I had a wonderful time at a coffee meeting earlier this week. The person I was having coffee with asked me some questions about Capitalism. Since this discussion I have been thinking about it conceptually and practically. As someone who abhors economic Socialism, and is a proponent of a free market, I have decided to write about the subject again.
Initially, it seems that people equate Capitalism to the excesses of large corporations. I agree with the critiques in some cases, but I cannot support the current move to a proposed Socialism. I think people are forgetting the excesses of Socialism/Marxism/Communism as an over-reaction to current levels of inequality. People, in my opinion, are too willing to support an all-powerful centralized state in response to events that are controllable – at least according to Adam Smith the father of economics.
First, let’s answer the question – what is Capitalism? Capitalism is an economic system based upon the private ownership of property and the self-interests of both buyers and sellers. The way I describe it to my students is, people who have goods to sell meet those who want to buy those goods at the palm tree. This represents the marketplace where buyer and seller negotiate an agreed to price. The seller makes a profit and the seller gets what they want. Both parties leave the event better off. Both are operating from self-interest and both are better off as a result. This system is based on six pillars.
I have already mentioned one of those pillars, private property. This allows people to own the means of production. These include things like land, machinery, and houses. This is critical to our life in the United States. We do not have to live in government issued tenements but can own our own homes.
I have previously mentioned the second pillar, self-interest. This means we are all free to pursue our own good “without sociopolitical pressure.” If I want to be a business owner, and someone wants to buy what I am offering, then I am free to pursue this. If I want to buy a product or service I am free to choose what I want to buy. Because there are multiple offerings, I can choose which one that I want to purchase.
The above is the result of the next pillar, competition. Because the market system is free, people can enter or leave the market based upon demand. Because there are multiple people providing a particular product or service they have to work for my business. I can pay less, and have better quality, because of this thing we call competition.
The next pillar is the market mechanism. The key to this pillar is what we call the equilibrium price. The market operates collectively, and all the buyers and sellers, theoretically, set a price. If a seller tries to undersell the other market participants who are selling similar products or services, they need to give the buyers a reason. They also need to control their costs, which allows them to sell at a lower price. If a seller tries to sell at a higher price, they will fail.
A very important pillar involves the freedom to choose. All of us who participate in various markets can choose to engage the market where we want. There are different market needs that I as a business person can address, and there are different products and services I can buy based on my own need. It is our choice.
The last pillar involves the limited role of government. The government’s main role in the market system is to ensure a level playing field exists. This ensures the market behaves appropriately.
Obviously, this is a simplistic description of a very complicated process. There are many examples of how this works. China and its state-controlled Capitalism, the Oligarchic Capitalism that we see expressed in Russia, Nordic Capitalism with its strong social elements that we see in Sweden, and our more Big-firm Capitalism in the United States with its excesses. It appears that people who are troubled by Capitalism focus on the last. However, Adam Smith the father of economics and the concept of the invisible hand had a lot to say about this.
James Norman describes Adam Smith as someone who “is by general consent the most influential economist who ever lived.” Smith is “justly celebrated today for his insights into the nature of markets and for his famous analysis of how specialization creates economic value.”
Norman says the if we are to understand Smith’s concept of Economics we must combine his “Wealth of the Nations” with his other critical work “Theory of Moral Sentiments.” Norman states, “For Smith Markets exist not by divine right but because they have been shaped by human beings in ways that generate both private and public value.” This is accomplished via the pillars acting together to create positive competition, and people represented by their governments.
This market process is illustrated via the neoclassical economic model describing a circular flow. Firms supply finished products to the market. Households purchase finished goods. However, for households to have the money to purchase the finished goods they need to work for the firms. To do this they go to the factor market and are hired by the firms. The firms pay the households money, which in turn they use in the goods and services market to buy finished goods. The process works well until something goes asunder. This could be greed, market failure, or something else.
Therefore, in the middle of this, according to Adam Smith is the government, with whom I agree. Through all my research and experience, I see the need for government intervention to ensure the circular flow works correctly. I do think the Nordics do this well.
Anyway, my warning to those who are against Capitalism: be careful what you wish for. You may just get what you want, and then see just how good you had it under a Capitalist economic system.
And that is my thought for the day!