Jean-Baptiste Colbert (1619-1683) was a French minister of finance who established a program of regulation of trade and commerce in seventeenth-century France.
Practical people often argue over the most esoteric of subjects, for policy decisions sometimes rest upon the most intricate of theories. One of these debates took place during the eighteenth century, and from it emerged the foundations of modern economics. The question at issue was the ultimate source of national wealth, which some saw in trade, others in agriculture and the natural forces of life, and still others in human labor. Although the issue may seem, at first glance, to be devoid of practical significance, the whole range of government economic policy depended on the outcome.
The mercantilists were the first to take the field. These writers were concerned with the national states that developed during the sixteenth and seventeenth centuries. They faced two different but related problems, one internal and one external.
The domestic problem was one of unity. National power had to be built from the localism of the Middle Ages. For the economy this meant a unified monetary system and coinage, a national system of weights and measures, elimination of internal tolls on roads and rivers, and a national system of taxes and tariffs. These institutions, which today we take for granted, were slowly forged by national rulers against the opposition of feudal lords, who tried to keep as much control as possible over the economy of their regions. The building of a national economy was predicated on the growing political power of the monarchs against the great nobles.
In this struggle the monarchs found natural allies in several places. First in importance were the rising commercial interests of towns and cities. Merchants benefited from the widened trade made possible by a unified economy in which local barriers to commerce were reduced. In turn, the merchants augmented the monarchs' power by helping finance the armies needed to subordinate the nobility. The interests of monarchs and merchants further coincided in that both benefited from expanded foreign trade. Merchants earned profits from trade with the newly opened lands in Asia and the New World. To the extent that the merchants of one country dominated trade with another area, profits would flow to the homeland and domestic manufacturers would be stimulated by the export market. The state gained from the tariff revenues derived from large trade, from the sale of trade monopolies, from the development of strategic military industries and personnel—shipbuilding and ship supplies, sailors and captains—and from the general economic growth that provided a firm base for national power. Two of the basic goals of national policy, therefore, were the development of commerce and its counterpart, the growth of power in international affairs.
A second group allied with the monarchs consisted of the smaller landowners, who looked to the state as a counterweight to the powers of the barons. This group was more interested in commercial agriculture than in warfare, jousting, and family power, and wanted the monarchs to maintain order and promote the growing markets from which they profited. They knew that as the power of the state increased vis-a-vis that of the great lords, their own wealth and power in local affairs would also increase.
Two other groups emerged from the rising market economy and national states. One was the legal profession, whose members were needed to interpret and define the vastly complicated economic relationships that developed out of free association and private contract in the market environment. Old and familiar legal relationships were being replaced by new ones, and lawyers were needed to systematize them. The second group comprised public administrators and the royal court. Although small in numbers, these two groups were of great strategic importance. A "white-collar" superstructure, allied with and dependent upon business and government, supported the policies designed to strengthen unity and national power.
Out of the political and economic alliances between crown, merchants, rural gentry, and professional people emerged economic policies designed to unify the nation under a single strong ruler, develop its military and naval strength, and increase its wealth through both domestic production and foreign trade. These policies and the theories underlying them have come to be called mercantilism, the first systematic body of modern economic thought.
One of the clearest statements of mercantilist policy was made by Phillip von Hornick (1638-1712), an Austrian civil servant writing for a backward country constantly threatened by the Turks. He wrote, in 1684, a widely read tract called Austria over All, If She Only Will, listing "nine principal rules of national economy":
To inspect the country's soil with the greatest care, and not to leave the agricultural possibilities of a single comer or clod of earth unconsidered ....
All commodities found in a country, which cannot be used in their natural state, should be worked up within the country. . . . Attention should be given to the population, that it may be as large as the country can support . . . gold and silver once in the country are under no circumstances to be taken out for any purpose. . . . The inhabitants should make every effort to get along with their domestic products. . . . [Foreign commodities] should be obtained not for gold or silver, but in exchange for other domestic wares . . . and should be imported in unfinished form, and worked up within the country. . . . Opportunities should be sought night and day for selling the country's superfluous goods to these foreigners in manufactured form. . . .
No importation should be allowed under any circumstances of which there is a sufficient supply of suitable quality at home.
These basic policies of nationalism, self-sufficiency, and national power were adopted in varying degrees by all the states of Europe. Manufacturing was encouraged by subsidies, special privileges, patents, and monopolies. Foreign trade was stimulated by acquisition of colonies and efforts to keep wages down, and it was regulated by tariffs, navigation laws, and trade restrictions. Agriculture was fostered by a variety of policies: in England imports of food were taxed in order to keep out foreign competition, while in France exports of agricultural products were taxed in order to keep domestic production at home. In particular, the munitions industries were promoted—guns, gunpowder, ships, and ship supplies.
In England, where trade quickly became the basis for increased wealth and national power, a great deal of emphasis was placed on expansion of the money supply as a stimulus to economic growth. In those days of limited markets and inadequate purchasing power, one of the barriers to economic growth was a lack of both hard cash in the hands of consumers and credit available for business. Rulers often needed to borrow, and they would similarly benefit from readily available cash and credit and from low interest rates. Modem banking was only in its infancy, and the availability of money and credit depended very heavily on the cash available—and that meant gold and silver coins. It was inevitable, then, that monetary policy was a major concern of the mercantilist economists. Basically, they favored what we would call an "easy money" policy—plenty of available cash to stimulate trade and keep interest rates down. On the other hand, they had to keep inflationary pressures in check, for two reasons: (1) rising prices created difficulties for the workers and the poor, because wage rates tended to lag behind price increases, and political unrest would therefore follow; and (2) rising prices would reduce foreign demand for domestic manufactures and ultimatelv result in worsened economic conditions at home.
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Domestic and international economic policies, therefore, became closely intertwined, and the English mercantilists were quick to realize that the world economy was a web of interconnections. Elard experience as well as
sharp analysis taught them that if the domestic money supply and purchasing power expanded more rapidly than the supply of goods available for sale, domestic prices would rise, imports would increase, and exports would fall. The fall in exports and rise in imports would then result in an export of gold and silver to make up for the "unfavorable" balance of trade. This in turn would reduce the money supply at home and cause the domestic economy to languish. These relationships were soon well understood, and a cardinal tenet of the mercantilists was encouragement of a "favorable" balance of trade. If exports exceeded imports, they argued, gold and silver would enter the country, money would be available, economic growth would be stimulated, and national wealth would grow.
The best statement of English mercantilism is found in a brief book by Thomas Mun (1571-1641), a businessman whose England's Treasure by Forraign Trade was not published until 1663, almost a quarter century after his death, although it circulated in manuscript long before then. Mun suggested a variety of ways by which the English government could stimulate trade, encourage exports, and promote a favorable balance of trade and imports of gold to increase the money supply. By modern standards the argument is crude, but the book remains a classic statement of the idea that the economy needs direction from a strong government if desired goals are to be achieved.
It should not be assumed that mercantilism was the same everywhere. There were great differences between countries. In France, for example, where luxury products such as silks and linens, tapestries, furniture, and wine were of major importance, close regulation of the quality of goods was emphasized. Under the leadership of Jean-Baptiste Colbert (1619-1683), minister of finance for more than twenty years during the reign of Louis XIV, national guilds were set up to regulate the major industries. Only craftsmen who were guild members could operate, and they were subject to the regulations of the national organization. The royal power, supported by steady revenues from the salt tax, was strong enough to enforce the regulations effectively, and the guilds remained powerful until the French Revolution at the end of the eighteenth century.
Unlike France, the efforts of her Iberian neighbors, Spain and Portugal, are a classic example of failure in applying the principles of mercantilism. So much liquid wealth came into these countries from their empire possessions that both nations felt little need in their complacency to turn to new domestic manufacture to balance their economies. In a different vein, Russia, the largest country in Europe, was backward agriculturally and would remain so until the dynamic rule of Peter the Great in the early eighteenth century.
In England, in contrast to France, regulation of domestic industry was not successful because the government, always short of money, was never strong enough to administer regulations effectively. English mercantilism was devoted primarily to expansion of trade and encouragement of manufactures. One result of this situation was that the medieval guilds disintegrated, especially when cloth production developed in rural areas, and industrial processes were far freer of restrictions than were those of France. When the In
dustrial Revolution began in the late eighteenth century, this absence of guilds and guild regulations gave English industry a long head start over France and the other continental countries that had copied the French example.
Nor was there always agreement on policies within nations. Popular revulsion in England against government grants of monopoly to individuals and companies was so great that in 1598 Queen Elizabeth I promised reforms and in 1601 proclaimed the end of many monopoly privileges. Two years later, in the famous "Case of Monopolies," the courts decided, in a path-breaking decision, that even monopoly grants by the Crown were subject to the common-law prohibitions on restraint of trade. Parliament finally prohibited government grants of monopoly in 1624, completing the legal foundations on which American antitrust laws are based.
The mercantilists recognized that wealth was produced by human effort, in general, but felt that it would not be realized unless trade and commerce were encouraged—unless exchange of goods enabled producers to make a profit. For this reason they emphasized the growth of trade and commerce as the key to increased national wealth, and expansion of the money supply as the key to increased trade. To the question, "What is the source of the wealth of nations?" the mercantilists gave the first answer, "Commerce."
In many respects they were right for their time. In the sixteenth and seventeenth centuries the most powerful nations of Europe were those that had developed their international and overseas trade to the greatest extent. Trade seemed to stimulate both manufacturing and agriculture and to bring prosperity, wealth, and power to the entire nation. Mercantilist doctrines had a commonsense validity derived from what people could see going on around them.
By the middle of the eighteenth century the mercantilists 7 preoccupation with trade and national power had begun to grate on some of the economic interests of the growing market economy. Mercantilist policies were fine for the great merchants and financiers who operated in the international economy; the basic goals of national power suited the rulers; and government administrators and courtiers were often able to benefit substantially, either directly or through bribes, from government grants of special economic privilege. But the economy became more varied as it grew, and both agricultural and industrial interests were increasingly coming to find that mercantilist policies were often not in their best interest. The policies were subjected to substantial criticism, and the theories on which they were based were questioned.
Small businesses, in particular, felt hemmed in by the monopolistic privileges granted to a few big financial and trading companies, and both they and the smaller farmers resented the taxes imposed to maintain a national power alien to their individual interests. A classic example is the issue of "taxation without representation" in Britain's American colonies. When the French and Indian Wars ended in 1763, the western frontiers of the colonies
were relatively safe for colonization and development, and the colonists were well aware that much of their economic future lay in the West. The British government, however, long committed to development of the fur trade and favoring the interests of the Hudson's Bay Company/ had prohibited settlement beyond the Allegheny Mountains. Troops were stationed in the colonies to protect the frontier and enforce the prohibition, which protected the colonists from the Indians before 1763, but which restricted colonial economic growth after the frontier was pacified. To make matters worse, taxes on legal documents and tea were imposed in the colonies to pay for the troops, who were sometimes quartered in the homes of colonials. The colonists had to support the very troops who were protecting English business interests against their own! One wonders what attitude the colonists would have taken had the tax revenues been used to open the frontier rather than close it.
The case of the American colonies, where the issue became political and helped lead to the American Revolution, was a striking example of opposition to mercantilist policies. In Europe, however, a debate about purely economic issues arose. Was it true that economic expansion and growth were best achieved through regulation and direction? Would not better results be achieved in a free economy unhampered by the directing force of a mercantilist government? The debate over these questions was particularly strong in France and England.
In France, government regulation of production was so detailed that, for example, it specified the number of threads per inch in the manufacture of cloth. There was a multiplicity of taxes and tolls, and regulation of imports and exports was strict. Yet the nobility was exempt from taxation, while substantial taxes were levied on peasants and independent farmers. Moreover, the government was corrupt and inefficient—indeed, this probably made the system workable: the regulations and taxes could often be evaded by judicious bribes or clever evasions. The situation was so bad that one government inspector of trademarks, Vincent de Gournay (1712-1759), disenchanted with mercantilist regulation, is reputed to have originated the famous phrase laissezfaire, laissez passer, or "free enterprise, free trade," in a free translation.
The most important French antimercantilists called themselves Physiocrats. Their leader was Franqois Quesnay (1694-1774), court physician to Louis XV. Quesnay disagreed with the mercantilist assumption that wealth originated in industry and trade. He argued that only agriculture, by virtue of the life-giving aspects of nature, could produce a surplus over and above the
The royal family and members of the nobility were major stockholders in the Hudson's Bay Company.
effort invested in production. Quesnay then went on in his famous Economic Table of 1758 to show how the surplus from agriculture flowed through the entire economy in the form of rent, wages, and purchases, supporting all the social classes as it went. Two policy conclusions stemmed from his analysis: (1) regulation of trade and industry impeded economic development by hindering the flow of income and commodities on which the economy depended; and (2) all taxes should be paid by landowners, as distinguished from farmers, partly because they were not productive and partly because their luxurious way of living distorted the flow of income.
Quesnay had been greatly impressed by the discovery of the circulation of blood in the human body and likened the circulation of money and products to that biological process. He believed profoundly that all wealth came ultimately from the life-giving process created by God. A strong believer in the supremacy of natural law, he felt that a regime of economic freedom not only was natural but also would be both beneficial and self-regulating.
Another Physiocrat, Jacques Turgot (1727-1781), rose to become minister of finance. In two short years he introduced a variety of antifeudal and antimercantilist reforms and was supported by the king, but opposition from the nobility forced him out of office. Even the "absolute" ruler of France was unable to push through reforms over the opposition of the nobility, and a few years later the old regime was swept away.*
All the Physiocrats agreed on one basic proposition, that wealth came ultimately from the land. Only land contained the life-giving forces of nature. Manufacturing could change only the form of wealth derived from nature, and commerce could change only its location and ownership. Land alone could produce a surplus. This was the second major theory of the source of wealth.
The physiocratic interlude was short, although its influence was felt even in the United States, where a long line of statesmen from Thomas Jefferson to Abraham Lincoln were convinced that the nation's future depended on encouraging the small farmer. Far more important was the rise of economic liberalism. From small beginnings in the late seventeenth and early eighteenth centuries, it became the mainstream of economic thought in the nineteenth century and lives on today as the classic capitalist ideology.
The early economic liberals—those who advocated the doctrine before it was systematized by Adam Smith in the latter part of the eighteenth century—attacked restrictions on international trade and fought for an end to
'During the Revolution another prominent Physiocrat, Pierre du Pont de Nemours, emigrated to the United States, where he stayed for several years. In 1802 his son founded a small gunpowder factory near Wilmington, Delaware, the beginning of the great Du Pont chemical enterprise.
tariffs, monopolies, and regulations. They based their argument on the social theory that individual motives, however selfish they might be, resulted in benefits to society as a whole.
The first important economic liberal in England was Dudley North (1641-1691), whose Discourses upon Trade was published anonymously in the year of his death. Because North was a wealthy merchant and landowner who became a treasury official, it is understandable that he was cautious in publishing an attack on the nationalistic policies of mercantilism. His book made a strong case for free trade and attacked the mercantilist assumption that a favorable balance of trade was necessarily desirable. People trade, he argued, because it is advantageous to both parties, promoting specialization, division of labor, and the increase of wealth. Regulation interfered with these benefits by reducing and restricting trade and inevitably reducing real wealth.
North's argument was supported by the philosopher and historian David Hume (1711-1776), who pointed out that an automatic economic process would cause any favorable balance of trade to disappear: a surplus of exports would be paid for by imports of gold and silver, which would increase the money supply and cause prices to rise, which, in turn, would cause a decline in exports until exports and imports were in balance. It was, therefore, impossible for mercantilist policy to continuously maintain both a favorable balance of trade and imports of gold and silver.
The logic of North and Hume destroyed the mercantilist arguments for regulation of foreign trade. According to Hume, the policies would not work, and North showed that the results would be undesirable if they did work.
In the meantime, a fascinating, popular, and controversial book had appeared in 1704, a doggerel poem called The Fable of the Bees, written by Bernard de Mandeville (1670-1733), a Dutch doctor who had emigrated to England. The poem's basic argument was that advances in civilization were the result of vices, not virtues. Progress came from the selfish interests of the individual—desire for ease and comfort, luxury and pleasure—not from any natural propensity to work hard and save or from benevolent concern for others. Prosperity and economic growth would be increased by giving free play to the selfish motives of the individual, limited only by the maintenance of justice. The vice of selfishness would spur people to maximize their gains and thereby add to the wealth of the nation:
Thus Vice nurs'd Ingenuity,
Which joined with Tune and Industry,
Had carry'd Life's Conveniencies,
Its real Pleasures, Comforts, Ease,
To such a Height, the very Poor Liv'd better than the Rich before,
And nothing coidd be added more.
The book was suppressed by an embarrassed government, with the full support of the guardians of morality. Yet, together with the theory of natural
economic adjustments described by North and Hume, the selfish motives lauded by Mandeville became the basis of the next great economic theory— economic liberalism.
The idea that rational self-interest, together with competitive market forces, could lead to a regime of social order in a world of individual action was beginning to develop. In the 1720s, Richard Cantillon (died 1734), an Irishman who became a merchant in London and later a banker in Paris, wrote An Essay on the Nature of Commerce in General. It was published only in French in 1755; an English translation did not appear until 1931. It was not an influential book in its time, but it illustrates how some people in the early eighteenth century were thinking about the problem of economic order in an individualistic society.
Cantillon generalized the ideas about competitive markets developed by the Schoolmen of the thirteenth century into an early and crude version of what a modern economist would call general equilibrium theory. The underlying argument of his Essay was that rational self-interest on the part of traders, operating within a system of freely adjusting competitive markets, would lead to a network of mutually compatible prices and quantities traded. Order would prevail in the economy through the operation of human reason and rationality—an idea typical of the Enlightenment of the eighteenth century. Cantillon consciously imitated the recently discovered mechanics of Isaac Newton's physics, but with human reason and market competition replacing the physical forces of inertia and gravity in creating a natural equilibrium.
As to the source of wealth, the economic liberals of the eighteenth century found it in neither trade nor agriculture, but in human labor. It was through individual effort, they argued, that production takes place and the wherewithal to satisfy human needs is provided. Nature produces few materials that people can use in natural form: almost all natural products must be transformed by human effort before they can satisfy human wants. Without productive effort natural products are worthless.
This theory became known as the labor theory of value. It emphasized that the production of wealth had as its ultimate purpose the satisfaction of human wants. Wealth could not be considered an end in itself, nor was the aggrandizement of national power its proper end. Wealth was wealth because it bettered people's lives. The production of wealth, furthermore, depended not on the fertility of the soil or on favorable trade balances but on the individual incentives of ordinary people. The motive for work was the need to provide food, clothing, shelter, and comforts. The greater the incentive to work, the greater would be the production of wealth, and the faster would humanity move toward a more abundant society.
John Locke (1632-1704), the English philosopher, tied together these ideas about labor and production of wealth with private property, and in doing so made the institution of property one of the cornerstones of the liberal ideology. By adding labor to natural resources, people added part of them
selves to the final product, making the product "theirs" to use or consume. Both wealth and private property were simultaneously produced by human labor. In Locke's words:
God hath given the world to men in common. . .. Yet every man has a property in his own person. The labour of his body and the work of his hands we may say are properly his. Whatsoever, then, he removes out of the state that nature hath provided and left it in, he hath mixed his labour with, and joined to it something that is his own, and thereby makes it his property.
Later economic liberals made much of these connections between labor, wealth, and property. They argued that the first requisite for national economic growth was the protection of private property, for unless the right to property was sustained the incentive to work was reduced and the production of wealth would decrease.
A favorite illustration of this principle was a comparison of the wealth of the English and the poverty of the Turks. In ancient times, liberals pointed out, the domain of the Turk was the wealthiest in the world, with flourishing cities, prosperous agriculture, large exports, and world-famous manufactures. But a despotic and arbitrary government seized wealth without justification, imposed confiscatory taxes, and operated both justice and government through a system of bribery. These actions brought an end to prosperity. The Turk languished in poverty thereafter, unwilling to work, to produce, or to accumulate capital because it would be seized or destroyed by a corrupt government. Happy and prosperous England, on the other hand, was growing in wealth because individual initiative was protected by a rule of law that preserved for the individual the wealth he or she produced and saved. Justice was evenhanded, not arbitrary. The sanctity of private contracts was preserved, and no property could be taken for public use without just compensation. Whatever one earned could be used as the individual alone saw fit—within the limits of legality and decency. According to the economic liberal, the functions of government were few: protection of property, maintenance of justice, and national defense. The economy would operate within this framework without additional aid or regulation. Individual incentives would produce national wealth.
There were many variations on this theme. Some economic liberals would grant broader powers to the national government; others put more stress on the strength of individual incentives and competition, and still others on the operation of supply and demand in free markets. But all agreed on the need to free individual initiative from the limitations imposed by mercantilist restrictions, on the importance of work in producing wealth, and on the necessity of protecting and preserving property rights as the cornerstone of economic policy.
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