Discretionary resources:

&

• The wealth of nations is measured by Adam Smith in terms of money - but does not include money.
• It is generated by fixed assets - but does not include those fixed assets.
• Fixed assets must at least generate subsistence consumables for the maintenance of human capital, and resources for the maintenance of physical fixed assets - but the measure of wealth used by Smith includes neither subsistence consumables nor resources expended for such maintenance.

It is resources available for all discretionary purposes - profound or frivolous - consumption or investment - private or government. It is a measure of economic power - either in terms of money or in its labor and commodity equivalents - that is available without diminishing the productive capacity of the nation.

  It is "net revenues" that are available for discretionary uses - either for investing or consuming - or for taxation that does not reach the level of capital levies - that is the measure of national wealth used by Smith. This is what a society can draw upon - without deferring maintenance or otherwise draining existing productive capital.  It is available for all discretionary purposes - profound or frivolous - consumption or investment - private or government. It is a measure of economic power - either in terms of money or in its labor and commodity equivalents - that is available without diminishing the productive capacity of the nation. (Smith's views about money are scattered widely throughout his book.)
 &
  In "An Inquiry Into the Nature and Causes of the Wealth of Nations," Smith explains how societies and individuals work through market mechanisms to build, accumulate and maintain capacity to generate their discretionary economic resources - and thus generate economic power. To an amazing extent - even after more than two centuries - this book still speaks to current economic processes, conditions and problems.
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Government economic policy:

"What is the species of domestic industry which his capital can employ, and of which the produce is likely to be of the greatest value, every individual, it is evident, can, in his local situation, judge much better than any statesman or lawgiver can do for him.  The statesman who should attempt to direct private people in what manner they ought to employ their capitals - - - [would] assume an authority which could safely be trusted, not only to no single person, but to no council or senate whatever, - - -."

  Each individual seeks to maximize his profits or wages by employing himself and his capital in the most valuable way. Regardless of human imperfections and limitations, the expertise that individuals gain concerning their own business and economic needs must inevitably be superior to that of any outsider.
 &
  Government restraints and other interference with domestic and foreign commerce are both foolish and dangerous.

  "What is the species of domestic industry which his capital can employ, and of which the produce is likely to be of the greatest value, every individual, it is evident, can, in his local situation, judge much better than any statesman or lawgiver can do for him. The statesman who should attempt to direct private people in what manner they ought to employ their capitals would not only load himself with a most unnecessary attention, but assume an authority which could safely be trusted, not only to no single person, but to no council or senate whatever, and which would nowhere be so dangerous as in the hands of a man who had folly and presumption enough to fancy himself fit to exercise it."

  For over 200 years, advocates of mercantilism, communism, socialism, price controls, protectionism, industrial policy, social engineering and other administered alternatives have all rejected this wisdom. They have expended vast and varied efforts to improve on market results - and have all failed miserably - often with disastrous results that have blighted the lives of billions of people. Their "folly" was often vastly dangerous indeed.
 &
  All too frequently, administered policies are in reality efforts to promote personal interests above national interests. Competitive markets - even with competitive conditions that are far from perfect - easily achieve results superior to the most elaborate administered alternatives.

"[In choosing between domestic and foreign sources], 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 his intention."

"It is the industry which is carried on for the benefit of the rich and powerful that is principally encouraged by our mercantile system."

  Mercantilist policies - a particular problem in Smith's times - are especially criticized. See, Adam Smith, "The Wealth of Nations," Part II, "Economic Policy," covering Book IV and Book V of The Wealth of Nations.

  "[Thus,] every individual necessarily labours to render the annual revenue of the society as great as he can. He generally, indeed, neither intends to promote the public interest, nor knows how much he is promoting it. [In choosing between domestic and foreign sources], 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 his intention. Nor is it always the worse for society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.
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  "To give the monopoly of the home market to the produce of domestic industry, in any particular art or manufacture, is in some measure to direct private people in what manner they ought to employ their capitals, and must, in almost all cases, be either a useless [in the sense of unnecessary] or a hurtful regulation." (Today, the word "monopoly" has a legal definition much narrower than the definition used by Smith throughout this work.)

  Just as specialization increases efficiency in the home market - just as tailors don't make their own shoes and shoemakers don't make their own clothes - it is wasteful and foolish to spend more for domestic products that can be more efficiently imported. "What is prudence in the conduct of every private family can scarce be folly in that of a great kingdom." Although justified in terms of the national interest, mercantilist restraints are almost always designed to favor special interests - in Smith's time, the manufacturers and merchants.

  "It is the industry which is carried on for the benefit of the rich and powerful that is principally encouraged by our mercantile system. That which is carried on for the benefit of the poor and the indigent is too often either neglected or oppressed."

  Nothing has really changed. It is no accident that the chief beneficiaries of tariff restraints and subsidies are rich agribusinesses and high wage unionized steel.

  "But the cruellest of our revenue laws, I will venture to affirm, are mild  and gentle in comparison of some of those which the clamour of our merchants and manufacturers has extorted from the legislature for the support of their own absurd and oppressive monopolies. Like the laws of Draco, these laws may be said to be all written in blood."

"These causes [of prosperity] seem to be: the general liberty of trade, - - -; but above all, that equal and impartial administration of justice which renders the rights of the meanest British subject respectable to the greatest, - - -."

  However, England had fewer mercantilist restraints than any other major European nation - and was easily able to overcome the burdens of the restraints that existed.

  "These causes [of prosperity] seem to be: the general liberty of trade, which notwithstanding some restraints, is at least equal, perhaps superior, to what it is in any other country; the liberty of exporting, duty free, almost all sorts of goods which are the produce of domestic industry to almost any foreign country; and what perhaps is of still greater importance, the unbounded liberty of transporting them from any one part of our own country to any other without being obliged to give any account to any public office, without being liable to question or examination of any kind; but above all, that equal and impartial administration of justice which renders the rights of the meanest British subject respectable to the greatest, and which, by securing to every man the fruits of his own industry, gives the greatest and most effectual encouragement to every sort of industry."

Smith's political philosophy:

&

The primary objective is to maximize the prosperity of the economy for the welfare of the people and the financial capabilities of the state.

Division of labor:

&

Raw labor is of little value. How labor is applied - how it is managed and directed, the tools provided and the skills with which it is endowed - determine the vast majority of its value.

  Residents of "savage nations" may work extraordinarily hard just to survive, with little left over to take care of the sick or aged, while residents of "civilised" nations thrive though many do not work at all.

  Smith begins with two other broad conclusions:

• Employment depends on the amount of capital stock, and in "the particular way in which it is employed." Here, again, Smith stresses management.

• The European nations of 1773 have acted to encourage industry - but primarily that of the cities and towns rather than that of agriculture.

 In Book I, Adam Smith sets forth his justly famous explanation of the advantages of division of labor. In his classic, clear, readily accessible prose - but with full attention to detail - he explains how 10 men each doing one or two or three procedures - can turn out "upwards of 48,000 pins in a day," even though each one, if working on his own, "could not each of them have made 20, perhaps not one pin in a day."
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  Specialization improves dexterity and reduces time lost shifting from one operation to another. It also stimulates invention, since individual workers contrive labor-saving techniques and machines for the particular operations with which they are intimately familiar.

  "A great part of the machines - - - were originally the inventions of common workmen, who, being each of them employed in some very simple operation, naturally turned their thoughts towards finding easier and readier methods of performing it."

  Even professional inventors tend to specialize - both as inventors and as to the general areas of their interest. And, of course, each manufacturer of machinery constantly seeks improvements for its products.
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"In a well governed society, - - - an industrious and frugal peasant" can enjoy a standard of living farther above that of "many an African king" than the difference between the peasant and a prince of the realm.

  A day laborer's course woolen coat is offered as an example. The vast number of people who each contribute infinitesimally to provide each inexpensive coat is set forth by Smith.
 &
  "In a well governed society," all these procedures are so managed - with appropriate machinery obtained and maintained and labor applied - with needed supplies coming in and output brought to market and sold - so that "an industrious and frugal peasant" can enjoy a standard of living farther above that of "many an African king" than the difference between the peasant and a prince of the realm.

  The key is management - not labor or even capital - which generally are fungible items. It takes skilled management to bring all the specialized pieces of a production process together - meet constantly evolving competitive requirements - and successfully market the output. Except for rare or exceptional skills, labor is practically a given in the economic calculation - and capital can only be as valuable as the capability of its management.
 &
  Thus, it is the inherent incompetence of government management that would doom all socialist experiments and undermine all government administered initiatives.

Markets:

&

  It is the market that drives this specialization. Only humans, Smith asserts, intentionally act in concert - the essence of a contract.

  Adam Smith is a better economist than naturalist. Here, he underestimates animals - like dogs - that hunt in packs and have the ability to intentionally arrange cooperative methods. He attributes the appearance of cooperation to just their mutual passion for the hunt.

"Give me that which I want, and you shall have this which you want, is the meaning of every such offer."

 "It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard for their own self interest."

  The vast web of cooperation and assistance that civilized man needs - and that is the essence of the division of labor - cannot be obtained from just friendship or benevolence. He can only do this by bargaining for what he wants in the market by offering what of value he has. "Give me that which I want, and you shall have this which you want, is the meaning of every such offer." That is how we obtain the vast majority of goods and services that we need. (Socialists of all stripes would strive mightily to disprove this assertion - and would invariably fail miserably.)

  "It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard for their own self 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."

Market incentives for specialization increase productive skills and make the best use of them to maximize a "common stock" of goods and services.

  Each individual finds that the market allows him to obtain far more than he could produce himself. He can obtain goods and services in the market in exchange for filling some market demand with a product or service that he provides as a specialty. The market induces each man "to apply himself to a particular occupation, and to cultivate and bring to perfection whatever talent or genius he may possess for that particular species of business."
 &
  Market incentives for specialization quickly open wide gaps in the different skills developed by different people. (Smith thus emphasizes "nurture" over "nature" - but not to the extreme degree that socialism would depend on.) And it is the market - and only the market - that makes the best use of these diverging skills to maximize a "common stock" of goods and services available for purchase by all.
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Transportation and communications improvements are essential to broaden markets and thus facilitate economic development.

  Thus, the extent of division of labor is limited by the extent of the market served. A broadening market enables increased division of labor and specialization.
 &
  In the sparsely populated Scottish Highlands, for example, "every farmer must be butcher, baker and brewer for his own family." Country smiths and carpenters do not specialize within their craft. A country carpenter is also "a joiner, a cabinet-maker, and even a carver in wood, as well as a wheel-wright, a plough-wright, a cart and wagon maker." A specialized maker of nails can turn out a thousand nails in a day - and so could find only one day's employment in the year in the Highlands.
 &
  Transportation and communications improvements are essential to broaden markets and thus facilitate economic development. Ports and navigable waterways are essential for the expansion of trade - both national and international - that is essential for economic development. (Today, economic infrastructure includes such modern facilities as railroads, airports, pipelines, highways, and telecommunications.)

  "[It] is natural that the first improvements of art and industry should be made where [efficient transportation] opens the whole world for a market - - -."

  Civilization has generally advanced furthest where water transport was available to broaden markets. However, the Egyptians, Indians and Chinese appear always to have neglected foreign commerce - limiting themselves to commerce along inland and coastal waterways, which due to their great extent, afforded very great markets.
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Money:

Money is essential for the exchange of goods and services with sufficient efficiency so that producers may specialize in some product or service that they personally need not at all.

  Here, again, some socialists would strive mightily to avoid the reality of the inherent utility and value of money - indeed, the necessity of money - and yet again they would fail miserably.

"For in every country in the World, I believe, the avarice and injustice of princes and sovereign states, abusing the confidence of their subjects, have by degrees diminished the real quantity of metal, which had been originally contained in their coins."

  The development, uses and misuses of money, are discussed. (For other related aspects of money, see "Inflation," below, and "Financing mechanism," below.)

  "For in every country in the World, I believe, the avarice and injustice of princes and sovereign states, abusing the confidence of their subjects, have by degrees diminished the real quantity of metal, which had been originally contained in their coins." (With respect to governments and inflation - nothing has changed.)

  In this way, according to Smith, not just government, but all debtors have benefited at the expense of creditors.

  Not so! The threat of inflation forces debtors everywhere to pay much more for credit - where they can get it at all. Even the sovereign will eventually lose to the extent that inflation raises costs and financial risks - hinders capital accumulation or even results in decapitalization - and reduces the value of commerce and tax receipts.

Value:

Markets allocate only scarce resources.

&

  That exchange values are not the real values for the ultimate consumer in no way undermines the necessity of the exchange value pricing mechanism of economic markets. Economics is a practical art - emphasis on the word "practical." Use values are indeterminable - and thus useless for practical economic purposes. Exchange values are always determinable even if always variable. They drive the market incentives that drive the economy - and are thus indispensable.

  What is clear is that - barring fraud or mistake - everyone gains subjectively from every exchange in the market. Exchange values are set at the margin by sellers who think they've gotten more - and buyers who think they've given less - than the market value. The essence of the bargain is that the subjective value in use of every product given up is less than that of every product obtained - either directly through barter or indirectly through money. This is the magic of the marketplace.

The exchange value of a commodity is equal to the amount of labor that it can "purchase or command."

The value and power of money is dependent on the market in which it can command goods and services.

The proportionate value of different types of labor "is often difficult to ascertain."

  Exchange value depends on the amount of labor - the amount of "toil and trouble" - that others are willing to perform to get what is offered. The exchange value of a commodity is equal to the amount of labor that it can "purchase or command."

  "Labour, therefore, is the real measure of the exchangeable value of all commodities."

  Similarly, the cost is the "toil and trouble" of acquisition.

  "What is bought with money or with goods is purchased by labour as much as what we acquire by the toil of our own body."

  However, that labor need not be the labor of the purchaser. The money "contains the value" of labor.

  "It was not by gold or by silver, but by labour, that all the wealth of the world was originally purchased."

  However, the value and power of money is dependent on the market in which it can command goods and services.

  Efficient markets maximize the value and power of both money and labor - inefficient markets waste the value and power of both money and labor. The destruction of markets destroys the value of both money and labor. It is in the most profound interest of the workman, the capitalist, and the sovereign, alike, to be able to access a system of efficient markets. By destroying markets, socialism inevitably destroys the value of both labor and capital.
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  Antitrust problems arise because select groups may benefit at the expense of the whole by controlling the market in which their output is sold or their supplies are acquired.
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  Note that value is not based on the amount or even the skill of the labor expended in production - but the labor of others that can be acquired or commanded in the market. This is a determinable objective standard. The value of labor expended in production is an indeterminable subjective standard - and thus useless for practical economic purposes - as Marxists and other socialists would discover.

  All labor is not equal, Smith points out. Some labor is more valuable than other labor, and the proportionate value of different types of labor "is often difficult to ascertain." Neither time spent nor hardship endured nor ingenuity applied will necessarily be reflected, although it frequently is.

  Here, Smith easily puts his finger on the primary rock on which Marxism and Socialism would founder. No matter how hard they tried - no matter how dense their reasoning - neither Marx nor any other Socialists could explain how to value labor in the absence of free and at least roughly competitive markets.
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  Every effort - whether socialist or not - to administratively determine values - to administratively determine prices - would end in disastrous failure. There is no mechanism other than competitive markets to fairly and effectively determine values and allocate scarce resources.

  Although prices of all things rise and fall, the value of basic labor is constant. It is the goods in the market that vary - rising and falling in relation to basic labor - the minimum sums needed to sustain the laboring class.

  David Ricardo shows that basic labor, too, is not constant - that there are no fixed measures of value - although the value of gold has been remarkably steady. For his views on value and his evaluation of other concepts of Adam Smith, see  Ricardo, "On The Principles of Political Economy and Taxation.".

 While labor values are always difficult to ascertain, market values in money terms - "exchange" values - are precisely set by the market. Money prices thus drive all commerce.

  Since corn was such a vital subsistence commodity, Adam Smith uses the price of corn - adjusted for inflation - as a surrogate for the value of labor at different times. It is in relation to corn that Smith discusses the difference between nominal and real values. However, Smith recognizes that the meaning of "subsistence" varies with customary basic lifestyles in different countries and is thus considerably higher in wealthy nations than in poor nations.

  Smith frequently uses the term "corn" to refer to a variety of cereal grains.

  Smith points out that land rents reserved to fund colleges in quantities of corn have preserved their value for about two centuries, while those reserved in quantities of coin have declined in value by about 75% even though the official weight of metal has remained the same for the last century. The inflation was caused by the vast flows of precious metals from America - and wear and tear of the coins. In Scotland and France, where weight of metal in coins have been declining constantly, such money rents have been "reduced almost to nothing."

  Prices of agricultural commodities on English commodities markets ranging back into the 16th century vacillated in a remarkably steady range until the Great Depression and the devaluation of the pound in 1931. Somehow, England managed to stay at the forefront of the industrial revolution for over 300 years without inflation, and began to fall behind when inflation arose and the pound was devalued.

  With almost no productivity gains in agriculture or its transport in those days, values in quantities of corn remained remarkably steady over centuries of time - but not exactly. For corn values vary greatly from year to year. It is average corn values that remained remarkably steady over time. On the other hand, the value of gold or silver varies little from year to year, but varies greatly over extended periods of time. But these slow variations in money values influence only long term contracts, not instant purchases or short term contracts.
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  For purchases and sales "at the same time and place only" both nominal and real values are equal and are the money values in the market. While labor values are always difficult to ascertain, market values in money terms - "exchange" values - are precisely set by the market. Money prices thus drive all commerce.
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Legal tender:

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Coins used abroad where they are not legal tender quickly return home "of their own accord" because they are there worth more.

  Sterling silver shillings were the legal tender of England. Gold guineas and copper pence were fixed in value in relation to shillings - regardless of the difference in wear of the coins and ignoring periodic divergences in market prices.
 &
  The "mint" price of a monetary metal may vary from its "market" price. However, for metallic money, these divergences must be kept minimal, or one coin or another will be melted into bullion for sale in the market. (Smith further discusses the intricacies of gold coinage in Book IV on mercantilism.)
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  Bullion and coinage values are never the same, since metal in coins is so much more convenient than metal in bullion. Coins used abroad where they are not legal tender quickly return home "of their own accord" because they are there worth more. (See "The mercantile system," in Book IV, for balance of payments policies with metallic money.) In analyzing prices over time, Smith adjusts for inflation by taking into account the diminution of metal in coins minted in various periods.
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Profits:

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Profits are ordinary and necessary expenses of enterprise.

  To provide an incentive to bring all these factors together and bear the risks of enterprise, the resulting increase in production must pay for wages, supplies, machinery, managers - and profits. These are all - including profits - ordinary and necessary costs of enterprise.
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  Smith distinguishes between management, in the form of "inspection and direction" - stock, consisting of such things as supplies and facilities - and labor. Profits depend on the value of the stock, not the amount of labor and management efforts expended. Of course, the value of the stock employed includes the sums needed to pay for wages and salaries - it thus includes the value of labor and management. (It includes financial capital as well as physical capital dedicated to the enterprise.)
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  Separation of the ownership and management factors is recognized by Smith even in the 18th century. The business owner may completely separate himself from management duties by hiring trustworthy management, thus contenting himself solely with the profits from his ownership interest. There is no direct relationship between profits and labor.
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Rent:

&

Taxes applied at each step increase the profits of subsequent steps.

  Both profits and rent become components with labor in the price of commodities. For commodities that pass through several stages from manufacture to consumer, these markups apply at each stage. For corn, there is the farmer, miller, baker, transporters, and sellers. Profits at each step increase because based on the additional capital needed to cover everything that went before. Thus, taxes applied at each step increase the profits of subsequent steps. (Ricardo provides a more sophisticated analysis of rent.)

  "The capital which employs the weavers, for example, must be greater than that which employs the spinner, because it not only replaces that capital with its profits, but pays, besides, the wages of the weavers; and the profits must always bear some proportion to the capital."

  "Wages, profit, and rent, are the three original sources of all revenue as well as of all exchange value." Interest is just the profit from stock that is lent. Unless borrowed sums are used to earn profits with which to service the debt, they must be replaced from some other source of revenue. (See, "Profits and Capitalist Productivity.")
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  All three can be mixed together - can be "confounded" as profit - when a small farmer or businessman works without employees with his own stock on his own land or in his own premises. But this represents only a small portion of the total goods produced.
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Market price:

&

  Profits consistently above prevailing profit rates for similar enterprises will draw in new entrants in a free market - while those consistently below will cause providers to depart.

  This is part of the creative destruction process that assures adequate profits for the most efficient providers -  and one of the factors that render impossible the Marxist expectation of a chronic crisis of capitalist overproduction. The technological advance, new products and services, and the constant expansion of prosperity and markets are others.

Markets always tend towards equilibrium levels - even if - like waves in the ocean -  external influences and demand from episodic needs are always pushing them one way or another.

  Markets always tend towards equilibrium levels - even if - like waves in the ocean - external influences and demand from episodic needs are always pushing them one way or another. Where supply inherently varies - as for agricultural products - prices are volatile and wages and profits vary with them. However, rents are set to reflect average values and are considerably less flexible.
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  Barriers to efficient markets include government policies, monopoly grants, private and/or government restraints on labor or business competition, and lack of information. Profits and/or wages in excess of "natural" amounts can be attained for extended periods of time by such practices. "Such enhancements of market price may last as long as the regulation of police which give occasion to them."

  There are also natural barriers to entry that support higher profits and wages. These include startup costs and risks and the competitive advantages of skills and organization developed by existing providers. Those that prosper in niche markets are a prominent example. However, absent artificial restraints, there is always a profit entry inducement point that, if exceeded, will bring in additional competition.

Wages:

&

  An increase in the productivity of any one type of labor cannot - by itself - long increase the wages of those laborers. Such an increase - say, ten fold - would increase supplies of their product and drive down product costs until it takes ten times the amount of their product to acquire their market needs.

  Of course, average productivity gains increase the purchasing power of everyone. Studies indicate that - today - wages and benefits capture more than 60% of the benefits of productivity increases. Here, again, a Marxist prediction - that wages will always tend towards subsistence levels - has been proven wrong by a perverse reality.
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  But Smith, too, got this wrong. The great reduction in population growth that accompanies modern prosperity is just one of the factors that were not foreseen.

Workers must share the returns of their labor in order to exploit land and the capital of others.

  Workers must share the returns of their labor in order to exploit land and the capital of others. Land takes a share as rents, and capital as profit. (The importance of management as a particular kind of labor is here unfortunately overlooked.)
 &
  Workers' combinations are everywhere restrained by governments, Smith notes, but not those of capital. This gives capital a tremendous advantage in addition to its natural advantage of not being always in need of continuous income. 

  Labor unions have been created to change this relationship. The existence of high fixed costs - including taxation, heavy reliance on debt capital, and ongoing administrative costs - has also sharply altered this relationship in modern times.

  Here, again, Smith expresses his concerns about the noxious impacts of restraints on competition. This is the predominant concern in The Wealth of Nations.
 &

  But subsistence wages are generally the minimum that can be paid. Wages must be sufficient for the lowliest laborer to subsist and - with the labor of his wife - support a family. To increase above levels beginning at mere subsistence, the economy must grow.

  "The demand for those who live by wages, therefore, naturally increases with the increase of national wealth, and cannot possibly increase without it."

  It is the speed of growth rather than just the extent of wealth that was determinative in those days. England was far richer than North America in 1773, but the latter was growing more rapidly and afforded higher wage rates. Smith attributes this growth to a much greater rate of population growth.

  Population growth was certainly an important factor, but abundant land and other resources and freer markets - both of which Smith elsewhere recognizes - were far more important.

  Smith cites China as an example of a nation that has been very wealthy for a long time but has also had a stagnant economy for a long time, with very low wages as a result. However, China is at least stable. India is actually a nation in decline - and hundreds of thousands die of starvation in a year.

  "The difference between the genius of the British constitution which protects and governs North America, and that of the mercantilist company which oppresses and domineers in the East Indies, cannot perhaps be better illustrated than by the different state of those countries." (Not wrong - but a substantial oversimplification.)

Since wages have remained stable while prices of manufactured goods and even of corn have fallen, worker standards of living must be rising during the 18th century.

In trades paid by piece work rates, most workers are incapacitated in as little as eight years.

  Wages in large towns are 20% to 25% higher even though many living costs are lower, Smith notes. Since wages have remained stable in Britain for about 50 years while provisions have risen and fallen cyclically, wages in Britain must be above subsistence levels. Living standards must actually be improving in real terms as industrial productivity increases and lowers the cost of manufactured goods, Smith points out.
 &
  Indeed, agriculture, too, has benefited from increased productivity. Not only corn, but almost all produce has been declining in price during the last century. If the "labouring poor" could subsist a hundred years ago and are receiving about the same wages in 1773, they must now be living considerably better. Where prices have risen, taxes are usually to blame.
 &
  This should lead to a population increase that will supply more labor for England's growing economy. (It did!) While the very poor have more children, their mortality kills most before 10. More prosperous workers will reduce child mortality and permit population increase despite a lower birth rate. (Eventually, the decline in birth rates greatly outruns the reduction in child mortality as the latter reaches very low levels.)
 &
  Adam Smith speculates about the impact of the business cycle on the labor market - the incentives of high wages - the effect of piece work - the comparative productivity of independent and wage labor - sweat equity and gray market labor - the profit incentives that drive invention and increase productivity - and similar labor-related subjects. He particularly notes tendencies towards occupational health problems in the many trades under the lash of piece work. In these trades, most workers are incapacitated in as little as eight years.
 &

Profit rates and interest rates:

Competition tends to lower profits and increase wages as more entrepreneurs enter an open market.

  Competition tends to lower profits and increase wages as more entrepreneurs enter an open market. Profits vary widely as ownership (equity) capital performs its functions as risk capital. It absorbs or benefits from myriad changes in business conditions. "It varies, therefore, not only from year to year, but from day to day, and almost from hour to hour."

  Marxists and Keynesians view equity capital as something static. Once it's created, it need only be physically maintained to sustain its value and utility. This is gross stupidity. (See, "Capital as Purchasing Power.")

Restrictive usury laws raise interest rates because of the added risks of avoidance of the law.

 "The wages of labour have been continually increasing during the [last three centuries], and in the greater part of the different branches of trade and manufactures the profits of stock have been diminishing."

  Charting average profits is thus impossible. However, Smith examines interest rates (the "time cost of money") as a proxy for average profits. Profits drive the demand for loan funds, creating a correlation between the two.

  This is somewhat simplistic, but not altogether invalid for the 18th century. There are, of course, many other factors at work - especially inflation and other perceived broad risks.

  Smith recognizes the impact of credit risks in nations where creditors' rights are not legally enforceable. Also, restrictive usury laws raise interest rates because of the added risks of avoidance of the law. Muslim nations thus suffer from very high interest rates, Smith notes.
 &
  Since the time of Henry VIII - in the first half of the 16th century - England has not only been prospering, but its rate of economic gain has been accelerating.

  "The wages of labour have been continually increasing during the same period, and in the greater part of the different branches of trade and manufactures the profits of stock have been diminishing."

Profit rates are generally lower in large towns than in small, due to the greater number of financially sound competitors. Holland is richer than England, with higher wages and the lowest rates of profit in Europe.

  Profit rates are generally lower in large towns than in small, due to the greater number of financially sound competitors. (Of course, they make it up in volume because of the much greater amounts of stock that can be employed.) However, wages are higher.
 &
  "In the remote parts of the country, there is frequently not stock sufficient to employ all the people," so wages are low and profits from scarce stock is high. Interest rates are higher, there, too.
 &
  Smith similarly compares prospering England and economically hobbled France - where wages are low and profits high and poverty far more evident than in England or even than in Scotland (and the French Revolution was less than two decades away). Holland, on the other hand, is richer than England, with higher wages and the lowest rates of profit in Europe.
 &
  In N. America, both profits and wages are higher than in England - a consequence of an abundance of land and resources. But profit rates are declining as the land is settled.
 &
  An expanding market (either geographically or technologically) can have this positive impact on both profits and wages, while profit rates must decline as capital stock increases into a stagnant market. This is the great attraction of investments in third world nations - in 1773, like India - where capital stock is scarce, labor is cheap, and profits can be enormous.
 &

Mature economy fallacy:

&

  Smith then speculates about mature economies - fully populated and provided with all the capital stock they can use.

  This fallacy would confuse economists well into the 20th century. It would also provide one of the foundations of the Marxist "scientific" propaganda myth that capitalist overproduction must ultimately squeeze profits and wages sufficiently to doom capitalism.

  Smith provides no examples for this speculation - a significant departure from his usual analytical style.

  None would ever appear - although leftists would eagerly announce its arrival during every downturn in the business cycle - and especially during  the Great Depression - when this fallacy would afflict FDR and his New Deal administration, and provide one of the bases for disastrous efforts at administered solutions.

Market wages and profits:

&

  Not all of this analysis - for example, his explanation for the high compensation for opera singers and other entertainers - is convincing, but the principles ring true for free markets in the 18th century.

Inherent tendencies towards optimism reduce both the wage and profit rewards of risk.

  The profits of capital stock, however, cannot be affected by these factors, since capital is so mobile and fungible. However, risky and/or disreputable businesses - such as a tavern - do earn higher rates of return.
 &
  Smith notes inherent tendencies towards optimism that reduce both the wage and profit rewards of risk. So do the spiritual rewards of superior goods like honor, fame, adventure or other personally satisfying factors. This appears to reduce average compensation in the military and in the learned professions. A variety of other factors affecting wages and profits are also discussed.
 &

Restraints on competition:

The vested interests politically outweigh the public interests, and the various commercial towns retain these apprenticeship restraints.

  Restrictive apprenticeship requirements artificially hold down the supply of certain craftsmen. These deprive the poor workman of his most valuable assets. They hinder him "from employing this strength and dexterity of his hands - - - in what manner he thinks proper without injury to his neighbor. - - - It is a manifest encroachment upon the just liberty both of the workman and those who might be disposed to employ him."
 &
  Adam Smith goes on at some length into the noxious impacts of these restraints. If the restraints were removed, "the trader, the crafts, the mysteries, could all be losers" due to the increase in competition. "But the public would be a gainer, the work of all artificers coming in this way much cheaper to market." However, the vested interests politically outweigh the public interests, and the various commercial towns retain these apprenticeship restraints.

  "The government of towns corporate was altogether in the hands of traders and artificers, and it was the manifest interests of every particular class of them to prevent the market from being overstocked, as they commonly express it, with their own particular species of industry, which is in reality to keep it always understocked. - - -"
 &
   "[This  gives] the traders and artificers in the town an advantage over the landlords, farmers and labourers in the country, and breaks down that natural equality which would otherwise take place in the commerce which is carried on between them."

  The towns thus get more, and the country less. Being close together, tradesmen in towns readily combine in restraint of trade. Being widely scattered, this is more difficult for those in the country. (Today, unions attempt nationwide restraints, and agricultural interests easily organize nation wide.)
 &

"People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices."

  "High duties upon foreign manufactures and upon all goods imported by alien merchants all tend to the same purpose." (Protective tariffs and other restraints continue to restrain international trade, although the U.S. market is today - with a few notable exceptions - remarkably open.)

  "People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices."

  If the law cannot stop such meetings, Smith concludes, it should at least not facilitate the resulting restraints. (Today, antitrust laws attempt to deal with this problem.)
 &

Justification for these restraints is always expressed in terms of providing needed protections for public interests. Fear of loss of customers in a competitive trade is the most effective form of discipline - and that is exactly what is diminished by these restraints.

  But it is government sanction that makes restraints especially damaging.

  "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. The majority of a [town] corporation can enact a bye-law with proper penalties, which will limit the competition more effectually and more durably than any voluntary combination whatever."

  Justification for these restraints is always expressed in terms of providing needed protections for public interests. (This continues to be the primary excuse offered for such restraints.) But fear of loss of customers in a competitive trade is the most effective form of discipline - and that is exactly what is diminished by these restraints.
 &

  Labor immobility is another artificial problem. Apprenticeship laws and exclusive corporate requirements prohibit labor from performing different work - and from moving to different towns where they are not guild members. "In many different manufactures, however, the operations are so much alike that the workmen could easily change trades with one another if those absurd laws did not hinder them." Linen, silk and woolen weaving were all distinct trades although requiring common skills, Smith points out. (Today, union work rules can impose similar inefficiencies.)
 &
  The poor laws had also greatly obstructed labor mobility for more than a century. The parishes - being liable for the support of the poor - could - and did - prevent laborers from other parishes settling therein.

  "The very unequal price of labour which we frequently find in England in places at no great distance from one another is probably owing to the obstruction which the [poor laws] gives to a poor man who would carry his industry from one parish to another."

  Such differences did not occur in Scotland or in other European states that did not impose this type of restraint.
 &

"For if all persons in the same kind of work were to receive equal wages, there would be no remuneration, and no room left for industry or ingenuity."

  The failure of 400 years of wage control attempts is noted by Smith.

  "For if all persons in the same kind of work were to receive equal wages, there would be no remuneration, and no room left for industry or ingenuity."

  Socialist ideologues would remain in determined denial of this obvious fact during the next two centuries - but it would persist as one of the rocks upon which their dreams would crash.

  Minimum wage laws are favored by Smith. However, he favors them as a means to counter some of the abuses practiced by employers who take full advantage of labor's restricted mobility - and indeed are responsible for the rules and laws that restrict labor mobility. He is sharply critical of wage control efforts designed to favor employers.
 &
  He also acknowledges the need for price controls "where there is an exclusive corporation" that provides some necessary product or service. Otherwise, competition is the best regulator.
 &
  Subsidized production has its own problems - invariably involving chronic oversupply. Theological study was so subsidized in his times that a "curate or a chaplain" would likely receive pay little higher than a common laborer. Teachers, too, enjoyed only paltry pay levels because their trade "is crowded with indigent people who have been brought up to it at public expense." Lawyers and doctors generally had to pay for their own education - there were fewer of them - and their earnings were considerably higher.
 &
  Smith notes that the most prominent educators in ancient times - Socrates, Plato, Aristotle - were quite wealthy.
 &

Rent:

Rent for raw land is naturally a monopoly price.

  Adam Smith is quite harsh in his opinion of landlords.

  "[Rent] considered as the price paid for the use of the land, is naturally a monopoly price. It is not at all proportional to what the landlord may have laid out upon the improvement of the land, or to what he can afford; but to what the farmer can afford to give."

  Because of this monopoly power, rent will rise and fall as prices for the other commodities produced rise and fall - and that movement will be sufficient for rent to reap almost all the rewards for rising prices that may exist in excess of normal wages, costs, and producer profit.

  Of course, Smith is talking about agricultural land. The monopoly is due to the fact that population increases, but god doesn't make any more land.
 &
  In urban and industrial centers, new lands are dedicated to non-agricultural use all the time - and more to the point - there is no limit to the amount of capital that can be invested in the land. Thus, these are not monopoly markets.
 &
  Also, in nations like the North American colonies - as Smith noted even in 1773 - where farming is done by farmers and business is done by businesses that own the land, this factor is not evident. Europe in 1773 was, after all, still encumbered by residual feudal landholding arrangements.

It is the ownership interest of the landlord and the ownership incentives that apply to landlords that assure the rational regulation of the use of land for its most productive purposes.

  Nevertheless, it is the ownership interest of the landlord and the ownership incentives that apply to landlords that assure the rational regulation of the use of land for its most productive purposes.

  The results of land use markets is far from perfect and has led to various administered approaches. However, efforts to improve on this market by means of zoning laws, rent controls, limitations on rental contracts, tax incentives and urban planning have not been entirely satisfactory, either. Suburban sprawl, several biases against rental housing, a lack of affordable housing in some fairly extensive regions, arterial traffic congestion, substantial separation of jobs and residences and of residences and retail shops, are a few of the less desirable of the administered results.

Market impact of infrastructure:

"Monopoly - - - is a great enemy of good management, which can never be universally established but in consequence of that free and universal competition which forces everybody to have recourse to it for the sake of self-defense."

  "They are advantageous to the town, by breaking down the monopoly of the country in its neighborhood. They are advantageous even to that part of the country. Though they introduce some rival commodities into the old market, they open many new markets to its produce. Monopoly, besides, is a great enemy of good management, which can never be universally established but in consequence of that free and universal competition which forces everybody to have recourse to it for the sake of self-defense."

  The truth of these observations have been proven countless times. The relationship between good management and competition applies to government and private monopolies, socialist and private entities, and remains true today. Fortunately, competition need not be anything close to "perfect" to provide incentives for good management and a cornucopia of other benefits.

Rents in agricultural markets:

&

  Since corn is the basic food commodity, almost all common uses of land are governed by their relation to corn prices, Smith asserts. This is different than for rice cultures, since rice lands are usually not suitable for other uses and other types of farmland are usually not suitable for rice. 
 &
  In his discussion of potatoes, Smith remarks about the Irish. Although unfortunate economically, they are "the strongest men and the most beautiful women perhaps in the British dominions."
 &

Rents in nonagricultural markets:

&

  These uses are relatively immobile in Smith's times, and so must concentrate where market access is best. Residential use cannot be transported, and timber and stone may be unable to compete with sources nearer to market. Timber for building is very valuable near great cities, but "in many parts of North America the landlord would be much obliged to anybody who would carry away the greater part of his large trees."
 &
  However, metals - especially precious metals - are so valuable that it is always worthwhile to transport them considerable distances to market - sometimes halfway around the world. There is a world market. The silver mines in Peru forced the closure of those in Europe - which thereafter supported no rent for the landlords.
 &
  Taxes on metals in competitive markets come directly out of the pockets of landlords, since they reduce the amounts of rents that can be charged. However, since precious metals and jewels are more easily smuggled, the Duke of Cornwall does very well with his tin taxes while the silver taxes of the King of Spain are "said to be very ill paid." This harsh competitive environment means that most mines pay very little - in rent or profit - while the most fertile mines pay a great deal.
 &
  While the most fertile agricultural lands increase the value of lands nearby by supporting a larger population, the lands most "fertile" in natural resources destroy the value of less fertile competitors and neighbors. "Food not only constitutes the principal part of the riches of the world, but it is the abundance of food which gives the principal part of their value to many other sorts of riches." However, producing more diamonds would not much increase the total value of diamonds produced, since the price would decline. The natives in America were amazed at how much the Europeans valued gold and silver.
 &

"Labour, it must always be remembered, and not any particular commodity or set of commodities, is the real measure of the value both of silver and of all other commodities."

  Food prices will DECLINE in relation to prices of other goods and services, Smith accurately predicts. (Malthus - and generations of Malthusians - would persistently get this wrong.) Increases in food production will support population growth that will increase demand for all other goods and services - thus pushing up all other prices relative to those of food. (And Adam Smith could not then even imagine the great productivity increases that would benefit agriculture.)
 &
  In the event, it has been Smith who has been proven correct. As nations develop and grow, food expenditures decline as a proportion of average expenditures. Smith notes that factors that increase productivity - like the occasional discovery of more "fertile" silver mines - can keep pace with increased demand and keep affected prices down. He provides an extensive history of the price of wheat and corn in terms of silver, as an example. During several centuries, prices were affected by conflict, debasement of coinage, silver mines in America, taxes, international trade, climate changes, subsidies, price control efforts, as well as relative prosperity - all of which has to be taken into account in this type of analysis.
 &
  "Labour, it must always be remembered, and not any particular commodity or set of commodities, is the real measure of the value both of silver and of all other commodities." However, the value of labor, itself, varies with the rate of economic development of each nation - highest in advancing nations like Britain, lower in declining nations like France.

  Labor is the measure of value, not the determinant of value. Labor must always do best under capitalism, since capitalist nations advance the fastest.

Supply curves:

&

Rising prices - instead of being viewed as a public calamity - "are necessary to bring about the improvements which increase production and supplies sufficiently to limit or even reverse high prices." 

  "Butcher's meat" has a complicated but very elastic supply curve. It becomes worthwhile to feed livestock rather than just pasture it at a certain price. Cattle tend towards oversupply for long periods because of the value of manure for farming and the ease of pasturing them. Other animal products have similar market characteristics.
 &
  Rising prices - instead of being viewed as a public calamity - "are necessary to bring about the improvements which increase production and supplies sufficiently to limit or even reverse high prices." (Every political leader should be required to read this before causing vast damage and/or wasting vast resources in futile price control efforts or so called "excess profits" taxes.)
 &
  The differing price characteristics of the meat of animals and their hides or fur are explained in terms of their different markets.

  When governments constrain markets by means of export controls or other regulations, they destroy value - not just of products, but also of lands and facilities and labor used for production. It is the market - not labor - that determines value - although the market will tend to command a quantity and quality of labor related to an equilibrium price.

Inflation:

&

The wealth of nations bears no relation to the amount of money, since prices fluctuate to keep real prices constant even as nominal prices rise and fall.

Europe's recent increase in wealth has nothing to do with the increasing supplies of gold and silver, Smith points out.

Those states that have freed commerce from feudal and other shackles and that provide essential security have prospered - those that haven't remain impoverished - regardless of the quantities of gold and silver coming from America.

  The wealth of nations bears no relation to the amount of money, since prices fluctuate to keep real prices constant even as nominal prices rise and fall - all other things being equal. However, Smith recognizes that inflation does not impact everyone equally.

  Smith fails to discuss inflation as an ongoing process. This process is not instantaneous. The monetary authority does initially gain from monetary expansion - at an ultimate cost to the population. However, the process, itself, ultimately has sufficiently destructive impacts to be disadvantageous - indeed, even intolerable - even to the monetary authority. No society can long live with substantial rates of inflation. See, "Understanding Inflation."

  Europe's recent increase in wealth has nothing to do with the increasing supplies of gold and silver, Smith points out. (Galbraith - arguing in support of Keynesian monetary policy - would stupidly contend otherwise.) Those states that have freed commerce from feudal and other shackles and that provide essential security have prospered - those that haven't remain impoverished - regardless of the quantities of gold and silver coming from America. (It's the fundamentals that count, not the manipulation of money and debt.)

  "Spain and Portugal, the countries which possess the mines, are, after [feudal] Poland perhaps, the two most beggarly countries in Europe. - - - Though the feudal system has been abolished in Spain and Portugal, it has not been succeeded by a much better."
 &
  "From the high or low money price either of goods in general, or of corn in particular, we can infer only that the mines which at that time happened to supply the commercial world with gold and silver were fertile or barren, not that the country was rich or poor. But from the high or low money price of some sorts of goods in proportion to that of others, we can infer, with a degree of probability that approaches almost to certainty, that it was rich or poor, that the greater part of its lands were improved or unimproved, and that it was either in a more or less barbarous state, or in a more or less civilised one."

Self interest and national interest:

&

"[Every] improvement in the circumstances of the society tend either directly or indirectly to raise the real rent of land."

  Of course, prices must be averaged over a period of years to eliminate transitory factors - and the expense of taxes, duties, and trade restraints must be factored into the calculation.

  "[Every] improvement in the circumstances of the society tend either directly or indirectly to raise the real rent of land, to increase the real wealth of the landlord, his power of purchasing the labour, or the produce of the labour of other people." (However, in modern times, it is wages that reap the lion's share of the benefits of productivity improvements.)

Any legislative proposal by capital should be viewed with utmost skepticism and scrutiny, since it "comes from an order of men whose interest is never exactly the same with that of the public, who have generally an interest to deceive and even to oppress the public, and who accordingly have, upon many occasions, both deceived and oppressed it."

  It is in the interests of the landlord that the nation prosper. It is in the interest of labor that economic growth be as rapid as possible to increase demand for labor. However, since profit rates are greater in poor nations than in rich, the interests of individual employers is often in conflict with the interests of the nation as a whole. They will attempt restraints of trade that improve their profits at the expense of the nation as a whole.

"The interest of the dealers, however, in any particular branch of trade or manufactures, is always in some respect different from, and even opposite to, that of the public. To widen the market and to narrow the competition, is always the interest of the dealers."

  This isn't wrong, but is somewhat oversimplified. Unions, too, may enable particular groups of workers to achieve similar benefits by trade restraints favorable to their industry. And particular landlords, too, may similarly benefit.

  While the widening of markets is beneficial to the public, "to narrow competition must always be against it." Smith advises utmost skepticism and scrutiny for all legislative proposals by capital.

  "It comes from an order of men whose interest is never exactly the same with that of the public, who have generally an interest to deceive and even to oppress the public, and who accordingly have, upon many occasions, both deceived and oppressed it."

Capital stock:

&

It is profit incentives that drive the accumulation of capital and the most efficient management of its use.

  It is profit incentives that drive the accumulation of capital and the most efficient management of its use. (This is also true of the rents for raw land, and of the interest for debt capital.)
 &
  Profits come from both the sale of output and the accumulation of assets. The proportion of each varies greatly in different businesses. The character of capital may be different for society than it is for the individual owner.

• Residences and other consumables:  Rental property is earning capital for the landlord. However, for society, it is just a consumable - like food or clothing or furniture in the hands of the ultimate consumer. As "the house itself can produce nothing, the tenant must always pay the rent out of some other revenue which he derives either from labor, stock, or land." Although residences may last for centuries - they are ultimately consumed - just like food and clothing and furniture.
• Fixed capital:  Facilities - including productive improvements to land - are fixed capital that provides revenue and profit without circulating. So, too, are human capabilities.
• Circulating capital:  Money, work in process, supplies, and inventories of finished goods are circulating capital that must be exchanged in the market as output to bring in revenue and profit.

  Fixed capital is derived from and must be constantly maintained by circulating capital. The ultimate purpose of both is to create consumables. The ultimate source of circulating capital is natural resources like land, mines and fisheries. The exploitation of nature also requires both fixed and circulating capital.

• Land:  Rent may be divided between "gross rent" and "net rent." Rent, being the revenue of land, is profit to the landlord after taxes and other charges. If the land is improved - if there is capital invested in the land - then a portion of the rent is the revenue of that capital, divided between maintenance, taxes and other charges, and profit.
• Human capital:  Similarly, wages are the revenue of human capital, and may be divided between maintenance and profit (and now, taxes).

  Hoarding occurs only out of fear or constraints - things that exist all too frequently in poorly governed nations. Otherwise, it is irrational. People will productively employ all capital that is not needed for consumption.

  Keynes would stupidly argue otherwise - and this stupidity would be broadly accepted by professional economists. Indeed, Keynes would base his entire business cycle theory on the ridiculous notion that savings accumulate beyond investment uses during prosperous times, and thus are increasingly hoarded - withdrawing purchasing power and undermining prosperity. See, Keynes, "The General Theory (I)" and Keynes, "The General Theory (II)."

  The wealth of a nation is what is left over from its gross revenue after deducting maintenance for circulating and fixed capital - including human capital. This net revenue includes consumption above subsistence levels, and savings. It represents discretionary output and economic power.
 &
  While the net revenue of an individual is his profits, that of society also includes circulating capital used ultimately for discretionary consumption rather than for maintaining fixed capital and human capital. This is because the sale of output provides funds for replacement of the circulating capital that goes into that output.
 &

The mechanism of exchange:

&

  Money is the only part of circulating capital that must be maintained, or its diminution will reduce the net revenue of society. Money, therefore, is like fixed capital. It is the mechanism of commerce, like facilities are the mechanism of production - but they are not either commerce or production.

  "In computing either the gross or the net revenue of any society, we must always, from their annual circulation of money and goods, deduct the whole value of the money, of which not a single farthing can ever make any part of either."

  The wealth of the nation is measured in monetary terms, but it refers not to money but to what that money can purchase after expenditures for maintenance of human and physical capital..

  "If it could be exchanged for nothing, it would, like a bill upon a bankrupt, be of no more value than the most useless piece of paper."

  This is why paper notes can perform commercial exchange functions as well as gold or silver - and much more efficiently - as long as public confidence is maintained in the issuer of the notes, and the obligation of the notes is enforced by the law of contracts (or by legal tender laws). However, it cannot circulate abroad where it is not legal tender. Only gold and silver - as the reserve currency in those days - can circulate abroad.
 &
  Smith then explains the mechanism by which an expansion of the money supply will tend to increase imports and adversely affect a nation's balance of payment - but goes no further on this point.

  Monetary inflation also bids up prices sufficiently so that ultimately any increase in purchasing power is transitory. The extent of the price increases is reduced by productivity gains, which but for monetary inflation would have increased purchasing power. This aspect of monetary inflation Smith covers only with respect to reductions in the metallic content of the coinage.

Financing mechanisms:

&

  This account of banking problems in Scotland and England due to mismanagement of their circulating paper and metal coinage is another justly famous part of Adam Smith's book. Natural market mechanisms inexorably punished the banks for circulating an excess of paper notes or maintaining worn coinage.
 &
  With worn coinage left in circulation as legal tender, the bullion value of metal became more valuable than the coinage. New coins were thus either sent abroad where they were more valuable, or melted down and resold to the Bank of England for a profit. The bank simply found it impossible to supply a bottomless demand for coinage despite massive issuances every year - and the quality of the coinage in circulation kept declining as the new coins disappeared and the worn coins kept circulating. (Bad money chasing out the good!)

  "Every year they found themselves under the necessity of coining nearly the same quantity of gold as they had coined the year before, and from the continual rise in the price of gold bullion, in consequence of the continual wearing and clipping of the coin, the expense of this great annual coinage became every year greater and greater."

  Some advice on prudent banking practices follows. The lack of prudence in banking in both Scotland and England cost the Bank of England dearly (and it periodically continues to plague economies worldwide).
 &

Over reliance on short term debt capital - especially for financing fixed capital - is dangerous, Smith sternly warns. A substantial base of equity capital is essential for stability in hard times.

  Over reliance on short term debt capital - especially for financing fixed capital - is dangerous, Smith sternly warns. (Another observation that is as current as the Asian Contagion.) A substantial base of equity capital is essential for stability in hard times. (Another observation not just overlooked but actually denied by Keynesians.)
 &
  Short term financing should be used for nothing more than the financing of circulating capital. Financing for fixed capital "ought not to be borrowed of a bank, but ought to be borrowed upon bond or mortgage" held by long term private investors. (Of course, this requires a legal system that reliably enforces creditors' rights.)
 &

  Schemes for abuse of credit were then (as since and as now) creatively invented and - frequently - ended as might be expected in disaster. Then (as since and as now) banks were drawn into these schemes, sometimes to a perilous extent that threatened the existence of the banks and widespread financial dislocation. Bills of exchange were drawn and redrawn and discounted through several banks, until the servicing charges overwhelmed the scheme. Then (as since and as now) the perpetrators sought to blame the banks for ultimately pulling the rug out from under their financial house of cards.
 &
  Smith tells how a Scottish bank was drawn too deeply into such a scheme through imprudent lending practices. It ultimately failed, with ruinous widespread ramifications. In France, "the Mississippi scheme" was much bigger, and the collapse even more ruinous. (Despite these warnings from more than two centuries ago, schemes involving monetary expansion or continuous turnover of endless streams of short term credit continuously arise - and continuously fail.)
 &
  "It is not by augmenting the capital of the country, but by rendering a greater part of that capital active and productive than would otherwise be so, that the most judicious operations of banking can increase the industry of the country." Money held in reserve to pay for operations - to finance circulating capital - is "dead" capital. By accessing bank lines of credit, less money has to be kept on hand.

  "Dead capital" due to lack of adequate property rights is even today a subject of concern in undeveloped nations. See, de Soto, "The Mystery of Capital."

Paper money and financial mechanisms will not regulate themselves. Where activities of "a few individuals, - - - might endanger the security of the whole society, [they] are, and ought to be, restrained by the laws of all governments - - -."

Legal tender paper currencies not pegged to precious metal depreciated perceptibly over time.

  Paper notes and money have many problems. Adam Smith emphasizes the need for prudent regulation of both. While paper is exceedingly convenient, it is easy to abuse, with grave financial consequences. Proper regulation of money and finance mechanisms is an essential obligation of the monetary authority. Paper money issued in excess drives gold and silver money out of circulation (then - as since and - with respect to hard currencies - as now).
 &
  There is no hint of laissez faire in Smith's view of money and finance. Money and financial mechanisms will not regulate themselves. Where activities of "a few individuals, - - - might endanger the security of the whole society, [they] are, and ought to be, restrained by the laws of all governments - - -." Smith uses the analogy of building codes that require sturdy fire walls between connecting buildings.
 &
  Inflation was a serious problem with paper money. Smith notes the difficulty of preventing inflation from undermining paper that is not pegged to gold or silver. Then (as since and as now) legal tender paper currencies not pegged to precious metal depreciated perceptibly over time.
 &

Accumulation of capital:

&

  It is not that unproductive labor is without value, Smith carefully notes. It does not mean that it is not useful. It may even be necessary.
 &
  It is unproductive only for the purpose of maintaining or increasing capital. It just means that it is an unrecoverable cost. The legal system, the clergy, doctors, entertainers, and soldiers are examples of labor that is "unproductive" for the maintaining or increasing of capital.

  Given the limitations of medicine in the 18th century - and the fact that the law was used as frequently to hinder commerce as facilitate it - this was not an unreasonable conclusion. However, Smith here is being clearly simplistic. Today we see that much of what Smith considered "unproductive" in the maintenance and accumulation of capital is actually helpful at least indirectly to those processes - and indeed is sometimes essential.
 &
  Doctors and nurses - when successful - can restore human capital and its saleable labor. The military secures commerce and reduces the risks and insurance costs of foreign trade. Rule of law designed to facilitate commercial relationships is essential for economic development. Environmental regulations protect natural capital from loss.
 &
  These indirect activities are more like the essential overhead that facilitates the operations of business profit centers. A society, like a business, does not get rich off of its overhead. Nor is an expansion of overhead ever a substitute for what is lost during contractions of profit centers - Keynes to the contrary notwithstanding.
 &
  However, appropriate overhead services are nonetheless essential - and indeed can be a source of great competitive advantage - for the economy as a whole as for a particular business entity. The success of U.S. securities markets when the regulatory system is perceived to be working sufficiently to justify confidence is a prominent example of competitive advantage from government regulation. A well developed system of commercial laws is an essential ingredient for economic success.
 &
  Of course, today, the development of recording mechanisms has shifted entertainers from Smith's unproductive to his productive categories. This is just as well, since those who help make life worth living are perhaps its most important assets. Even the menial servant - if he frees his employer for more productive labor - may directly add to the productive labor of his employer.
 &
  The lines between labor that is productive or unproductive for capital maintenance and accumulation purposes are hardly sharp. Smith is clear about the limited sense in which he uses these terms, but his choice of words is nevertheless unfortunate.

Owners "whose capitals are employed in [commerce] are themselves productive laborers." The profits from their capital "adds to the annual produce of the land and labour of society."

  The rent of landlords and the profits of owners are revenue for "unproductive hands."

  Marx and other socialist ideologues would not confine the meaning of these terms as Smith did, and would thus create a fallacy that would cause great mischief. The ownership interest applies ownership incentives to the management process - something that is absolutely essential for effective management.

  In a later section, Smith notes that owners "whose capitals are employed in [commerce] are themselves productive laborers." The profits from their capital "adds to the annual produce of the land and labour of society." He repeatedly comments favorably on the productive energies of entrepreneurs in comparison with the indolence and frivolousness of the gentry and the wasteful extravagance of the landed nobility.

  The management efforts of governments and leftist intellectual elites is grossly incompetent in comparison. Without an ownership interest, there is no incentive for the maintenance of productive assets, and only distorted incentives for their creation.

  Taxes, too, support "unproductive" labor, "more honorable and useful, indeed, but equally unproductive" for direct maintenance or accumulation of capital.

  Marx and the socialists would conveniently ignore Smith's limited application of this terminology.  However, the accumulation of deferred maintenance would plague all socialist experiments.

  The weakness of Adam Smith's choice of words becomes evident when he becomes trapped in his semantics. In long segments of this part of his book, he fails to distinguish expenditures for "useful" societal and personal overhead - like doctors, jurists, police - from expenditures for extravagance.
 &

The rates of rent and profit - as a proportion of the revenue of production - decline with economic development.

"The idleness of the greater part of the people who are maintained by the expense of [government] revenue corrupts, it is probable, the industry of those who ought to be maintained by the employment of capital, and renders it less advantageous to employ a capital [in centers of government] than in other places."

  The rates of rent and profit - as a proportion of the revenue of production - decline with economic development. However, so great is the economic development and the increase in value of land and capital in England in those times, that rents and profits multiply greatly in total amounts.

  "In the progress of improvement, rent, though it increases in proportion to the extent, diminishes in proportion to the produce of the land."
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  "Though that part of the revenue of the inhabitants which is derived from profits of stock is always much greater in rich than in poor countries, it is because the stock is much greater; in proportion to the stock the profits are generally much less."

  Thus, in developed countries, expenditures for "productive" purposes "are not only much greater" in amount, they are also "much greater [in] proportion" to discretionary expenditures. In the commercial or industrial centers of Holland and England, the laboring people "are in general industrious, sober, and thriving." However, in centers of government, like Rome, Versailles, Paris, Madrid and Vienna, where people live off revenue from service to government, they "are in general idle and poor." Some cities, like London, Lisbon and Copenhagen manage to combine both government and major commercial functions, but the unproductive government function undoubtedly represses the productive commercial function.

  "The idleness of the greater part of the people who are maintained by the expense of revenue corrupts, it is probable, the industry of those who ought to be maintained by the employment of capital, and renders it less advantageous to employ a capital there than in other places. - - - The inhabitants of a large village, it has sometimes been observed, after having made considerable progress in manufactures, have become idle and poor in consequence of a great lord having taken up his residence in their neighborhood."

  Savings - "parsimony" - make it possible for capital to grow - either by direct investment or by loans to those who will invest it. As capital increases, productive labor and wealth increase.

  "Industry, indeed, provides the subject which parsimony accumulates. But whatever industry might acquire, if parsimony did not save and store up, the capital would never be greater."

  Capital investment increases the productivity of labor and land - "the real wealth and revenue" of the country. The owners of capital have powerful incentives to maintain it and efficiently manage it. "Prodigality" - the failure to maintain capital - diminishes "the wealth and revenue" of the community.
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  If such a decline in productivity is system-wide, it will cause an outflow of money for imports that will - for awhile - mitigate the impact of the decline. An increase in productivity, on the other hand, will increase exports and draw more money into the community.

  Today, in a world of paper and digital money, the provision of a hard currency as a reliable store of value and medium of exchange is itself a scarce and valuable export - as long as the currency remains "hard." A hard currency today is thus more than just a circulating medium. Within imprecise limits, it can act like a commodity and can be exported like a commodity -- a very profitable commodity.
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  It is thus in the most profound interest of the United States to maintain the purchasing power of the dollar by avoiding too great an increase in money in circulation. The current weakness of the dollar against the euro (as of the middle of 2003) - if it continues - will lead to the triumph of the euro as the world's premier hard currency - with all the advantages that brings. But, of course, the euro area is relatively inflexible and not without many problems. Gold, too, is rising in dollar terms, and may once again be the ultimate champion hard currency.

"Great nations are never impoverished by private, though they sometimes are by public prodigality and misconduct."

  Bad management, by directing work into failed projects, diminishes capital in a manner similar to prodigality. But the incentives for improvement always outweigh the incentives for prodigality, and the successful projects always greatly outweigh the unsuccessful. (This is only true in well governed nations.)

  "Great nations are never impoverished by private, though they sometimes are by public prodigality and misconduct. - - - The whole, or almost the whole public revenue, is in most countries employed in maintaining unproductive hands. - - - Those unproductive hands, who should be maintained by a part only of the spare revenue of the people, may consume so great a share of their whole revenue, and thereby oblige so great a number to encroach upon their capitals, upon the funds destined for the maintenance of productive labour, that all the frugality and good conduct of individuals may not be able to compensate the waste and degradation of produce occasioned by this violent and forced encroachment."

  WW-I bankrupted great nations and undermined great empires. Socialist experiments impoverished billions of people around the globe throughout the 20th century. Socialist and entitlement welfare programs on top of other government expenditures observably diminish economic growth in Europe and threaten the fiscal stability even of the U.S.

  "The uniform, constant, and uninterrupted effort of every man to better his condition, the principle from which public and national, as well as private opulence is originally derived, is frequently powerful enough to maintain the natural progress of things towards improvement, in spite both of the extravagance of government and of the greatest errors of administration."

  This powerful productive incentive is generally capable of restoring economic health, "in spite, not only of the disease, but of the absurd prescriptions of the doctor."

  Indeed, the U.S. has progressed in spite of the destructive Keynesian nostrums frequently applied in recent times. So, how can the profits and rents that assure the preeminence of this constructive incentive be "unproductive" as much left wing theory asserts?

"In the midst of all the exactions of government, this capital has been silently and gradually accumulated by the private frugality and good conduct of individuals, by their universal, continual, and uninterrupted effort to better their own condition. It is this effort, protected by law and allowed by liberty to exert itself in the manner that is most advantageous, which has maintained the progress of England - - -."

  The accumulated capital spreads prosperity by increasing productivity and supporting a greater work force. This occurs over time, despite reversals in particular industries or regions or cyclic reversals in an economy as a whole. These reversals always inspire declinist literature from authoritative sources.

  "[Five] years have seldom passed away in which some book or pamphlet has not been published, written, too, with such abilities as to gain some authority with the public, and pretending to demonstrate that the wealth of the nation was fast declining, that the country was depopulated, agriculture neglected, manufactures decaying, and trade undone. Nor have these publications been all party pamphlets, the wretched offspring of falsehood and venality."

  Is Smith talking about 1773 or 2003? They had declinists, spin doctors, and advocacy scholars in those days, too?

  During the preceding century, wars, plagues and rebellions have drained Britain's capital, massively increased its public debt and retarded its economic growth.

  "But though the profusion of government must, undoubtedly, have retarded the natural progress of England towards wealth and improvement, it has not been able to stop it. - - - In the midst of all the exactions of government, this capital has been silently and gradually accumulated by the private frugality and good conduct of individuals, by their universal, continual, and uninterrupted effort to better their own condition. It is this effort, protected by law and allowed by liberty to exert itself in the manner that is most advantageous, which has maintained the progress of England - - -."

  Here, Adam Smith gives expression to the importance of government, liberty and the rule of law - something he emphasizes at several points - and we find the true limits of his definition of "unproductive" labor. Smith's work is marred by this unfortunate choice of words that he cannot overcome by the limited definition he intends for the terms. Obviously, the work of jurists, police, soldiers and other essential officials is more than just "useful" - even in 18th century terms.

Competition drives down interest rates and profit rates. Prosperity increases both types of capital - and the increase in supply naturally reduces the rates of both profit and interest as costs. Capital accumulation also increases demand for labor, thus pushing up wages.

  Competition drives down interest rates and profit rates. Prosperity increases both types of capital - and the increase in supply naturally reduce the rates of both profit and interest as costs. Capital accumulation also increases demand for labor, thus pushing up wages. This, too, reduces the rates of profit and interest as costs.
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  As profit rates decline, interest rates must decline, too, so that lendable funds can find employment. This, of course, doesn't apply to consumer credit, since prodigals know no such rationality.
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  Smith then discusses the difference between real and nominal interest rates and real and nominal prices during times of monetary volatility. Usury laws - efforts to administratively limit interest rates - are examined by Smith with some sympathy, as long as they are set somewhat above the market rate for those with best credit. This shouldn't hinder productive efforts by those with good credit, but should deter lending for consumer or speculative purposes. Efforts to fix interest rates below minimum market rates are both destructive and futile. (Smith does not consider the difficulty that inflexible administrative schemes inherently have in keeping pace with market fluctuations.)
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  Even in 1773, Smith remarks on the massive increase in the price of land that accompanied the declining interest rates of the previous century.

Agriculture:

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  The ownership systems - the systems of property rights - devised by societies and governments - can severely disturb the orderly development of agricultural resources. Primogeniture and entails prevent the orderly subdivision of the land among farmers and other users and instead secure great landholdings in the hands of aristocratic landlords.
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  "Land was considered as the means not of subsistence merely, but of power and protection." To divide it was to weaken it and leave the inhabitants vulnerable to the incursions of more powerful neighbors.
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  However, even though medieval lawlessness and conflicts have subsided and the reasons for them have ceased to exist, these laws and feudal arrangements persist. Smith notes that, in his time, feudal arrangements remain the rule in Russia, Moravia, Poland, Hungary, Bohemia and parts of Germany. Elsewhere, restrictions, villeinage servitudes and taxes of various kinds still inhibit the development of agriculture everywhere but in England, Holland and Switzerland.
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The importance of property rights:

  Feudal bondage, like slavery, is an obstacle to development. Great proprietors seldom have any interest in agricultural improvements, and their bondsmen have less.
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"A person who can acquire no property, can have no other interest but to eat as much, and to labour as little as possible."

  "A person who can acquire no property, can have no other interest but to eat as much, and to labour as little as possible." This was widely noted by commentators in ancient Greece and Rome (and is evident today in communist and undeveloped nations where property rights are not available or are not legally recognized). Only peculiarly profitable forms of agriculture - such as sugar and tobacco - can be profitably maintained with slave labor, Smith asserts. Animal husbandry and the raising of corn cannot.

  England's yeomanry are legally and politically empowered, on the other hand. They possess legally protected freehold property and the right to vote.

  "Those laws and customs so favorable to the yeomanry have perhaps contributed more to the present grandeur of England than all their boasted regulations of commerce taken together."

Economic impact of freedom:

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Located along navigable rivers and ocean harbors, the free commercial towns of Europe thrived on a widespread commerce, even though their own neighboring countryside was too impoverished to support them.

  With freedom, towns developed and thrived long before development of neighboring agricultural lands. Located along navigable rivers and ocean harbors, they thrived on a widespread commerce, even though their own neighboring countryside was too impoverished to support them.
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  Smith offers an account of the economic history of Europe from the collapse of the Roman Empire. He stresses the importance of international trade in its economic development.
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  He asserts that - by bringing all manner of refined merchandise within reach - the town merchants tempted the great lords into extravagant expenditures. The lords could no longer afford armies and expensive conflicts. They became increasingly reliant on the produce of their tenants to support their extravagance. They had no choice but to deal with their tenants in a way that would assure their revenues - leading ultimately to better conditions and more agricultural development - and to a great weakening of the military power of the landed aristocracy. (Some scholars credit the vast reduction in manpower due to the plague for this increase in leverage on behalf of those who farmed the land.)

  "In commercial countries, therefore, riches, in spite of the most violent regulations of law to prevent their dissipation, very seldom remain long in the same family. Among simple nations, on the contrary, they frequently do without any regulation of law,  - - -."

In no other nation has government so intently striven to facilitate commerce and encourage agriculture - and [England] has thrived accordingly.

  See, Adam Smith, "The Wealth of Nations," Part II, "Economic Policy."