Ha-Joon Chang - Economics - The User's Guide

And to illustrate this point, Smith discusses how ten people dividing up the production process of making a pin and specializing in one or two of the sub-processes can produce 48,000 pins (or 4,800 pins per person) a day. Compare this to the at most 20 pins each of them can produce a day, Smith pointed out, if each individual worker performed the whole process alone.

Smith called the pin manufacture a ‘trifling’ example and later went on to note how more complicated the divisions of labour for other products are, but there is no denying that he lived in a time when ten people working together to make a pin was still considered cool – well, at least cool enough to front someone’s would-be magnum opus in what then was a cutting-edge subject.

The next two and a half centuries have seen dramatic developments in technology, driven by mechanization and the use of chemical processes, not least in the pin industry. Two generations after Smith, the output per worker had nearly doubled. Following Smith’s example, Charles Babbage, the nineteenth-century mathematician who is known as the conceptual father of the computer, studied pin factories in 1832 . [13] Babbage’s first computer was called the difference engine, which provided the title for one of the classic ‘steam punk’ sci-finovels by William Gibson and Bruce Sterling. He found that they were producing about 8,000 pins per worker a day. 150 more years of technological progress increased productivity by yet another 100 times, to 800,000 pins per worker per day, according to the 1980 study by the late Clifford Pratten, a Cambridge economist. [14] Clifford Pratten, ‘The manufacture of pins’, Journal of Economic Literature , vol. 18 (March 1980), p. 94. Pratten says that the figure was for the more efficient of the two manufacturers then in existence. The less efficient one produced around 480,000 pins per worker per day.

The increase in the productivity of making the same thing, such as the pin, is only one part of the story. Today, we produce so many things that people living in Smith’s time could only dream about, such as the flying machine, or could not even imagine, such as the microchip, the computer, the fibre-optic cable and numerous other technologies that we need in order to use our pin – sorry, PIN.

All Change: How the Actors and the Institutions of Capitalism Have Changed

It is not only production technologies – or how things are made – that have changed between Adam Smith’s time and ours. Economic actors– or those who engage in economic activities – and economic institutions– or the rules regarding how production and other economic activities are organized – have also gone through fundamental transformations.

The British economy in Smith’s time, which he called the ‘commercial society’, shared some fundamental similarities with those that we find in most of today’s economies. Otherwise his work would be irrelevant. Unlike most other economies of the time (the other exceptions being the Netherlands, Belgium and parts of Italy), it was already ‘capitalist’.

So what is the capitalist economy, or capitalism? It is an economy in which production is organized in pursuit of profit, rather than for own consumption (as in subsistence farming, where you grow your own food) or for political obligations (as in feudal societies or in socialist economies, where political authorities, respectively aristocrats and the central planning authority, tell you what to produce).

Profitis the difference between what you earn by selling something in the market (this is known as the sales revenue, or simply revenue) and the costsof all the inputs that have gone into the production of it. In the case of the pin factory, its profit would be the difference between the revenue from selling the pins and the costs that it has incurred in making them – the steel wire that has been turned into pins, the wages for its workers, the rent for the factory building and so on.

Capitalism is organized by capitalists, or those who own capital goods. Capital goods are also known as the means of productionand refer to durable inputs into the production process (for example, machines, but not, say, raw materials). In everyday usage, we also use the term ‘capital’ for the money invested in a business venture. [15] In economics theory, this is known as finance capital or money capital.

Capitalists own the means of production either directly or, more commonly these days, indirectly by owning shares(or stocks) in a company – that is, proportional claims on the total value of the company – that owns those means of production. Capitalists hire other people on a commercial basis to operate these means of production. These people are known as wage labourers, or simply workers. Capitalists make profits by producing things and selling them to other people through the market, which is where goods and services are bought and sold. Smith believed that competitionamong sellers in the market will ensure that profit-seeking producers will produce at the lowest possible costs, thereby benefiting everyone.

However, the similarities between Smith’s capitalism and today’s capitalism do not stretch much beyond those basic aspects. There are huge differences between the two eras in terms of how these essential characteristics – private ownership of means of production, profit-seeking, wage employment and market exchange – are actually translated into realities.

In Adam Smith’s day, most factories (and farms) were owned and run by single individual capitalists or by partnerships made up of a small number of individuals who knew and understood each other. These capitalists were usually personally involved in production – often physically on the factory floor, ordering their workers about, swearing at them and even beating them up.

Today, most factories are owned and operated by ‘unnatural’ persons, namely, corporations. These corporations are ‘persons’ only in the legal sense. They are in turn owned by a multitude of individuals, who buy shares in them and part-own them. But being a shareholder does not make you a capitalist in the classical sense. Owning 300 of Volkswagen’s 300 million shares does not entitle you to fly to its factory in, say, Wolfsburg, Germany and order ‘your’ workers about in ‘your’ factory for one-millionth of their working time. Ownership of the enterprise and control of its operations are largely separated in the largest enterprises.

Today’s owners in most large corporations have only limited liabilities. In a limited liability company (LLC) or a public limited company (PLC), if something goes wrong with the company, shareholders only lose the money invested in their shares and that is that. In Smith’s time, most company owners had unlimited liabilities, which meant that when the business failed, they had to sell their own personal assets to pay back the debts, failing which they ended up in a debtors’ prison. [16] A small number of companies engaged in risky ventures of national significance, such as colonial expansion (the East India Companies of Britain and of the Netherlands) or large-scale banking, were allowed to be based on limited liabilities. Smith was against the principle of limited liability. He argued that those who manage limited liability companies without owning them are playing with ‘other people’s money’ (his phrase, and the title of a famous play and then 1991 movie, starring Danny DeVito) and thus won’t be as vigilant in their management as those who have to risk everything they have.