Concept of the Invisible Hand in a Laissez-faire economy
“By preferring the support of domestic to that of foreign industry, he intends
only his own security; and by directing that industry in such a manner as its
produce may be of the greatest value, he intends only his own gain, and he is in
this, as in many other cases, led by an invisible hand to promote an end which
was no part of it.” Adam Smith, Inquiry into the Nature and Causes of the
Wealth of Nations 1776. What business does a government have in commerce and
trade? Why would a government want to interfere between two countries benefiting
from each other by trade? What right does the government have in two individuals
wanting each other’s products or services? According to some, commerce and
trade should be permitted to operate free of controls of any kind; there should
be no tariffs or other barriers. This is where the term laissez-faire is
introduced. It’s direct translation in French, “leave alone to do”, is
self-explanatory. A strong believer in this type of economics is Adam Smith,
both a philosopher and an economist. Born on 1723 in Kirkcaldy, Fife, he studied
at Oxford, and became a professor of logic at Glasgow (1751), but took up the
chair of moral philosophy the following year. In 1776, he moved to London, where
he published An Inquiry into the Nature and Causes of the Wealth of Nations
(1776), the first major work of political economy. This examined in detail the
consequences of economic freedom, such as division of labor, the function of
markets, and the international implications of a laissez-faire economy. Adam
Smith is most remembered today for his explanation of our market system. A
majority of people saw confusion when they observed economic activity in England
during the middle of the 18th century. They saw everyone doing whatever they
pleased and deemed necessary. Businesses produced whatever they wanted to make.
Consumers purchased whatever they wanted to buy. No one told anyone what had to
be bought and what had to be sold especially the government. And yet, somehow,
businesses seemed to be providing the goods and services that consumers wanted
and needed. Some might have called it luck; Adam Smith called it an “invisible
hand”. And today, it is considered the laissez-faire economy. The “invisible
hand” is a term for the unseen process of co-ordination which ensures
consistency of individual plans in a decentralized market economy (Pearce, 220).
Adam Smith introduced this phrase in his book, An Inquiry into the Nature and
Causes of the Wealth of Nations (Book IV, Chap. II), who stressed the role that
the “invisible hand” played in attaining a harmony of interests. Imagine
this “invisible hand” suspended above everyone. This “invisible hand”
encourages businesspeople to pursue profits and it pushes consumers to buy goods
and services. And at the same time, that “invisible hand” discourages
government from directing the economic activity. This “invisible hand” that
Adam Smith refers to as a guiding force was the people and their attitudes. It
all started with profit-seeking individuals. Using self-interest to feed their
drive, people started businesses. When a business would become successful,
others would notice and enter into the same field. As a direct result, growing
consumer demand was satisfied while competition controlled rising prices. As
demand grew, businesses were established in which workers shared tasks. This is
called division of labor, in which one worker handled the first stage, another
the second, and a third finished the product. The result was mass production,
more efficiency, and lower costs. Mass production meant that people no longer
had to grow there own food and remain on the farm; there would be enough to
supply a large workforce. Paying all those laborers resulted in an army of
consumers with money to spend. Adam Smith argued that an individual acting
purely out of self-interest, would be a progressive force for the maximization
of the total wealth of a nation. The role of the government should be
permissive, creating a legal defensive setup sufficient to allow individual
action. Interference with the free working of this natural order will reduce the
growth of wealth and misdirect resources. Though Smith argued for laissez-faire,
he recognized the need for minimal government intervention. For example, a
tariff for infant industries and for the three functions of the state- security,
justice and certain public works (Pearce, 397). Our economic system today seems
to lean toward another philosophy called Keynesian economics. Keynesian
economics is based on a belief that the economy can possibly fall into a
recession and not be able to pick itself up. The solution is, without the aid of
the government; an economy will stay in the “trough” and will never reach
the “peak”. Though laissez-faire has not been a very popular belief since
the mid-19th century, we as a people are able to do business independently. For
“he intends his own security” and “…intends his own gain.”
Bibliography
Pearce, David W. The MIT Dictionary of Modern Economics. Cambridge,
Massachusetts. The Macmillan Press. 1992. Smith, Adam. An Inquiry into the
Nature and Causes of The Wealth of Nations. New York, New York. The Modern
Library. 1776.