Session 7
— The Magic of Markets
Case Study 3.7e "Adam Smith and The Wealth of Nations"
Directions: Complete the following case study and record your answers on a separate sheet of paper.
Topic: A brief history of Adam Smith and an overview of the major theories in The Wealth of Nations.
Objective: To understand the historical significance of Adam Smith and his economic theories. To gain an insight into how human nature and competition shape capitalism.
Adam Smith lived from 1723 to 1790. He was born in Kirkcaldy, Scotland. He attended the University of Glasgow in Scotland and Oxford University in England. Smith taught logic and moral philosophy at the University of Glasgow from 1751 to 1763. In 1758 he was elected dean of the faculty. During this time he published Theory of Moral Sentiments. It was his first major work. In 1763 he took a position tutoring, which included travel throughout France and Switzerland. In France, he met a group of intellectual social reformers. They called themselves les économistes (also known as physiocrats). These individuals, led by François Quesnay, were part of the French Enlightenment. It is arguable how much influence this group had on Smith's work. In 1766 he began seriously working on The Wealth of Nations. It was published 10 years later. From 1778 to 1790 Adam Smith was the commissioner of customs in Edinburgh, Scotland. Smith is considered by many to be the "father of modern economics."
CS Question #1: Who was Adam Smith?
The Wealth of Nations is recognized as one of the most important early works in the study of economics. Some have argued that it was the first complete thesis on economics. Adam Smith's central theory was centered in his belief in laissez-faire systems. Laissez-faire is French for "to let people do as they wish." It opposes government involvement in the economy. In his opinion, production can be stimulated only through private industry and commercial entrepreneurship.
Adam Smith believed that when individuals have extensive personal and political freedom and are left to their own devices, they act in their own self-interest. More importantly, by acting in their own self-interest they actually serve the interest of others. He described this as being guided by an "invisible hand."
Adam Smith argued that workers will be more productive in order to make as much money as they can. Businesses will produce goods and services that consumers value in order to make greater profits. In doing so, society as a whole will be better off economically. Under normal conditions, the result is economic growth and prosperity. The economic system Adam Smith described is called capitalism. It is also referred to as the free enterprise system or a free market economy.
CS Question #2: What is the "invisible hand"?
Adam Smith stated that the division of labor is the source of a nation's ability to increase productivity. He described a now famous pin factory scenario in his book. The example is that 10 people specializing in aspects of production can produce 48,000 pins a day. On the other hand, each individual could have produced only a few pins working alone. Adam Smith did note that in order to increase productivity in this way, investment capital is needed to purchase machines and equipment and to pay wages. Adam Smith also believed that higher wages lead to an increase in the supply of labor. In turn, a larger labor supply moderates the wage increase. It is important to note that Adam Smith also believed that specialization could have negative effects. He felt that if a worker repetitively completes the same task over and over, his alertness and intelligence will suffer for it.
Adam Smith's theory is based on the idea that human nature drives the economy. The economy will grow only if individuals and their governments do not create special privileges for certain segments of the population. He believed that such privileges alter the normal flow and growth of natural competition.
CS Question #3: According to Adam Smith, what is the danger of specialization?
Adam Smith was against government involvement in the economy. He was also fervently against monopolies in the economy. He felt that both interfered with the true competitive market system. Adam Smith also noted that at some point economic growth would reach a maximum point. This is when output can no longer be increased in the economy. This would lead to a decline in economic growth. The decline, Smith stated, would result in economic stagnation and poverty.
Even though The Wealth of Nations was written 1776, it is still an important source today. It was a giant stepping stone in the evolution of economic theory. Further, its vision and general ideas are still relevant to social scientists today. The Wealth of Nations is a kind of handbook on political economic theory. It has assisted in the formulation of government economic policy, perhaps more so than any other economic work.
CS Question #4: Is The Wealth of Nations still relevant? Why or why not?
Further Thought: