From Mercantilism to From Mercantilism to Adam SmithAdam Smith

The EvolutionThe Evolutionof theof the

Modern Capitalist SystemModern Capitalist System

From Mercantilism to From Mercantilism to Adam SmithAdam Smith

The EvolutionThe Evolutionof theof the

Modern Capitalist SystemModern Capitalist System

MercantilismMercantilismMercantilismMercantilism

The main goal of mercantilism: increase the money in a country’s treasury by creating a favorable balance of trade. A country had a favorable balance of trade if the value of its imports (what it sold) exceeded the value of its exports (what it purchased). Colonies helped a country produce/acquire the goods to maintain a favorable balance of trade.

Say Spain sold $500 in sugar to France, and France sold $300 in cloth to Spain. France would also have to pay Spain $200 worth of precious metals to pay for all the sugar. Spain would then have a favorable balance of trade because the value of its exports (sugar) was greater than the value of its imports (cloth). Spain would become richer because of the precious metals it received from France.

Characteristics of Mercantilism1.1. ““Bullionism”Bullionism” the eco. health of a nation could be measured by

the amount of precious metal [gold or silver] which it possessed.– ‘Hard’ money was the source of prosperity, prestige, and strength for

a nation.– Bullionism dictated a “favorable balance of trade.”“favorable balance of trade.”

• Export more than you import [a trade surplus]. High tariffs on imported manufactured good. Low tariffs on imported raw materials.

2. Each nation must try to achieve economic self-sufficiency.– Those founding new industries should be rewarded by the state.

Characteristics of Mercantilism

3. Thriving agriculture should be carefully encouraged.– Less of need to import foods.– Prosperous farmers could provide a base for taxation.

4. Sea power was necessary to control foreign markets.– Less need to use the ships of other nations to carry

your trade goods.– Your own fleet adds to the power and prestige of the

nation.

5. Impose internal taxes of all kinds.

Characteristics of Mercantilism

6. Colonies would provide captive markets for manufactured goods & sources of raw materials.

7. Trade is a “zero-sum” game.“zero-sum” game.– A nation can gain in international trade only at the expense of

other nations.

Manufactured goods

Raw materials

MotherCountr

y

MotherCountr

y Colony

Colony

Cheap labor

Characteristics of Mercantilism

8. A large population was needed to provide a domestic labor force to people the colonies.

9. Luxury items should be avoided– They took money out of the economy

unnecessarily.

10.State action was needed to regulate and enforce all of these economic policies.– State-sponsored trade monopolies.

Mercantilism in Effect• Build a formal empire

• acquire/protect markets (both resource/product)• establish colonies

• Develop strong military• to defend empire (Navy especially important)

The colonists supplied raw materials to England for either manufacture or re-export and they provided additional markets for the finished products produced from those resources (England also sold them in European markets).The colonies played a large role in England’s becoming self-sufficient.For this system to succeed, the Parliament needed to pass laws and regulations to protect wealthy British merchants and industrialists, even at the expense of its colonists (i.e. those laws were intended to benefit the English economy exclusively).A mercantilist economy is a managed economy, managed by the larger and stronger power (i.e. the home/mother country).

The circular flow model

Colonies

- Colonies helped nations grow rich in several ways.

- They provided various raw materials

-They provided mines that produced gold and silver.

-They served as markets for goods made in the home country.

- Trade expansion enabled English manufacturing base to grow and it necessitated an enlarged merchant fleet.

- Additional bases for the royal navy (i.e. outposts).

As suppliers of raw materials only, the colonists could not compete with England in manufacturing (unless the goods could not be produced in England).

Enforcement of Mercantilism• Navigation Acts

• Keep colonies dependent on mother country -> maximize profit

• Restrictions on buying• Buy only from Britain; duties on foreign goods

• Restrictions on selling• Could only ship/sell to Britain (enumerated goods)

• Restrictions on shipping• All trade only on British ships, all goods shipped through

England, crews must be ¾ English• Restrictions on manufacturing

• Prohibited in colonies: keep colonies dependent on Britain, prevent competition (monopoly)

The purpose of the various navigation acts was to protect the wealth that the colonies brought to England. By the late 17th century England had a trade policy for the colonies that went like this:

1. Any ship carrying goods to and from America or England had to be English built with primarily English crews (Remember the colonies were still part of England)

2. The colonists were required to buy certain manufactured goods (those enumerated) only from England. Exceptions were allowed with things England didn't produce. Non-English goods had to go to England first where a tax was assessed/levied before its shipment to the colonies (thus, the goods became either less profitable to sell or less affordable to buy).

3. Certain raw materials coming from the colonies (those enumerated) could only be sold back in England (later this included grown farm products).

4. Americans were forbidden to manufacture certain goods from their own raw materials (those enumerated). For example, tobacco could only be processed back in England where the English manufactures would receive the majority of the profit from selling the cured tobacco.

Regulations To Support Mercantilism

• NAVIGATION ACT OF 1651• All imports or exports had to be carried on British ships

(English ships and merchants were always favored, excluding other countries from sharing in the wealth produced/acquired by the British Empire).

Targeted the Dutch control of world wide shipping—sought to eliminate Dutch competition from colonial trading routes.All crews must be at least 1/2 British or Colonists.NE economy - “carrying trade” - increased.

Regulations to Support Mercantilism

• Act of 1660• Required all exports from the colonies to go through British

ports (English merchants would then sell or trade the materials around the world).

• Long list of “enumerated goods (tobacco, sugar, indigo, cotton, molasses, rice) that could only be shipped to England or an English colony.

• It also required all Colonial imports to go through British ports whereupon each product was taxed before its shipment to colonial ports.

• Required all colonial trade to be on English ships (master and ¾ crew must be English).

Jean Baptiste Colbert [(1619-1683)

• Architect of French mercantilism or “Colbertism.”

• He was a bullionist.

• There are four professions of importance to the nation:– Agriculture

– Trade

– Army

– Navy

• Uniform weights & measures.

• Opposed tolls on internal trade.

Expansion of French territories • Acquired Islands of Martinique and Gaudeloupe in

the West Indies for sugar plantations.

Jean Baptiste Colbert [(1619-1683)• Supported mandatory labor on national roads.

• Favored a large population.– Father of 10 or more children would be exempt from taxes.

• Favored low wages and child labor.

Colbert & Louis XIVColbert & Louis XIV

Who Benefited Most From Mercantilism?

• Monarchs.

• Merchant capitalists.

• Joint-stock companies.

• Government officials.

TheThePhysiocratsPhysiocrats

((The The ““Government of Government of NatureNature””))

TheThePhysiocratsPhysiocrats

((The The ““Government of Government of NatureNature””))

Francois Quesnay (1694-1774)

• A surgeon who turned to medicine because of failing eyesight.

• He began publishing economics treatises at the age of 62.

• No single document or book summarizes his economic system.

• He was concerned about the state of the French economy, especially of French agriculture.

Quesnay’s Economic Theories• Tableau Économique

[1759].– A reaction against the

extreme mercantilist policies of Colbert.

• Three economic classes:1. “Proprietary class”

landowners.

2. “Productive class” agricultural laborers.

3. “Sterile class” artisans & merchants.

• Productive work was the source of national wealth.

Quesnay’s Economic Theories• Therefore, the wealth of the nation was derived from

agriculture.– Agriculture was the productive sector of an economy.

• Tax only the landowning class.

CapitalismCapitalismCapitalismCapitalism

Adam Smith (1723-1790)

• Appointed to the chair of logic in 1751 at the University of Glasgow, Scotland.

• In 1752 he transferred to the chair of philosophy.

• On his travels to France, he was influenced by the writings of the physiocrats.

• 1776 The Theory of Moral Sentiments and an Inquiry Into the Nature of Causes of the Wealth of Nations was published.– A vehement attack of the

mercantilist system.

The Wealth of Nations (1776)

Adam Smith’s Attack on Mercantilism

• He was making a political argument, NOT an economic one.– Part of the argument was for new economic policy, but..– An essential part of the argument was for new social and

political arrangements.

• He argued that the basic unit for social analysis should be the nation, not the state.

• He was against the belief that trade was a zero-sum game– It was a positive-sum game.– Both nations gained.

Basic Capitalist Principles

1. Goods and services are produced for profitable exchange.

2. Human labor power is a commodity for sale LABOR IS THE SOURCE OF VALUE.

BusinessesBusinesses HouseholdsHouseholds

Goods & Service

Goods & Service

Labor & Investments

Labor & Investments

Consumer SpendingConsumer Spending

WagesWages

Basic Capitalist Principles3. The “Invisible Hand”“Invisible Hand” of the market

– Problem How do we survive in a world where we must depend on many others, but where humans are by nature self-interested individuals??

– Solution the free market, while appearing chaotic and unrestrained, is actually guided to produce the right amount and variety of goods by a so-called “invisible hand.”

– Therefore, the basicmarket mechanism is self-regulating!

Basic Capitalist Principles4. Individuals seeking success are driven by self-

interest Profit MotiveProfit Motive

5. The Law of Supply and DemandLaw of Supply and Demand– Individuals who are free to pursue their

self-interest will produce goods and services that others want, at prices others will be willing to pay.

Basic Capitalist Principles6.6. Law of CompetitionLaw of Competition

– The competitive market system compels producers to be increasingly efficient, and to respond to the desires of consumers.

7. A social division of labor will maximize the satisfaction of individual wants and needs, given scarce resources.

8. Government should interfere minimally with the free and efficient workings of the market– Laissez faireLaissez faire [“Leave things alone.”]