data in a statistical fashion and to fi ll in and compute the equations.
The second reaction is an extension of Barone’s theory (
1908 ; Hayek 1935 ,
pp. 245–290). The central administration would be able to come to a solution by
trial and error. In some way, prices have to be taken as a starting point. The eco-
nomic subjects react on these prices. These prices have to be changed and are
changed in such a way that excesses and shortages do not occur any more.
The third reaction especially elaborated by Lange and Taylor (
1938 ) and Lerner
(
1944 ) , implies that pricing can be used. Then prices become again indicators for
economic calculation. Two variants are suggested. The fi rst variant will order com-
petition between individual fi rms, the second between industries. The managers are
appointed by and are responsible to the central administration of which they obtain
their instructions. In this case, there exists pseudo-competition. The managers of the
fi rms have to behave as if there is perfect competition.
Some of these authors admit that no pricing exists in the centrally administered
economy. The third reaction is a denial of the thesis of Mises that exchange and
pricing are absent when private property (de jure or de facto) is abolished. The
above-mentioned ideas are extensively discussed and criticized by Hayek (
1935 ,
Chaps. 1 and 5 ;
1952c , Chaps. 7 – 9 ).
According to him (Hayek
1952c , Chaps. 2 and 4 ), the central question is how to
use the existing knowledge in society in the best possible way. In every society,
there is planning. The planning always has to be based on knowledge, that is in fi rst
instance not available to, but has to be acquired by whoever does the planning. In
principle, there are only two possibilities: the free exchange economy and the
centrally administered economy.
Which of the two possibilities is the best depends on the question whether it is
easier to supply the planning authority with the knowledge, regarding the data, that
is originally in possession of the economic subjects or to provide the economic
subjects with the knowledge that makes it possible to co-ordinate their plans.
693
28 Friedrich August Hayek (1899–1992)
To answer this question, Hayek distinguishes between the knowledge at the
disposal of the economic subjects and the knowledge that is available to the
planning authority. The choice depends on the relative signifi cance of both kinds
of knowledge. The knowledge possessed by the economic subjects does not have a
scientifi c or general character, but concerns several details regarding the data. The
knowledge of the planning authority, however, has a scientifi c character and con-
cerns general laws. In relation to the many changes in economic life, the knowl-
edge possessed by the economic subjects is the most important. This knowledge
cannot be provided to the planning authority in a statistical fashion. The statistics
that should be used by such an institution can only be arranged in such a way that
has to be abstracted from exactly these details. The planning authority is for that
reason not able to take into account all those details. This is the fundamental prob-
lem of the centrally administered economy.
In the free exchange economy, the knowledge available to the economic subjects
is dispersed over the economic subjects. Moreover, the knowledge of the individual
subjects is incomplete and often contradictory. For that reason, further information
has to be provided to the economic subjects in order to bring about the co-ordination
of all plans. It is not necessary for the economic subjects to know why the price
of goods has changed, but that the price is changed and how much. This knowledge
is provided by the pricing process that registers and transmits changes of data in
economic life and can be considered as a process of information and discovery
(Hayek
1968 ) .
In view of this background, it is not surprising that Hayek (
1935 , pp. 207–214;
1952c, pp. 197–204) is of the opinion that the fi rst conception (calculation with the
aid of the system of equations of the theory of general equilibrium) is logically
correct, but impracticable.
He asks two questions, namely about the nature and the extent of the data that
are needed and the extent of the calculations that have to be done to solve the
equations. In this connection, the point is not how detailed the data and how exact
the calculations have to be in order to obtain an exact solution. It is only necessary
to ask how far one must go to get a result that is comparable with that of the pricing
process. It concerns the knowledge of the data which in the exchange economy is
dispersed over the economic subjects.
In the fi rst place, the central authority needs data about the goods that are avail-
able. These goods differ not only physically but also by the location, the age, the
packing, etc. Also all goods have their own individuality. Almost all goods have
to be included separately into the equations. The collection of all these data in a
statistical fashion is not well possible. In that case, attention would have to be paid
to too many details.
In the second place, the central authority must have the disposal of all technical
data regarding the production of goods. These data are also dispersed over the
economic subjects and change continuously. The same is the case with the wants of
the consumers. Also these data cannot be made available to the central authority in
a statistical fashion. The results, however, would be far more worse than in the case
of pricing, because the pricing process includes all details in its operation. If one
694 G. Meijer
assumes for a moment that the central authority does have all the mentioned data at
its disposal, then the calculations involved in the hundreds of thousands of equa-
tions, that at every decision have to be solved would have such an extent, that this
solution is impracticable.
Hayek remarks that already Pareto (
1927 (2), pp. 233–234) has pointed to the
practical impossibility of this solution with similar arguments. Only the market
would be able to provide a solution.
Hayek (
1935 , pp. 213–214; 1952c, pp. 213–214) also points out that this solution
is not meant as a practical one but only as one possible in principle. As a matter of
fact, these authors were of the opinion that a socialist society could simple use the
existing capitalist pricing system and by means of trial and error adjust these prices
to changes. With this, the fi rst opinion merges into the second one.
Hayek argues against this point of view that through the transition of capitalism
to socialism, the valuations will strongly change and completely new prices will be
necessary. With the system of trial and error, the government would have to set
prices and would have to change these as often as this would happen in a capitalist
society, in order to reach a result comparable to the competitive system.
The change of one price causes the change of many other prices. Most prices do
not change proportionally but vary according to elasticity of demand, possibilities
of substitution and methods of production. It is absurd to think that the government
would be able to fi x all these prices and to change them until an equilibrium is
reached. The changes cannot take place as often, as fast and as accurate as necessary.
Moreover, a differentiation in time, place and quality will fail to appear. For that
reason, in this way, a worse result will be achieved than with pricing.
With the variants of the third conception, according to Hayek (
1935 , pp. 217–220;
232–237;
1952c , pp. 207–210; 222–227, Chap. 9 ), the problem arises whether the
combination of competition, central direction and public property is possible. The
decisions about the factors of production and the responsibility for them would
rest with the managers, who, however, are neither owners nor responsible to pri-
vate owners.
Both variants, competition between fi rms as well as between industries, evoke
many problems. Who has to become manager? What has to be the industry or
fi rm? Which factors of production will be entrusted to the managers? How will
their success or failure be determined? The means of production are public prop-
erty. An authority to administer all these factors is needed. Which criteria will
have to be applied in the decision making process?
The authority cannot act like a kind of bank who assigns the means to the highest
bidder. The managers have no private property and are therefore not at risk. The
whole risk is for the central authority. This authority will therefore have to decide
who will get the means of production. Moreover, it will have to be decided who is
allowed to expand or contract production, to stop the fi rm, to change over to the
production of a new product or to reinvest.
This means therefore that all important decisions who have to be made in our
dynamic society as a consequence of many often unforeseen changes cannot be made
by the manager. In this respect, he depends on the central authority. This authority
695
28 Friedrich August Hayek (1899–1992)
has almost as much power as it would have in the case of central administration of
the economic process without competition.
The central authority in her decisions can only rely on the results of the managers
in the past and on their expectations for the future. The expectations of the individ-
ual managers will be different. The central authority will be inclined to judge the
managers by their previous performances, but even the best managers will some-
times take losses because of technological changes and changes in demand.
Under these circumstances, the managers would give rise to risk-avoiding
behaviour. This system is a house divided in itself. The managers as well as the
central authority take decisions with regard to the means of production. The respon-
sibility for decisions is for that reason diffi cult to determine. This society will there-
fore develop a bureaucratic character in which freedom of initiative has little chance
and conservatism (careful management to avoid risk) becomes dominant.
The above-mentioned criticism holds for both variants of the third view. On the
top of that, there are still some special arguments that apply to the second variant
(1935, pp. 220–222; 1952c, pp. 210–212). This variant leads to a world of compet-
ing monopolies. Assuming profi t maximizing, the following objections can be
raised against this arrangement: a general equilibrium and optimum allocation of
production factors does not occur; the production will be smaller and the price will
be higher than in the case of more competition.
These objections do not hold any more if the government dictates to these fi rms
the marginal cost rule. However, according to Hayek (
1935 , pp. 226–231; 1952c,
pp. 216–221), the government is groping in the dark when it wants to fi x marginal
cost. These costs can only be determined through competition. Through the process
of competition, the price becomes equal to marginal cost. In the absence of competi-
tion, the government may fi x marginal cost and dictate corresponding prices, but
these prices will always be arbitrary.
The Theory of Money and Business Cycle Theory:
The Monetary Over-Investment Theory
The monetary over-investment theory (or perhaps better the theory of wrong invest-
ment ( Kapitalfehlleitung )) is an attempt to explain the business cycle in the frame-
work of the general equilibrium theory. The monetary over-investment theory studies
the influence of money on the economic process in a free exchange economy.
At present, money creation is for a large part in the hands of the primary banks. According
to the monetary over-investment theory, this can disturb the economic process.
The monetary over-investment theory refers to a contradiction in the course of
business in the capital goods industry and the consumption goods industry. In the
boom, the former develops stronger than the latter. In the depression, the fall in the
former is stronger than that in the latter. For that reason, disproportions originate in
the production structure: the capital goods industry and the consumption goods
industry are maladjusted.
696 G. Meijer
The depression is caused by the disproportions that originate during the boom
and have to be corrected during the depression. The monetary over-investment
theory regards the depression as a consequence of the over-investment in the capital
goods industry which originates in the boom. This over-investment is possible under
the existing monetary system, in which banking has the power to create money.
Banking is therefore important for the origin of periodical disproportions in the
production structure. However, the business cycle is not in essence a monetary
phenomenon.
The interpretation of the role of banking goes back to certain theories of Wicksell
(
1898 ) about the connections between the money supply, interest and prices.
Wicksell distinguished between the monetary or market interest rate and the
natural interest rate. The natural interest rate is the interest rate at which savings
equal investments. The monetary interest rate, also called bank interest rate, may
deviate from the natural interest rate through the action of banking and other factors.
If banks set the market interest at a lower rate than the natural interest rate, invest-
ments will exceed savings. The investments are then partially fi nanced by money
creation. This leads to infl ation; the price level rises.
In the case of a natural interest rate, which is lower than the monetary interest
rate, savings will exceed investments. This leads to defl ation; the price level falls.
If the natural interest rate equals the monetary interest rate, savings are equal to
investments. There will be a stable price level.
The monetary over-investment theory of Mises (
1912 , 1924, 2; 1928 ) , Hayek
(
1929b, 1931a, 1939b, 1941a ) and other German and Austrian authors, in the twen-
ties and thirties, builds upon this theory. This development is accompanied by impor-
tant contributions to the theory of money (Hayek
1929b, 1931b ) , the theory of capital
formation and the theory of interest (Hayek
1939b, 1941a ) . Of course, also other
authors, especially the students of Wicksell, who formed the so-called Swedish
School (e.g. G. Myrdal), and in the Netherlands M.W. Holtrop (
1972 ) , J.G. Koopmans
and other Dutch authors, have contributed to these developments (de Jong
1973 ) . In 1933, Hayek edited the book Beiträge zur Geldtheorie , with contributions
of M. Fanno, M.W. Holtrop, J.G. Koopmans, G. Myrdal and K. Wicksell.
The theories mentioned culminate in the synthetic theory of interest and the
theory of monetary equilibrium and/or neutral money (Lutz
1938, 1969 ) . We con-
fi ne ourselves to the exposition of the main lines of the above-mentioned business
cycle theory.
If the banks lower the bank interest rate in a situation of equilibrium with full
employment, then the bank interest rate becomes lower than the natural interest rate.
Investments will rise. This is especially the case with investments in durable means
of production, because they are the most sensitive to changes in the rate of interest.
The increase of investments is not matched by savings. The fi rms are neverthe-
less capable to fi nance their investments by borrowing from the banks. In a situation
of full employment, producers of investment and consumption goods will compete
for the means of production.
In this competitive struggle, the capital goods industry has an advantage. For that
reason, they are able to snatch away the means of production from the consumption
697
28 Friedrich August Hayek (1899–1992)
goods industry. This means that the consumption goods industry has to contract and
that the capital goods industry will expand.
The consumers consequently are able to buy fewer goods. The prices of the
consumption goods will rise in consequence of the rise in prices of the means of
production but also because of the fall in the quantity supplied of consumption
goods. To maintain their consumption level, the consumers are willing to pay
higher prices. Nevertheless, real consumption will fall. This is the phenomenon
of so-called forced savings.
It is true that income received by the consumers will rise. This will, however, not
happen immediately but with a delay. Moreover, a redistribution of income and
wealth occurs. While other incomes (profi ts e.g.) rise, those with fi xed incomes stay
behind. As a consequence, real consumption falls further.
The rise of prices means a fall in the value of money. This is to the disadvantage
of creditors and to the advantage of debtors. For that reason, the distribution of
wealth changes. If the income of households has increased because they earn more
in the capital goods industry than the consumers get more purchasing power. They
will try to re-establish their consumption level. The prices of the consumption goods
will rise again. The producers of these goods will have better profi t prospects. They
are able to pay more for means of production. But as long as the producers of capital
goods are able to borrow money from banks, they are able to outbid producers of
consumption goods.
For their credit policy, banks focus on the ratio between their reserves and the
amount of credit outstanding. If this ratio becomes too low, the banks will slow
down their credit supply or even curtail outstanding credits. If this ratio is higher
than minimal, it is profi table to expand the granting of credit.
A bank will take this decision sooner if the risks are small and the prospects of
the investors are good. Also of importance is how easy it is to obtain reserves, for
example by rediscounting. Only if it is strictly necessary, the interest rate will be
raised. The banks do not like to loose clients to their competitors. Only if the
individual banks or the banking system approach this limit, they will restrain their
credits or even reduce their outstanding credits. This leads to a rise in the interest
rate, tightening up of other conditions and cancellation of credits. This will slow
down investments especially in durable means of production. The source of which
the investors draw their additional purchasing power dries up.
These circumstances cause that these fi rms are not able to realize their invest-
ment plans anymore (this is the phenomenon of Kapitalfehlleitung ). Even in some
circumstances, they have to be stopped or interrupted. The production becomes less
profi table. Under these circumstances, producers of consumption goods grow stron-
ger and are now better able to compete for the means of production. They have the
advantage of getting higher prices for their products. Expansion of production is
then profi table. The prices of the means of production are rising now because of the
higher bids of the consumer goods industry. The investments of the capital goods
industry will fall sharply. There exists a situation of capital scarcity. Banks do not
want to grant credits and households do not want to save. The producers in the
capital goods industry are not able to realize their investment plans. This causes a
698 G. Meijer
sharp decline in the demand for investment goods. This fall leads to a cut in
production in the capital goods industry and unemployment develops. The means of
production that come available cannot all be employed in the consumption goods
industry. National income falls. Hoarding and destruction of money occur. The
banks and the fi rms strive for liquidity. Pessimism spreads. The investment level
falls even further. This situation can change again when the liquidity of the banks
improves, so that they can lower the interest rate and the entrepreneurs gain so much
confi dence that investment will rise again.
These views confl ict with the Keynesian business cycle theory. The deeper
origins behind the clash between Hayek and Keynes (Hayek
1995 ) appear to be
theoretically the following:
(a)
Hayek prefers micro-analysis that starts with the plans of the economic sub-
jects. His central problem is the co-ordination of the plans through the pricing
process under different market structures and money systems. In the analysis of
Keynes, relationships between macro-quantities are used. For that reason, the
pricing process recedes in the background. This explains why Hayek theoreti-
cally does not follow the Keynesian approach. He is not adverse to macro-
analysis. Both approaches have always co-existed in the history of economics.
He acknowledges, however, the primacy of micro-analysis and joins the meth-
odological individualism of Menger (
1883 ) .
(b)
Within the framework of the general equilibrium model with perfect competition,
the economic process tends to equilibrium by prices that adjust demand and
supply. Originally, theory has not paid much attention to processes of adjustment,
which are continuously necessary to bring about equilibrium after changes in the
data. There is, however, an exception with regard to the monetary adjustment
process. By and after Wicksell and Mises, it was realized that the disturbances in
the monetary sphere are not neutralized by an equilibrating adjustment process.
In contrast, the adjustment process is characterized by an oscillating movement
around equilibrium: the business cycle. Business cycle theory concentrates on the
dynamic problems, which arise when the question is asked how the equilibriums,
which according to statics can exist, are brought about. The possibility of an
equilibrium with full employment is the starting point of the monetary over-
investment theory. The business cycle is an oscillation around this equilibrium.
According to Keynes, the business cycle is a fl uctuation of effective demand and
connected quantities, especially the price level and employment. The depression is
characterized by a defi ciency of demand. A full employment policy has for that
reason to be directed to the stimulation of effective demand.
According to the Keynesians, equilibrium is not automatically restored in the
direction of full employment. The economy can be in equilibrium at every level of
employment. The Keynesians have lost confi dence in the equilibrating character of
the economy, at least at the point of employment. The monetary over-investment
theory has not lost that confi dence.
The so-called stagnation thesis advocates that effective demand will be continu-
ously defi cient. This is strongly rejected by Hayek. The theory is also proven to be
contrary to the facts.
699
28 Friedrich August Hayek (1899–1992)
Here, it is necessary to point to the fact that Hayek’s aversion to the Keynesian
theory and Keynesian policy also results from the fact that the strive for full employ-
ment at any price according to his judgement will lead to non-conform government
interference that spreads like an oil-slick (Hayek
1951a, 1951b, 1972, 1975, 1980 ) .
The task of economic policy in this respect is to try to prevent or restore this situation
by monetary reform (this amounts to the removal of the money creation power from the
commercial banks) or by a monetary policy while maintaining the existing organiza-
tion of the banking system, with the instruments of monetary policy.
Hayek ( 1937, 1943b, 1960, 1965 ) made important contributions on problems
related to the national and international monetary system during the whole period in
which he was publishing. In these publications, he discussed almost all proposals
that are to be found in the economic literature during this period and made also
himself original proposals. In his last proposal, he argues in favour of competition
among private issuers of fi at money (Hayek
1976a ) .
In the light of the recent monetary problems at the national and the international
level, these questions are still relevant and will gain even more importance in this
century.
Developments in the Theory of Market Structures:
The Meaning of Competition
In the free exchange economy, decisions are made by the economic subjects
themselves. The individual plans are co-ordinated through pricing. That is why
Hayek is interested in the functioning of the pricing process. The co-ordination of
the plans and the course of the economic process are different according to the
market structure and the monetary system.
How prices are formed in the different market structures and how money
infl uences pricing and in general the economic process are important topics for
Hayek. The central problem is to analyse the consequences of economic freedom in
a free exchange economy under different market structures and monetary systems.
The infl uence of money on the economic process has been discussed in the former
section. This section will focus on the developments in the theory of market
structures and the meaning of competition.
Hayek (
1952c , Chap. 5 ) pointed out, against the theorists of monopolistic
competition (Sraffa, Robinson, Chamberlin, and Stackelberg) as well as against
the Chicago-School (Knight and Stigler) that the theory of perfect competition
does not explain the process of competition, because this theory assumes the
condition produced by the competition process as existing. If this condition exists,
competition is no longer possible. The process of competition is a dynamic social
process, in which the individual plans are co-ordinated under changing data.
Theory has to explain how this happens. The theory of perfect competition, how-
ever, does not do this. The current assumptions: constant data, homogeneity, the
absence of personal relationships, a large number of consumers and suppliers of
whom nobody expects to have infl uence on the price, free entry and the lack of
700 G. Meijer
other restrictions on the movement of goods and prices, complete knowledge of the
relevant facts possessed by all parties are unrealistic. This is especially the case
with complete transparency. The economic subjects do not possess complete
knowledge. On the contrary, their knowledge is incomplete and contradictory.
But always competition especially between substitutes causes lower costs and
better products. Competition and the pricing process are conceived by him as a
process of information and discovery (see “Market Economy and Centrally
Administered Economy: The Use of Knowledge in Society”).
With these opinions, Hayek moves in the direction of the so-called workable
competition. This concept has been introduced and elaborated in economic theory
by Clark (
1940, 1982 ) . J.M. Clark points out that even if the conditions of perfect
competition are absent, there may exist effective competition, because imperfec-
tions may neutralize each other. For example, oligopolies can form a price cartel, in
which the price is fi xed somewhat higher than the average cost of the effi cient fi rms.
Then less effi cient fi rms will be closed. This is according to Clark a case of work-
able competition. Similar situations may be found in industries with rather transpar-
ent markets, large fi rms and a small degree of product differentiation.
But in the case of oligopolies, there may exist ineffective competitive relations,
because they get involved in a price war. The price in a price cartel may be much
higher than the average cost and is caused by a lack of competition. For the
existence of workable competition, he requires that the average price during a
business cycle is covered by the average total cost.
In the literature, it was tried very hard to specify the concept. De Jong (
1958 )
formulates following in the footsteps of Bain (
1950 ) , six criteria for workable
competition. The most important are:
(a)
The effi ciency of the fi rms must approach, to reasonable extent, the best attain-
able effi ciency. There has to be a stimulus to attain this condition. Therefore, an
open market is necessary.
(b)
The possibilities in the area of technological advancements must not be grossly
neglected. For that reason, the existence of potential competition is also necessary.
These conditions are satisfi ed if artifi cial barriers of free entry are absent. That is
why we state that Hayek’s ideas move in this direction. Under these conditions,
there exists a continuous struggle for the patronage of the consumer. This brings
about quality improvements, cost reductions and technological innovations in which
one or the other alternately gains the lead. Only if the lead is lasting there exists in
this view a monopoly.
Economic and Political Systems
Marx and his direct followers have hardly paid attention to the question how
socialism works economically. The same can be said in relation to other aspects.
The question whether the liberal ideals with regard to the constitutional state etc.
701
28 Friedrich August Hayek (1899–1992)
are consistent with a society based on collective property of the means of pro-
duction, was hardly paid attention to. Socialism saw itself placed before all
these problems later on. The socialists could especially in East and West Europe
not longer avoid these questions after the First World War. Since that time, a
discussion took place about the political and economic aspects of the centrally
administered economy. This discussion reached its height in the thirties and
forties.
Hayek (
1939a, 1944 ) argued for political and economic reasons for the free
exchange economy and against the centrally administered economy. He considered
the centrally administered economy incompatible with democracy, the constitu-
tional state, fundamental human rights, social security, social justice, the rule of law,
and the federal state. The free exchange economy is considered by him to be consis-
tent with all this.
In the centrally administered economy, a union of power with the government
comes about. There exists a strong interdependence of economic and non-economic
aspects of reality. According to authors like Lange and Taylor (
1938 ) , Lerner ( 1944 ) ,
and Schumpeter (
1942 ) , it is possible to separate political and economic liberalism.
Political liberalism would be consistent with the centrally administered economy.
The second important point at issue is related to the economic aspects of the
centrally administered economy. In the centrally administered economy, the lead-
ership of economic life rests with the government. According to Hayek, the gov-
ernment meets in this way problems in the fi eld of economic calculation which are
very diffi cult to solve. The centrally administered economy will stay behind in
productivity compared with the free exchange economy, where economic subjects
through the formation of prices can accomplish the problem of economic calcula-
tion. He holds this opinion not only on the basis of the analysis of theoretical mod-
els but also on the basis of the analysis of historical experiences with the centrally
administered economy especially in Russia and Hitler-Germany. His above-
mentioned colleagues are of the opinion that the problem of economic calculation
in the centrally administered economy is solvable, by using price formation. The
discussion on this has been summarized in the third section.
The above-mentioned objections concern an international centrally administered
economy. When the world economy is divided in national centrally administered
economies, there is still another point that can be made. Then there exists inter-
nationally seen no freedom of movement (mobility) of goods, services, capital and
labour. In the international economic positions quota, bilateral trade agreements,
state trade, clearing of foreign exchange (currency), immigration and emigration
restrictions are rule. Through that an optimal allocation of the means of production
is not achieved. Of greater importance is that the international relations are drawn in
the political sphere, through which political frictions arise, which can even be
dangerous for world peace. On the other hand, the free exchange economy, in which
optimal allocation of the means of production arise, can also be united with a
peaceful society of people. On all these questions, he continued to publish since the
publication of his Road to Serfdom (Hayek
1955, 1960, 1967, 1968, 1973a, b,
1976b, 1978, 1979, 1997 ) .
702 G. Meijer
Economic Policy and the Market Economy
Hayek ( 1944 , Chap. III) distinguishes measures which foster competition vs.
measures which weaken competition (planning for competition and planning against
competition). The second group contains the measures which hamper or even elimi-
nate the working of price formation. To this, he counts the planning of the economic
process and the price and quantity controls which eliminate the market. But also
such interference in the economic order that hampers competition belongs to it.
To the fi rst group belong measures which are focused on an economic order in
which competition functions as well as possible. For that fi rst of all a free market is
necessary. Activities to destroy the free market by restricting free entry have to be
forbidden. Concerning direct interference, he makes an exception for restrictions
with regard to methods of production that hold equally for producers. He mentions
as such the prohibitions of the use of poisonous substances, safety prescriptions, the
restriction of labour time and prescriptions with regard to the health of labourers.
It is true that this causes an increase in production costs, but the economic and non-
economic advantages preponderate. In general, it is about not taking measures,
which eliminate or replace the market, but which are directed to provide such a
framework for the market, that price formation functions as well as possible. Besides
the government has to supplement the market with a system of provisions, namely
on those areas on which the market does not function or not as well.
This relationship is the central problem in The Road to Serfdom , especially in
Chap. III (1944) and his article on Free Enterprise and the Competitive Order
(1952c, Chap. 6 ; 1948). In the Chicago period, it was followed by the Constitution
of Liberty. A Liberal Utopia (1960). Later on, it was the subject of the three volumes
on Law, Legislation and Liberty. This trilogy is on (1) Rules and Order (The Idea of
Spontaneous Order); (2) The Mirage of Social Justice; and (3) The Political Order
of a Free Society (Hayek
1973a, 1976b, 1979 ) .
The leading principle is clearly formulated in the third volume of Law, Legislation
and Liberty, on p. 65. There Hayek cites Mises as follows:
The pure market economy assumes that government, the social apparatus of compulsion
and coercion, is intent upon preserving the operation of the market system, abstains from
hindering its functioning, and protects it against encroachment on the part of other people.
(Mises in Human Action,
1949 , p. 239)
The History of Ideas, Psychology, Methodology
The history of ideas has a prominent place in the work of Hayek. This forms an
important part of his publications as stepping stones on the way to his main publica-
tions (see the volumes 3 and 4 of The Collected Works, 1991 and 1992). They
allowed him to take roots in economic and political theory.
To this kind of work belong his preface to the (re-)edition of Gossen (original
1854) in
1927 ; Wieser, Gesammelte Abhandlungen, 1929; and the Collected Works
703
28 Friedrich August Hayek (1899–1992)
of Menger (four volumes 1934–1936): the founders of subjectivism and method-
ological individualism and the Austrian School; the prefaces to Cantillon
1931
(orig. 1755), Thornton,
1939c ) (orig. 1802), and his work on Rae and Mill 1943a,
1945; Hayek
1942 , 1943a, 1945, 1951c, 1963b, have to be mentioned. Further on
his studies on three other English Classical Political Economists: Hume (1963),
Mandeville (1966), and Smith (1976), have to be mentioned (see Hayek
1991 ) . It
brings him to insights on which he elaborates in his theory of institutions.
Capitalism and the Historians ( Hayek
1954 ) was one of the books that Hayek
edited. Its purpose was similar to his work in the fi eld of the history of ideas: to
rectify the historical analysis of capitalism, in other words to clear decks.
Strange in the whole of his publications is his book The Sensory Order ( Hayek
1952a ) . It was published in the same time as his study John Stuart Mill and Harriet
Taylor (1951c). Nevertheless, the manuscript of The Sensory Order originates from
about 1920, the beginning of his career. This work may be another key to Hayek’s
work. It may explain why he chose the fi eld of human action as his subject of study
and not one of the natural sciences. He himself writes on this book:
My colleagues in the social sciences fi nd my study on The Sensory Order. An
Inquiry into the Foundations of Theoretical Psychology uninteresting or indigestible.
But the work on it has helped me greatly to clear up my mind on much that is very
relevant to social theory. My conception of evolution, of a spontaneous order and of
the methods and limits of our endeavours to explain complex phenomena have been
formed largely in the course of the work on that book. As I was using the work I had
done in my student days on theoretical psychology in forming my views on the
methodology of the social science, so the working out of my earlier ideas on psy-
chology with the help of what I had learnt in the social science helped me greatly in
all my later scientifi c development. It involved the sort of radical departure from
received thinking of which one is more capable at the age of 21 than later, but
which, even, though years later, when I published them they received a respectful
but not very comprehending welcome by the psychologists (Law, Legislation and
Liberty, Vol. III, pp. 199, 200).
On methodology, he published more extensive. At fi rst, in the thirties ( Hayek
1933a, b , included in Hayek 1991 ; 1937 , included in 1952c), on the methodology of
economic science. Later on the methodology of the social sciences in relation to the
natural sciences became the main subject. He published articles in Economica, titled
The Counter-Revolution of Science ( Hayek
1941b ) and Scientism and Society
( Hayek
1942 –1944). These were republished in 1952 under the title The Counter
Revolution of Science and Other Essays. In the same time as an editor of Economica,
he accepted a series of articles of Karl Raimond Popper on The Poverty of Historicism
(
1944, 1945 ). They were republished in 1957 under the same title. Still later on, he
discussed these problems with Popper in several publications (Hayek
1967 , 1978 ;
Bunge
1964 ).
In his speech in which he accepted the Nobel Prize in 1974 he said:
If man is not to do more harm than good in his efforts to improve the social order, he will
have to learn that in this, as in all other fi elds were essential complexity of an organized kind
prevails, he cannot acquire the full mastery of the events possible. He will therefore have to
use what knowledge he can achieve, not to shape the results as the craftsman shapes his
704 G. Meijer
handiwork, but rather to cultivate a growth by providing the appropriate environment, in the
manner in which the gardener does this for his plants. There is a danger in the exuberant
feeling of ever growing power of which the advance of the physical sciences has engen-
dered and which tempts man to try, “dizzy with success”, to use a characteristic phrase of
early communism, to subject not only our natural but also our human environment to the
control of a human will. The recognition of the insuperable limits to his knowledge ought
indeed to teach the student of society a lesson in humility which should guard him against
becoming an accomplice in men’s fatal striving to control society – a striving which makes
him not only a tyrant over his fellows, but which may well make him the destroyer of a
civilization which no brain has designed but which has grown from the free efforts of
millions of individuals (1978, p. 34).
The Theory of Evolution of Institutions
From all this, he got the insight necessary for the theory of evolution of institutions.
Here the idea of the “invisible hand” (Smith), the idea of institutions as “being the
unintentional consequences of human action, and not of human design (Hume), use
of knowledge, methodological individualism and subjectivism (Menger), Popper
and Mises come together. This is the idea of ‘spontaneous order’, or better, self-
generating order (order without command but through rules)” or “kosmos”.
Some authors think that there is here a contradiction in the work of Hayek. They
even speak of Hayek I and Hayek II. They like Hayek II, because he can be used as
the basis of their theory of evolution of economic and political systems. However,
after the opinion of the present writer, there is continuity in Hayek’s thinking, and
not taking him as one Hayek leads to misinterpretations of his position. In a sense,
Hayek’s work itself is a result of spontaneous order. In this particular case, the ideas
of subjectivism and methodological individualism are consequently used for the
interpretation of the formation of institutions.
His ideas in this fi eld are not in confl ict with his ideas on the (extensive) role of
government with regard to the market order, because the political and economic,
and in a broad sense all institutions, have to be conducive to this spontaneous order.
The concept of planning for competition and his concern for a political order that
makes it very diffi cult for government, but also for private powers (e.g. the entrepre-
neurs, the trade unions, and other pressure groups) to hamper the market order as
elaborated in his Constitution of Liberty (1960) and his trilogy on Law, Legislation
and Liberty (1973a, 1976b, 1979).
Hayek (
1988 ) has tried to fi gure out the necessary and suffi cient conditions for
the creation and preservation of what he called the great society or extended order.
He distinguishes three kinds of rules: genetically inherited rules, designed rules and
spontaneous rules. The gist of inherited rules is instincts. Designed rules are created
or designed by reason. Spontaneous rules are the result of human action but not of
human design. Also he distinguishes between biological and cultural evolution. The
fi rst class of rules is the result of biological evolution, the third of cultural evolution.
With these distinctions, there arises a diffi culty: Where do we fi nd the rules of
705
28 Friedrich August Hayek (1899–1992)
reason (the second class of rules) and what is their relation to biological and cultural
evolution? In his fi rst chapter of The Fatal Conceit, Hayek’s thinking in this respect
is confused and speculative and consequently it has to be seriously doubted whether
this chapter gives a good impression of his work.
Hayek does not see cultural and moral evolution and the evolution of the extended
order as one and the same thing. Hayek is concerned with the interplay of two kinds
of order. The fi rst kind of order is formed by the set of rules of conduct. The second
is the order of actions formed within the set of rules of conduct. For an extended
order, we have to rely on spontaneous rules of conduct. But what about the possibil-
ity of misdirected spontaneous order?
To answer this question, a short digression will be made. Ever since the begin-
ning of the industrial revolution, there have been discussions on the development of
society, often called capitalism. We can mention Saint-Simon, Marx, Mill, Schmoller,
Schumpeter, Sombart, Eucken, Röpke and Rüstow. Hayek shared their concern with
the development of society. There were optimists and pessimists among them.There
were those who thought society ought to be wholly restructured and that this could
be done with a combination of state power and reason (science). Hayek’s position
was that, by studying the evolution of human society, it would be possible to fi nd out
where the existing order had developed in ways that had to be corrected (e.g. money).
He also believed this kind of analysis would enable to foresee where society would
go wrong in the future (e.g. his critique of Lange). But he warned against the hubris
of reason and the possibility of the destruction of freedom by the omnipotent totali-
tarian state. Therefore, he prefers selective intervention by the state, in the form of
planning for competition.
In his Road to Serfdom (Chap. III), Hayek makes the distinction between plan-
ning for and planning against competition. In 1960, he presented a paper to the
Mont Pèlerin Society on the principles of a liberal social order in which he fi rst
gives the reasons why he rejects the criteria of welfare economics (and effi ciency),
and then provides his own criterion: equal opportunity (Hayek
1969 , p. 121). This
is the yardstick for reform, not effi ciency.
In Law, Legislation and Liberty, Volume II, p. 128 f., Hayek also gives criteria
for interference. In this connection, he writes (p. 188):
The distinction introduced by Wilhelm Röpke, Die Gesellschaftskrise der Gegenwart (fi fth
ed., Erlenbach-Zürich, 1948) between acts of interference which conform and those which
do not conform to the market order (or, as other German authors have expressed it, are or
are not systemgerecht) aims at the same distinction, but I should prefer (in the footsteps of
Mises, G.M., see also p. 188) not to describe conform measures as interference.
Hayek was in this respect an optimist. He thought that a just mixture of spontaneous
order and reason would make it possible to avoid dreadful developments. He fought
against the ideas of pessimists like Sombart and Schumpeter. Looking at the possi-
bility of misdirection and totalitarianism, he thought it more likely that we can cre-
ate a good society relying on spontaneous order than by relying on reason and state
power, which tends to destroy spontaneous order. He calls the latter planning against
competition.
706 G. Meijer
In this respect, Hayek has a close affi nity to the School of Freiburg and especially
to Eucken. Eucken (
1990 , 6) attacked Schmoller for his overly optimistic view that
ad hoc and unsystematic interference is enough to create a good society. He attacked
other writers (e.g. Marx and to a degree Schumpeter) for their view that societal
developments could not be infl uenced (1990, 6, pp. 200–212), and were inevitable.
According to him (1990, 6), it was possible to create a competitive order. He referred
to the churches, science and the state as the institutions that are the constitutive
forces for society. He defends the competitive order and clearly points out, that
spontaneous orders have to conform to this system (Eucken
1990 , 6, p. 179).
In 1962, Hayek gave an inaugural lecture at the University of Freiburg, in which
he acknowledged this affi nity. He said in this lecture called Wirtschaft, Wissenschaft
und Politik (Economy, Science and Politics):
Besonders musz ich aber der persönlichen Beziehungen zu Freiburger Kollegen gedenken,
die mich schon seit Jahrzehnten mit dieser Universität verbinden. … Weitaus am wichtig-
sten für mich war aber meine langjährige Freundschaft, gegründet auf völlige
Ubereinstimmung in theoretischen und politischen Fragen, mit dem unvergeszlichen Walter
Eucken (Hayek
1963a, b , p. 1, 2).
Why did Hayek raise this conception of spontaneous order more and more in the
centre of his work? The reason is that among the economists – even within the Mont
Pèlerin Society – there was growing prominence of mechanistic views and policies.
There was disagreement on methodology between Hayek and Friedman and
Buchanan. There were differences on monetary and business cycle theory and pol-
icy, leading him to formulate his proposal of Denationalization of Money in 1976a.
There was also an important difference on the concept of perfect competition
(Knight and Stigler) and on welfare economics (critique on Buchanan).
Hayek was in the end an Austrian economist. This is the background of his life-
long quarrels with economists working in the train of thought of Pareto and the
political proposals coming from this source, whether they were proposals for a pol-
icy of the market order or a policy of the centrally administered order.
There are many questions left in Hayek’s expositions on spontaneous order. In
this respect, Hayek was already following Karl Popper (
1944, 1945 ; 1976 ; Hayek
1948, 1952c, 1967 ) in the thirties ( Hayek 1933a, b, 1937 ; see Hayek 1991 ) . His
ideas on the role of knowledge are heavily infl uenced by Popper. This infl uence is
also strong in the fi rst chapter of The Fatal Conceit.
Hayek (
1973a , Chaps. I and II and 1979) makes a distinction between con-
structivist and evolutionary rationalism. This distinction has affi nity to Popper’s
distinction between naive and critical rationalism. The choice for the latter has
consequences for the nature of (economic) policy to be followed. Liberalism
constrains conscious regulation of the order of society to the enforcement of
rules that are necessary for the formation of a spontaneous order. Hayek distin-
guishes spontaneous order or “nomos” and organization or “taxis”. Although a
spontaneous order is thinkable without force, as a rule (en)force(ment) is neces-
sary. The nomos originates spontaneously and is improved by law, morals and
customs. The government (as organization) has as its fi rst tasks the enforcement
and improvement of law. As a rule, government also has to provide services
707
28 Friedrich August Hayek (1899–1992)
which this spontaneous order needs but cannot adequately produce. This implies
the management of factors of production. As a rule, these two functions are not
clearly recognized. The fi rst task is an essential condition for the maintenance of
the whole order. In the second function, government is an organization among
many in a free society. There are two kinds of rules: law and legislation. The
government has two tasks. First, government has to make and to enforce rules
(legislation) and in the second place to provide services, which otherwise would
not be adequate (management of production factors).
In this connection, Hayek propagates the installation of two representative
bodies: the Legislative Assembly (with the task of legislation) and the Governing
Assembly. If there is a difference of opinion on competence, the last body decides.
The Legislative Body can then protest with the High Civil Court. This Court watches
the constitution. In this constitution, social justice is ruled out as a policy objective,
because it ultimately destroys the market economy, in case of democratic majority
rule. Furthermore, the government is not allowed to have the monopoly of money
supply. There has to be free choice of currency (denationalization of money).
In the light of this short summary and exposition, it may be wholly clear that
according to Hayek:
1. There is an enforcement problem in the spontaneous order.
2. The spontaneous order may be improved by rules of reason.
3. It is government that has the task to do this.
For that reason, the necessary and suffi cient conditions for the creation and pre-
reservation of the spontaneous order has always been at the centre of Hayek’s
research agenda. Therefore, he wrote extensively on problems of economic policy,
to fi nd out which policy ought to be conducted in order not to destroy but if possible
to improve the spontaneous order (See e.g. Hayek
1960 ) .
Evaluation
The evaluation of Hayek’s contributions is not easy. He is not only one of the found-
ers but also one of the representatives of modern economic thought. I think the best
way is to judge him according to his own expressed views. Kresge and Wenar (
1994 ,
pp. 143–144) think he has made two main mistakes in his career: First, not to go into
discussion with Keynes on his General Theory. Second, not to discuss with Friedman
(
1953 ) on his (in the eyes of Hayek) mistaken views on methodology.
In 1976, he published his study on Denationalization of Money (a better title
would have been Demonopolisation of Money). He gave as his opinion that this was
a better proposal for national and international monetary systems than all the previ-
ous ones, inclusive monetarism. It has all the advantages of previous proposals
(partly by himself) and even more. He was opposed to the theory of the monetarists
à la Friedman and the theory of rational expectations. These theories had mistakes,
partly because they were based on wrong methodological views.
708 G. Meijer
His infl uence has been fostered by several events. The most important are his
international orientation and career, the Mont Pélerin Society (founded in 1947) and
the Nobel Memorial Prize in 1974. When he received the Nobel Memorial Prize in
Economic Science, this was a complete surprise to him. He wrote:
I didn’t approve of Nobel Prizes for economists – until they gave it to me of course! Of
course there is a very big advantage to fame: people suddenly listen to you.
He received the prize for his distinguished contributions in monetary theory and
business cycle theory, and the theory of economic systems in the interbellum.
Further on for his interdisciplinary work in the fi eld of the functioning and evolution
of economic and political (legal) systems. The core of this work are his ideas on
spontaneous order, and market competition as a system of information and
discovery.
An earlier important source of infl uence in this respect comes from the Mont
Pélerin Society. The MPS was founded in April 1947 (Hartwell
1995 ) . Hayek was
the fi rst president during the period 1947–1960 and from that time until his death in
1992 the honorary president. In this way, he contributed much to its vitality and
existence.
The Statement of Aims of 1947 declares:
Its object is solely, by facilitating the exchange of views among minds inspired by certain
ideals and broad conceptions held in common, to contribute to the preservation and improve-
ment of the free society (Hartwell
1995 , p. 2).
In science, there seems to be an irremediable inclination to label. Also especially
in politics there, exists the tendency of politicians to refer to renown economists as
there source of inspiration. Hayek was no exception to this rule. This is especially
the case with regard to the United Kingdom during the Thatcher period. He was not
a political activist. He wanted to convince by scientifi c discussion, and in this way
to strengthen the moral and intellectual support for a free society.
The work of Hayek covers a wider fi eld than even political economy, and it is
still too early to evaluate its signifi cance. He contributed to the discussion on the
main controversies in all important fi elds on which economists can shed their light:
economic history, history of ideas and methodology (inclusive the relation of eco-
nomics and ethics), economic theory, theory of economic philosophy, in a balanced,
eclectic and non-doctrinarian way. In this way, he elaborated also a philosophy of
freedom: How to combine freedom and order in a changing human society.
During his life, totalitarianism in several forms especially national socialism,
fascism and communism was an danger for freedom. He, however, did not only
criticize these movements but also tried to fi nd solutions for an as good as possible
functioning free society.
In this way, he made important contributions to law and economics, economic
and political theory, the theory of economic and political systems, gave impulses to
(neo-)Austrian economics (Kirzner), and last but not least the theory of economic
policy for a free society.
709
28 Friedrich August Hayek (1899–1992)
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713
JG B kh ( d) HdbkfhHi fE iTh h
A
Adam Smith’s price theory, 671
AEA handbook, 5
Aristoteleian tradition, Oikos
chrematistic, 16
kinds of chrematistike, 17–18
member, 15
objective of politics, 15
theory of association, 19
B
Barone’s theory, 692
Bentham, Jeremy
catechism, 280
Commentaries on the Laws of England , 280
Constitutional Code, 284
Defence of Usury, 284
economic thought, 287
economic writings, 285–287
father of modern utilitarianism, 279
Fragment on Government, 281
Kritchev, 281
legislator, 282
on property, 292–294
philosopher, 279
reception-infl uence, 294–295
remedies against misrule, 283
Table of the Springs of Action , 283
Taureu-Blanc, 281
Traités, 282, 283
utility theory
factors of production, 289–290
felicifi c calculus, 289
marginal utility, 290–291
pleasure and pain, teaching, 288
works, 284–285
Byzantine authors
Aristotle works, 59
Byzantine Empire three elements, 59
economic studies, Byzantium, 59
just price concept, 59
market and price-mechanism, 60–61
mirror for princes tradition, 61–63
Nicomachean Ethics, 60
C
Cameralists, science of public fi nance
analytical framework, 126–127
civil society, 130
consultant administrators, 123
contemporary public fi nance
choice-theoretic approach, 131
democratic regime, 131
institutional frameworks, 132
interests of shareholders, 133
primary disciplines, 134
Walt Disney World, 133–134
German-speaking lands, 123
mercantilism, 125
Napoleonic wars, 127
physiocracy, 125
postcameralist orientation, 124
power to tax, 129
Smith’s four maxims of taxation, 129–130
state enterprise revenue, 128
state farms, income percentage, 128
Cournot, Antoine Augustin
birth and life, 436–437
elasticity of demand, 459
forerunners and originality, 441
in 1863
algebraic process, 457
economic content, books, 457
political economy, 454, 456–457
principes de la théorie des richesses , 455
Recherches, recognition, 455
Index
714 Index
Cournot, Antoine Augustin (cont.)
law of demand ( see Law of demand)
mathematical economics, 458
mathematical method usage, 439–440
monopoly, 459
Recherches background, 438–439
theory of international trade, 453–455
theory of oligopoly ( see Theory of
oligopoly)
theory of social income, 451–453
value and price, 442
works of, 437–438
D
Der moderne Kapitalismus , 525
E
Eastern christian fathers
Christian Ethics
slavery, 57–58
theodoret, 54–55
usury ( see Usury)
wealth and poverty, 53–54
work, 55
Cynic and Stoic contemporaries, 53
doctrines of Cynics, 53
economic problem assessment, 53
maldistribution of wealth, 52
Economic philosophy, epicureans
epicuraenism, 31
happiness (eudaimonia), 33
philodemus, 31–33
Economics of Oikos, Polis
administrative control, men, 21
Athenian Democracy, 21–22
movement of intellectuals, 19
public fi nance and administration
management, 21
Socrates and Nicomachides, dialog, 20
steward of polis, 21
Welfare Economics, 22
Entwicklung, 367. See also Gossen, Heinrich
G
German socialism, 535
Gossen, Heinrich
and book
Gossen’s life, 369–370
Theory of Political Economy , German
book, 368–369
utilitarian orientation, 370–371
exchange
algebra, 378–379
Gossen’s thesis and dubious
utilitarianism, 379
marginal utilities, 377
quantity of good, 377
workable criterion, 376
fi rst and second laws, 367
habits, 379–380
man behaviour analysis
geometrical tools, 371
marginal utility, 371–372
optimal allocation, 372–374
optimal labour time, 374–375
policy recommendations, removing
obstacles
land reform, 383
obstacles, 382
positive theory, 381–382
preacher-economist, 383
principle and laws, 380–381
system of “laws of nature,” 384
utility maximisation, theorem, 368
Government intervention
authoritarian government, 254
Laisser-Faire /Non-Interference Principle, 253
limits to government, 254–255
Mill’s broad case
charity and welfare programs (Section
13), 262–263
culture and education, 255–257
delegated agency (Section 11), 258–259
external effects (Sections 12 and 14),
261–262
irrevocable decisions (Sections 9–10),
257–258
public-goods problems (Sections 12
and 15) ( see Public-goods
problems)
Government, roles and scopes
digression
Big State power, 250
Bill of rights, 249
constitutionalist, 250
democratic utopianism, 252
distributive justice, 248
kinder, gentler, 252
On Liberty , 255
political writings, 251
representative government, 251
Smith’s “invisible hand” principle, 252
government’s duties, 248
systematic exploration of government’s
role, 248
715
Index
H
Hayek, Friedrich August
biography, 690–691
centrally administered economy
Barone’s theory, 692
central authority, 693–695
collective property, 692
conservatism, 695
elasticity of demand, 694
free exchange economy, 691
general equilibrium theory, 692
planning authority, 693
pricing process, 693
value of money, 691
Denationalization of Money, 707
economic and political systems, 700–701
economic policy and market economy, 702
ideas, psychology, methodology, 702–704
monetarism, 707
monetary over-investment theory
business cycle, 696
capital goods industry, 695, 696
consumption goods industry, 695, 697
credit policy, 697
forced savings, 697
infl ation and defl ation, 696
Keynesian business cycle theory, 698
monetary interest rate, 696
money creation, 695
national and international monetary
system, 699
national income, 698
natural interest rate, 696
role of banking, 696
stagnation thesis, 698
Mont Pélerin Society, 708
theory of evolution of institutions
ad hoc and unsystematic interference,
706
Austrian economist, 706
capitalism, 705
constructivist and evolutionary
rationalism, 706
designed rules, 704
genetically inherited rules, 704
kosmos, 704
law and legislation, 707
liberalism, 706
liberty, 704
monopoly, 707
School of Freiburg, 706
spontaneous rules, 704
subjectivism and individualism, 704
trilogy on law, 704
theory of market structures, 699–700
Heterodox contributions
dynamic tendency of profi ts, minimum
classical economics, 237–238
private and public investment, 238
public benefi t, 239
stationary state path, 238
futurity of labouring classes
employer and employee relationship,
243–244
improvements in transportation, 243
market-based competitive forces,
245–246
material benefi t, 245
orthodox capitalism, 244
heterodox ideas, 237
orthodox classical political
economy, 236
reinterpretation of stationary state
economic growth, 239
education, selfl ess service, 240
prudence and public opinion, 239
stage of development, 242
stationary-state chapter, 242–243
themes, 241
types of fi ne sentiments, 240
unearned income from land, proposed tax,
246–247
Homo oeconomicus
democritus, 13
Homer’s description, Cyclops, 11
household maintenance, 13
Phokylides of Milet, 12
Pittakos of Lesbos, 12
presocratic philosophers, 12
Works and Days, 11–12
I
Ibn Khaldun’s economic thought
book of history, 69
division of labour, 70
factor of production, 71
fundamental economic notions, 72
social milieu, kinds, 70
taxation, Government, 71
K
Karl Marx, 503–504
capitalism and praxis approach
antagonism, 327
antinomy of idealism and
materialism, 329
716 Index
Karl Marx (cont.)
communism defi nition, 328
Critique of Political Economy, 330
dimension of alienation, 331
Economic-Philosophical Manuscripts,
empirical-critical study of
economics, 327
Epikur and Demokrit, 326
Marx’ second ideal or dimension, 328
Marx’ third dimension, 329
marxism, 331
philosophical-dialectical
materialism, 326
structure of human society, 326
work and labour, 327–328
communism, 323
contributions and relevance
decolonization policies, 343
eco-socialism, 346
European social democracy, 342
industrialism and economism, 344
intellectual Marxism, 343
international reserve army, 344
Russian revolution, 342
sustainable socialism, 344–345
economic theorizing, 322
economics and ideology, neoclassical
vulgar economics, 335–337
good society’s view
Commune in Paris, 338
Commune/council system, 342
communist revolution, 337
dogmatic materialist version, 339
Erfurt program of social-democrats, 340
Gotha program, 339
industrial armies, 339
Marx’ description of communism, 340
revolutionary dictatorship of
proletariat, 338
socialism, 341
Veblenian diagnosis of emulation and
status rivalry, 341
zoon politicon, 340
human costs of capitalism, 322
life, 321–322
Marx’ critique, capitalist societies, 325
Marx’ theory, 325
Marxism-Leninism, 325
materialism, 324
modern societies and labour theory of
value
degree of mechanization, 333
economic long-run evolution, capitalist
societies, 334
feudalism, 333
good’s value determination, 332
transformation from money to
commodities, 335
transformation problem, 334
value of labour and wage rate, 332–333
wage contract, 332
productivity economic system, 324
radical Hegelian philosophy, 321
system of exploitation, 321
Keynes, John Maynard, 504–505
American economic policy, 631
bifurcations of economics, 637
British economic situation, 631
business cycle policy, 629–630
business cycle theory, 627–629
classicism, 634
Collected Writings volume, 633
constructivism, 616
credit cycle, 632
economic theory
corpus of knowledge, 618–619
fallacy of composition , 617
fi xed rules, 617–618
monetary policy ( see Monetary policy)
roots of uncertainty and ignorance, 620
shaping international monetary
relations, 612–613
Taylor-rule, 608
empiricism, 615
epistemology, 615
fi nancing of Central Bank
Bank of England, 663
bankruptcy, 661
credit means of payment, 660
creditor’s and a debtor’s money, 663
economic-political publications, 659
fi scal policy, 661
James Steuart’s principles, 663
Post Keynesian State theory of
money, 659
representative money, 663
speculation funds, 662
Government printing money, 641–642
Indian fi nance, 635
Kantian philosophy, 616
Karl Marx of neoclassical economics,
664–665
Keynesian Revolution, 634
life and career, 642
macroeconomic theory, 626, 634, 636
Marshallian microeconomic approach,
636, 637
Monetary theory of production, 643–644
717
Index
money and banking course, 625
ontological realism, 614
orthodox theory, 614
perplexity, 638
price index, 638
price-wage employment structure, 632
revolutionary theory, 632
rules vs. discretion
central banking model theory, 607
expectation-building process, 607
international monetary system, 606
k-percent-rule, 607
Keynesian strategy, 607
new classical macroeconomic, 606–607
non-reactive rule, 606
quantity theory, 606
state-contingent rule, 608
sociology of economics, 632
theory of central banking
British system, 650
fi nancial and monetary policy, 651
fi nancial loans, 650
German monetary theory, 651
gold and foreign currencies, 649
industrial loans, 650
non-interventionistic central banking
system, 650
reserves of commercial banks, 649
State-issued bills, 652
supply of money, 650
theory of interest and employment
“ the effective demand ” principle, 653,
655, 656
aggregate demand function, 654–656
aggregate supply function, 653–656
bootstrap theory, 652
demand and supply curve i, 655
economy control, 657
fi nancing of public work
programmes, 656
fi scal policy, 658
hoarding, 653
labour productivity, 656
liquidity trap, 658
marginal effi ciency of capital, 657
money production, 658
theory of money
bank money, 645, 646
Bank of England, 647
capital market, 644
central bank money, 647
creditors and debtors, 648
debt and price lists, 645
debt title treasury note, 648
European Monetary Union, 648
fi xed-interest-bearing securities, 644
government-issued treasury notes, 647
loanable funds/pool, 644
representative money, 646
State liabilities, 647
State money, 644, 645
Treatise on Money , 626, 630–631
value and distribution microtheory
course, 625
Versailles Conference and Treaty, 635
Keynesian business cycle theory, 698
Keynesian strategy, 607
L
Law of demand
commercial statistics, 444
commodity demand relation, 443
condition of maximizing revenue, 445
demand curve, 444
kind of utility, 443
linear approximation, 443
Marshallian elasticity of demand, 445
monopoly price determination, 446
scientifi c theory foundation, 442
Laws of production and distribution
classical distribution theory, 213
classical distributive doctrine, 212, 215
consequential and schizoid distinction, 214
distinction between production and
distribution, 210
human design, societal control, 213
long-run optimism, 211
orthodox classical tradition, 214
Ricardian economics, 211
social policy, 211
sordid money-grubbing behaviours, 211
List, Friedrich
biographic notes, 350–351
economic development, 349
economic history of industrialization, 362
historical data and notes, 352–353
infrastructure policy, 349
modern economic theory, 362–363
political economy, major contributions
Constitution of State and public
administration, 355
criticism of public administration and
public fi nance, 357, 359
demands, 355
departments of economic policy, 360
economic development, industrial
sector, 360
718 Index
List, Friedrich (cont.)
economic growth stabilization, 361
German trade-system, 359
Grundverfassung, 357
internal and external tariffs, 359–360
lifetime and activities, 353–354
political and economic problems,
357–358
principles, 356
private property, taxation, 357
protective educative-tariffs, 353
theory of productive resources, 360
vision of federalism, 355
public administration, 349, 362
public fi nance, 362
theory of economic development, 362
theory of international economics, 362
Lyceum (peripatos)
agriculture, 27
Cynic theory, 28
Demetrius of Phalerum, 25–26
kinds of economy, single rule, 27
oeconomica chapters, 26
Tripolitikos, 26
work Oeconomica, middle ages and
renaissance authors, 28–30
M
Marshall, Alfred
assessment, 506–507
biography, 494–496
context
analysis of technological
unemployment, 497
captain of industry, 498
entrepreneurship, 498
modern economic analysis, 497
national character, 499
principles of economics, 496
Samuelsonian approach, 497
Weber’s analysis, 499
contributions
elasticity of expectations, 502
equilibrium fi rm concept, 501
general welfare, 502
Hicks’s Theory of Wages, 502
low-powered theory and high-powered
theory, 500
static analysis of market, 501
statical theory of equilibrium, 501
study of economic history, 500
economic development, causes and
processes, 494
economists
Karl Marx, 503–504
Keynes, John Maynard, 504–505
Samuelson, Paul A., 505–506
Schumpeter, Joseph Alois, 504
Smith, Adam, 503
von Hayek, Friedrich A, 505
interest in realism, 493
Marshallian microeconomic approach, 636, 637
Marxist social theory, 5
McCloskey’s ten commandments, 536
Menger, Carl
ample empirical evidence, 427
biography
birth and family, 413–414
German tradition, 414
interest on capital, 416
marginal utility and equimarginal
principle, 415
Wiener Zeitung, 414–415
wirklicher, 414
content-enlarging and truth-preserving
inferences, 430
evaluation of Menger’s contribution,
432–433
exchange and relative prices, 429
induction principle, 431–432
methodological inductivist essentialism
Aristotelian essentialism, 418
criticism, 417
essentialist doctrines forms, 417
exchange explanation, 423
Grundsätze and Untersuchungen ,
417, 422
labour and labour theoretical
explanations, 424–425
labour cost theoretical explanations,
exchange, 424
methodological principles, 420
naturalistic description, social science
methodology, 419
price theory, 416
research program, 421
Roscher’s position/version, 420, 421
subjectivist evaluation theory, 416–417
theoretical social sciences task, 422
theory of objective evaluations, 423
unifi ed price theory, 420
uniformity of nature, principle, 419
Untersuchungen , 422
methodological inductivist nominalism
concept of marginal utility, 428
content-enlarging and truth-preserving
inferences, 425
719
Index
exchange and relative prices, 428
hierarchical conception of goods and
services, 426
inductive methodology of empirical
sciences, 427
methodological inductivist
essentialism, 425
methods of social sciences, 425–426
nominalist and relational behavioural
approach, 429
psychological hypothesis, 429–430
theory of subjective evaluations, 430
Mercantilism
characteristic prescriptions, 94
debate
dynamic theory of causality, 108
elements of mercantilism, 111
foreign trade, 111
gold reserves, 104
home-market monopoly, 104
human anthropology, 112
laissez-faire doctrine, 111
liberalism, 110
market economy, 109
Marshall’s later theory of dialectics, 112
mercantile rationalization process, 106
mercantile system essence, 107
modern capitalism, 107
monopolistic restriction, 106
rent-seeking phenomenon, 108
Smith’s class analysis, 105
spirit of monopoly, 105
supply-and demand-schedules, 106
system of power (Cunningham),
109–110
systems of political economy, 154
trade scheme, 112–113
wealth defi nition, 104
economic assumptions/policy, ideas
economic structure, 97
exchange rate, 96
fi nished goods import, 96–97
intranational economic situation
analysis, 97
Misselden’s critique, 96
money circulation, 96
principles of taxation, 97–98
unemployed resources, 95
European states, economic policy, 93
interpretations, 118
neo-mercantilist message, 118
Rutherford distinctions, 117–118
Steuart, James principles
economic competition, trade, 117
labour theory of value and societal
development, 114
mercantilist revolution, 113
Pareto principle, 115
political oeconomy, 114
population and agriculture, 113–114
Steuart’s pragmatic
self-understanding, 113
taxes, 117
theory of supply and demand, 115–116
trade and industry, 115
T. Mun, England’s treasure
Blaug’s statement, 99
economic product, sovereign’s share, 101
exchange-surplus aspect, 99
exports and imports, 98
inelastic foreign demand, 98
market price, 99
merchant qualities, 98
situation of Spain, 100
supply and demand equilibrium, 100
theoretical deep structure, 101–103
transformation process, 94
Mill, John Stuart
character, social science
autobiography , 191–192
capitalism, 188–189
England’s upper classes, 189
epistemological status, intuitive, 190
Malthusian population theory, 187
Malthusian trap, 188
one-person-one-vote, democracy, 190
principles of political economy , 193
pursuits method and goal, 189
rational self-interest, 188
early life, 181–183
economic truths, 179
economist, 179
free-market thinker, 181
heterodoxy, 180
laissez faire advocate, 180
later life
India House, 264
marriage relation, 263–264
Parliamentary Reform, 265
primary achievements, 265
Socialism, 266
legacy
benefi ts of smart growth, 270
books on political economy, 266
capitalism, 268
classical economics, 268
crafting voting systems, 273
democratic-government rent-seekers, 272
720 Index
Mill, John Stuart (cont.)
free-market principles, 269
heterodox economic theory, 268
market failure, 269
orthodox and heterodox
contributions, 267
public sector and private agency,
270–271
leviathan, 273–275
logic and world fame, 201–203
mental crisis
cultivation of character, 186
emotional shortcomings, 187
great man theory, 187
personal crisis, 184
romantic poets, 185
sentimentalism forms, 185
utilitarian rationalism, 186
principles of political economy, 180
Benthamism and classical political
economy, 209
capitalism and altruism, 208
classical theory, 206
government intervention ( see
Government intervention)
government, roles and scopes ( see
Government, roles and scopes)
heterodox contributions ( see Heterodox
contributions)
laws of production and distribution ( see
Laws of production and
distribution)
material principles, 207
organization of principles, 209–210
orthodox contributions ( see Orthodox
contributions)
scope and reputation ( see Scope and
reputation)
reaction against bentham
Benthamism, 193
German metaphysical
mystic, 195
great man theories, 196
interest-philosophy, 200
laissez-faire principles, 195
laws of production, 198
orthodoxy, 197
radicals and liberals, 194
rational laws, 196
reformed vision, 195
social capital movement, 199
socialistic scheme, 198
societal laws of motion defi nition, 199
stage theory, 199
utilitarianism, 196
voluntarily socialist society, 201
Modern capitalism
“artifi cial” intervention, 550
“primitivist” tradition, 543
“welfare effects,” 542
Aristotelian principle, 541
bound vs. free rules, 541
British mercantilist theory, 547
capitalist-worker relationship, 547
coke procedure, 549
craft system, 542, 547
craftsmanship, 544
democratic vs. aristocratic, 541
difference closed vs. dissolved concerns,
541
economic macro process, 547
economic rationalism, 544
erratic-traditional modes, 546
forced competition, 551
Fronhof economy, 542
historical-theoretical economics, 552
homo oeconomicus , 552
imperialism, 549
individual vs. communal fi rms, 541
individualist vs. solidary, 541
mercantilist policy, 544
metaphysics, 542
oikos economy, 542
organic vs. non-organic, 542
principle of profi t, 544
principle of satisfaction, 542–544
private vs. public orientation, 541
profi t principle, 543
quality competition, 551
quantity theory of money, 545
rationalization, 548
Seele principle, 544
spiritualization, 551
stationary vs. revolutionary, 542
structure of capital, 550
supremacy, 545
surrogate competition, 551
traditional vs. rational, 541
tribal societies, 542
turbo-capitalism, 547
Verstehen method, 545–546
village economy, 542
Modern economics, 671
AEA handbook, 5
case-by-case basis, 4
doctrinal history, 2
economic technology practitioners, 1
economic thought instruction, purposes, 2–3
721
Index
economist’s ranking, 4–5
Marxist social theory, 5
oral tradition, 2
purposes and course titles, 3–4
second research area, rankings, 5
subdisciplines of economics, 3–4
survey data analysis, 2
Monetary over-investment theory
business cycle, 696
capital goods industry, 695, 696
consumption goods industry, 695, 697
credit policy, 697
forced savings, 697
infl ation and defl ation, 696
Keynesian business cycle theory, 698
monetary interest rate, 696
money creation, 695
national and international monetary
system, 699
national income, 698
natural interest rate, 696
role of banking, 696
stagnation thesis, 698
Monetary policy
“rules of the game,” 610, 611
de facto parity , 610
gold standard, 610
international standard, 610
non-metallic standards, 611
non-synchronization of time, 609
orthodox theory, 611
rigid/robotic rules, 609
O
Orthodox contributions
classical value theory, restatement
absolute monopoly, 217
absolute value and relative values, 218
catallactics/science of exchanges, 216
cost-of-production value theory,
217–218
perfect competition paradigm, 219
postponement of value theory, 216
heterodox, 215–216
international exchange ratios and price
elasticity of demand
cost-of-production, 222
international trade theory, 221
reciprocal demand, 221–222
rectangular hyperbola demand curve,
224
trading, 222–223
macroeconomic contributions
classical theory, problem, 232–233
excess demand for money, 233
macroeconomics treatment, 232
modern business cycle theory, 234
monetary disequilibrium theory, 234
National debt, 235–236
Say’s Law, 233
survey of classical macroeconomics, 236
twentieth-century monetary theory, 235
modern growth theory
inelasticity of demand, 227
labouring classes improvement, 228
pro-capitalist positions, 227
statics and dynamics, 226
technology shock, 229
wages-fund, 228
public goods, 225–226
standard economic theory, 15–16
supply, demand, elasticity, 219–221
taxation, government and welfare
act by general rules, 232
modern taxation theory, 229–230
person and property, 231
window-tax, 230
theory of joint supply, 224–225
P
Philosophers, economic thought of
Cicero’s Stoicism, 49
division of labor, 52
Oeconomicus, translation, 50
primitive condition of society, 51
Tiro’s draft, 50
Physiocrats
fate of physiocracy, 156–157
founders and disciples
agriculture, medicine and surgery, 138
economistes, 140
foreign innovations introduction, 138
formation of groups, 139–140
L’ami des hommes ou Traité sur la
population , 138
mercantilist tradition, 138
political position, 139
social movements and trusts, 139
themes of agricultural economy, 139
France in eighteenth century, 141–142
physiocracy interpretation and evaluation
agrarian capitalism, 153
agricultural capitalism, 153
Dutch and English models, 154
Forbonnais science of trade, 154
Leontiev’s calculus, 155
722 Index
Physiocrats (cont.)
physiocrats instruments, 155
physiocrats scientifi c approach, 155
systems of political economy, 154
Tableau economique
agriculture, 151
interpretation, fl ows of expenditure, 150
political theory, 152
Quesnay’s and Mirabeau’s disciples, 152
theory of physiocrats
concept of evidence, 145
despotism, 147
Fermiers, 148
Hommes, 149
Impôt, 149–150
Royaume Agricole , 148
works of physiocrats
articles and publications of Quesnay,
142–144
physiocrat theory, 145, 146
produit net, 145
Public-goods problems
discussion of public goods, 260
government agency, 261
State enforcement, working hours, 259
voluntary agreement, 259
voluntary non-profi t cooperation, 260
R
Ricardo, David
abstract reasoning and deduction, gold, 175
breakdown of capitalism theory, 176
coral maker/trader, 173
Geological Society, member, 174
House of Commons, member, 175
labour theory of value, 176
neo-classical interpretation, 175–176
political liberalism, 176
Portuguese Jewish Community, 173
Price of Gold, article, 174–175
religious education, 174
reproducible and non-reproducible goods,
176–177
Ricardo’s long-run price theory, 176
social relationships study, 175
stock exchange, 174
stockbroker, 173
S
Samuelson, Paul.A., 505–506
Schmoller, Gustav
historian/economist
capitalism, 387
economic science, 387
intellectual reproduction/doctrine, 387
Pfl egeversicherung, 389
scientifi c community, 389–390
World War I, 388
methodology
as science, 406
cardinal metric scale, 407
German administration, social
reform, 408
sources of knowledge, 407
practical signifi cance of theoretical
approach, Halle university
abandonment of private property, 401
Die Arbeiterfrage, 400
economic policy, 402
ethical obligations, 401
insurance system, 403
laws of historical development, 406
machinery utilisation, 401
methodological arguments, 403
peace of society, 403
plutocracy, 402
political balance, 406
production equipment, 406
social policy, 405
social problems, 401
statistics professor, 400
subsidiarity principle, interventions, 404
Verein für Socialpolitik, 401
scientifi c dignity, 392–394
social sciences and historical research
methods
artifi cial pollination, 395
Berlin University, 399
biology, 395
Detailuntersuchungen, 397
economic institutions concept, 400
economic situation evaluation and
theoretical analysis, 400
experimental conditions, 398
scientifi c research and revolution, 394
taxation, fi nancial and administrative
practices, 396
theory of behaviour, 396
world of mind/spirit, genius and world
of matter, 397
value judgements, 390–392
Schumpeter, Joseph Alois, 504
academic life, 584
ambitions, 583–584
Austrian aristocracy, 583
bank credit, 593
723
Index
comprehensive sociology
defi nition, 586
metatheory, 589–591
substantive theory, 587–589
two-structure approach, 586, 587
decade of sacred fertility, 584
dichotomy of statics and dynamics, 591
dynamic man, 592
economic man, 591
education, 584
entrepreneur, 593
evolutionary development of
society, 591, 592
history of economic analysis, 585
innovation, 593
institutional economics, 593
intellectual fi eld and habitus, 581–583
mechanisms of dynamics, 593–594
Ministry of Finance, 585
neoclassical economics, 584
notioin of institution, 591
rhetoric of antithesis, 594–596
rhetoric of metaphor
allegory, 597
biology and evolutionism, 598
entrepreneur and leader, 598
image production, 596
physics and economics, 597
rhetoric of paradox
coordination of knowledge, 599
creative destruction, 600
decaying capitalism, 600–601
gap in knowledge, 599
importance of statics, 599–600
Schumpeter’s rhetorical gems, 601–602
Schumpeter’s research program, 593
social value, 592
static man, 592
trilogy, 584, 585
Smith, Adam, 503
circular fl ow, 163
economic analysis, 163
economic growth causes, 164
education, 166, 168
English model, 169
equity and effi ciency, 167
forms of organisation, 167
fourth economic stage, socio-economic
structure, 168
incentive argument, 168
insolence of offi ce, 169
lectures on jurisprudence, 162
legislation adjustment, 169
logic and moral philosophy, 161
moral and political behaviour standard,
169–170
parts of teaching, 161
private course, 161
public works, 166
series of judgements, 164
Smith’s advice to legislator, 164
Smith’s monetary analysis, 165
socio-economic groups, 163
specifi c model of economy, 163
students free movement, teachers and
institutions, 168
TMS, 161–162
trade and profession, 167
treatment of jurisprudence, 162, 168
Sombart, Werner
anthropology and sociology, 527
aristocracy, 529
Board of Trade, Bremen, 527
Breslau University, 528
calm late capitalism, 554
campagna organism, 529
communal policy, 527
embrace of capitalist civilization, 530
free market mechanisms, 530
Heilbroner’s list, 526
human nature and social action, 531–533
humanist education, 528
inner colonization, 553
liberalism and capitalism, 526
military naval expansion program, 528
modern capitalism
“artifi cial” intervention, 550
“primitivist” tradition, 543
“welfare effects,” 542
Aristotelian principle, 541
bound vs. free rules, 541
British mercantilist theory, 547
capitalist-worker relationship, 547
coke procedure, 549
craft system, 542, 547
craftsmanship, 544
democratic vs. aristocratic, 541
difference closed vs. dissolved
concerns, 541
economic macro process, 547
economic rationalism, 544
erratic-traditional modes, 546
forced competition, 551
Fronhof economy, 542
historical-theoretical economics, 552
homo oeconomicus , 552
imperialism, 549
individual vs. communal fi rms, 541
724 Index
Sombart, Werner (cont.)
individualist vs. solidary, 541
mercantilist policy, 544
metaphysics, 542
oikos economy, 542
organic vs. non-organic, 542
principle of profi t, 544
principle of satisfaction, 542–544
private vs. public orientation, 541
profi t principle, 543
quality competition, 551
quantity theory of money, 545
rationalization, 548
Seele principle, 544
spiritualization, 551
stationary vs. revolutionary, 542
structure of capital, 550
supremacy, 545
surrogate competition, 551
traditional vs. rational, 541
tribal societies, 542
turbo-capitalism, 547
Verstehen method, 545–546
village economy, 542
national socialism, 526
national/local economy, 529
non-capitalist economic system, 553
primitivism, 555
principle of autarky, 555
proletarianization, 530
revenue-maximizing spectacle, 556
social egalitarian policy, 528
social-functional theory, 529
socialism
anti-chrematistic tendency, 534
British trade unions, 534
German socialism, 535
internationalism, 534
literary psychological analysis, 534
Marxist evolutionary hypotheses, 533
Sozialismus und soziale Bewegung , 528
theoretical historicism, 525, 527
universities of Berlin, 527
Verstehen
“quantifi cation only” principle, 536
“working ideas,” 538
economic theories, 536, 537
empirical science, 537
fi ctional laws, 539
market/exchange models, 538
McCloskey’s ten commandments, 536
quantitative theoretical mainstream
scheme, 540
Sachverstehen , 538–539
Seelenverstehen , 539
Sinngesetze , 539
Sinnverstehen , 538
Stilverstehen , 539
threefold classifi cation and
dichotomies, 538
Steuart, James
annuity debts selling, 684
banknote circulation
claim redemption, 679
credit system, 679
creditor’s money, 680
debtor’s money, 681
Heinsohn’s and Steiger’s property
theory, 678
John law, 677, 678
land, purchase and mortgaging, 678
loan market, 680
profi t-orientated lending, 680
rate of interest, 679, 680
rules of banking, 678
history of economic thought, 668–669
life history, 667
mainstream monetary theory, 682
mercantilism, 683
economic competition, trade, 117
labour theory of value and societal
development, 114
mercantilist revolution, 113
Pareto principle, 115
political oeconomy, 114
population and agriculture, 113–114
Steuart’s pragmatic
self-understanding, 113
taxes, 117
theory of supply and demand, 115–116
trade and industry, 115
money of account
banking principles, 676
coins and banknotes, 673–674
credit arrangement, 674
credit banks, 675
foreign banks transactions, 677
fostering trade, 672–673
modern central banks, 676
money-generating mechanism, 676
mortgage, 676
pledge theory of money, 674
property theory of interest
and money, 674
trust of investors, 675
non-redeemable fi at money, 682
Walter Bagehot, 684–685
wealth and liberty
725
Index
Adam Smith’s price theory, 671
barter model, 670
credit-based money, 670
demand and supply equilibrium, 672
exchanges of goods, 670
feudal system, 669
free nation’s economy, 669
labour, 669
modern economic theory, 671
neoclassical economics, 671
Stoic economic thought
Diogenes of Babylon and Antipater of
Tarsus, trade dispute, 34
later stoic infl uences, fi eld of economics
De Iosepho/The Statesman , 34–35
Dio of Prusa, 36–37
household management, stratecraft, 35
rural life, 36
microeconomic concept, 33
philosophy, ethics, and religion system, 33
Politeia , 33
T
Theoretical context
classical economist, 300
empirical agricultural studies, 300
mercantilist principles, 302–303
prästabilierter, 301
romantic-ethical direction, 301
socialists, thinking and writings, 302
workers’ material conditions, 302–303
Theory of central banking
British system, 650
fi nancial and monetary policy, 651
fi nancial loans, 650
German monetary theory, 651
gold and foreign currencies, 649
industrial loans, 650
non-interventionistic central banking
system, 650
reserves of commercial banks, 649
State-issued bills, 652
supply of money, 650
Theory of interest and employment
“the effective demand”
principle, 653, 655, 656
aggregate demand function, 654–656
aggregate supply function, 653–656
bootstrap theory, 652
demand and supply curve i, 655
economy control, 657
fi nancing of public work programmes, 656
fi scal policy, 658
hoarding, 653
labour productivity, 656
liquidity trap, 658
marginal effi ciency of capital, 657
money production, 658
Theory of market structures, 699–700
Theory of money
bank money, 645, 646
Bank of England, 647
capital market, 644
central bank money, 647
creditors and debtors, 648
debt and price lists, 645
debt title treasury note, 648
European Monetary Union, 648
fi xed-interest-bearing securities, 644
government-issued treasury notes, 647
loanable funds/pool, 644
representative money, 646
State liabilities, 647
State money, 644, 645
Theory of moral sentiments (TMS), 161–162
Theory of oligopoly
assumptions, 447
extensions, 449
graphical representation, 448
oligopoly of complementary goods,
449–451
price defi nition, quality function, 447
total quantity of sales, 447–448
Thünen rings
agricultural production, 304–305
price level, grain and transport, 305–306
transport costs, 305
Tradition of economic thought, Mediterranean
World
ancient Greek philosophy, 72
Arab-Islamic economic thought
‘mirror for princes’ literature, 67
Bryson’s work, 69
Farabi’s work, 69
hisba manuals, 67
household economics, Greek
Oikos , 68
Ibn Khaldun’s economic thought ( see
Ibn Khaldun’s economic thought)
Kitab al Kharaj (Manual on
Land-Tax) , 67
neo-Pythagorean Bryson, 68
Plato’s analysis, 69
Taqi al-Din Ahmad bin Abd al-Halim/
Ibn Taimiyah, 67
Byzantine economic thought
Eastern christian fathers ( see Eastern
christian fathers)
726 Index
Tradition of economic thought (cont.)
later Byzantine authors ( see Byzantine
authors)
occupation of intellectuals and
scholars, 63–66
classical Greek economic thought
aristoteleian tradition, oikos ( see
Aristoteleian tradition, oikos)
economics of oikos, polis ( see
Economics of oikos, polis)
homo oeconomicus ( see Homo
oeconomicus)
socratic evidence, 13–15
Hellenistic times
economic philosophy, epicureans
( see Economic philosophy,
epicureans)
Hellenistic period, 23
lyceum (peripatos) ( see Lyceum
(peripatos))
neopythagoreans, 37–39
oikonomia, 24–25
stoic economic thought ( see Stoic
economic thought)
utopias ( see Utopias)
wealth and labour, cynic sect ( see
Wealth and labour, cynic sect)
history of economic analysis, 8
Kaiserreden patterns, 10
Roman heritage
agricultural economists, 47
economic element in
Roman law, 48–49
philosophers, economic
thought of ( see Philosophers,
economic thought of)
summa theologica, 9
U
Usury
Cappadocean Fathers, 56
Christian literature, 56
employment of usury, 56
Parable of Talents, 55
tokos , 57
Utopias
exchange value
determination, 46
Hiera Anagraphe, 44
King Philanthrop, 43–44
Staatsroman, 43
Sun Polis , 44
World-State, 45–46
V
von Hayek, F.A., 505
von Stackelberg, Heinrich
“Stackelberg Rent-Seeking,” 575
business applications, 573–574
duopoly and oligopoly, 571
game theory, 572
History of Economic Reasoning , 571
industry applications, 574
mathematical economics, 572
modern theory, 576–578
National Socialist German Worker’s
Party, 565
Nazi party, 566, 567
personal communication, 568
policymakers, 574–575
political writings, 566
Russian communists, 566
scientifi c techniques application, 572
The Journal of Political Economy , 571
theoretical and historical context, 569–570
theory of monopolistic markets, 570
Theory of the Market Economy , 569
University of Cologne, 567
University of Madrid, 568
von Thünen, Johann Heinrich
biography, 297–298
context in theory and history
historical background, 299–300
theoretical context ( see Theoretical
context)
contributions, modern theory
founder of location theory, Political
Economy, 317
German economists, 315
location theory, 315
theory of general equilibrium, 316
Thünen’s natural wage rate level, 316
range of contributions
agriculture, 314–315
business administration, 313–314
economic method, 309–310
social contribution, 311–313
spatial economics, 314
wage and capital theory, 310–311
Thünen rings ( see Thünen rings)
wage and capital theory ( see Wage and
capital theory)
W
Wage and capital theory
assumptions, formula, 308–309
classical theory of natural wages, 308
727
Index
fi rst order condition, 307–308
marginal productivity theory, 306
natural wage rate, 307
Thünen formula, natural
wage, 307
Walras, Léon
1954 onwards, 488–489
analytical economics, 463
auctioneer, 463
biographic and bibliographic facts,
464–466
blueprint of ideal, 481–482
calculation debate, 485–486
digression on money, 482–483
Econometrica , 484
economic narratives, 490
free competition
analysis of free competition, 469
annual market period, 471
continuous market, 471
equilibrium, demand
and supply, 469
failures of free competition, 471
general economic equilibrium
models, 469
laisser faire, 466–467
model of capital formation, 469
model of fi xed-capital
formation, 469
model of production, 469
Walras’s equilibrium models, 470
general economic equilibrium
competitive markets, model, 468–469
conditions, 464
dual quantities of capital and
parameters of model, 468
production and trade, 467
types of agents, 468
General Theory , 487
Kapital und Kapitalzins , 485
ownership and taxation, 480–481
persuasion certainly, 489
private and public goods
conditions, 478
economic competition, 479
economic monopolies, 479
monopoly, 479
private goods, 479
production technique, 479
situation distinguishment,
conditions, 478
state intervention, 479
state monopolies, 479–480
quantity theory of money, 488
systems of equations and solution
constant coeffi cients of production ,
models, 472
economic equilibrium
situations, 472
equilibrium points, 474
method of counting
equations, 473
modern advanced mathematics, 474
production function, 473
selling capital services, 472
three kinds of variables, utility
functions, 472
Walras’s system, size, 473
tâtonnement
general economic equilibrium
situation, 476
idea, primary and secondary
effects, 476
kind of dynamics, inter -period and
intra -period dynamics, 477
market process, 474
nature of equilibrium, 475
pledges, 476–477
Walras’s general equilibrium theory,
review, 486
Wealth and labour, cynic sect
Cynic state essence, 39
Cynic theory, characteristic
feature, 40
Nemesis, 42
Onesicritus, Indian sages, 41
Politeia, 40
self-suffi ciency, Cynic idea, 39
social revolution, 42
Wicksell, Knut
capital, production, and
stationary states
Euler theorem, 515
marginal productivity
theory, 515–516
product exhaustion, 516
second theorem of welfare
economics, 516
Theory of economic development , 517
contemporary relevance, primary lines, 511
Davidson, 512
life and work, 512–513
money, interest, and coordinationist
macroeconomics
business cycle theory, neo-Wicksellian
enterprises, 519–520
Interest and prices , 519
Keynesian orientation, 520
728 Index
Wicksell, Knut (cont.)
natural and loan rates of interest,
518–519
potable water, 517–518
present value of Wicksellian legacy, 522
primary analytical
contributions, 513–515
taxation and theory of public fi nance
approaches to public fi nance, 520
constitutional theory and statistical
decision theory, 521
taxpayers, 522
types of error, 521–522
Wiener Zeitung, 414–415
