Adam Smith: The Invisible Hand

Portrait of Adam Smith (the Muir Portrait, after the family who once owned it, probably painted posthumously, based on a medallion by James Tassie), c.1800 / Scottish National Gallery, The Mount, Edinburgh

Lecture by Dr. Iván Szelényi / 09.24.2008
Professor Emeritus of Sociology
Yale University

Smith in a Historical Context

Balliol College, Oxford University

We don’t really know all that much about Adam Smith’s life, and it is not as colorful as Jean-Jacques Rousseau. And then his major contributions: his theory of self-interest and how self-interest is related to the common good, his labor theory of value, his idea of distribution of value between labor capital and rent, and finally (what is the most often cited) with his theory of the invisible hand.

He was born in 1723 in Scotland, Kirkcaldy, just outside of Edinburgh, which is a beautiful city. If you did not visit it yet, I recommend that you do. He entered the University of Glasgow, and interestingly at that time, in the mid-eighteenth century, for reasons which is beyond me, next to Paris and in a way London, Edinburgh was the center of the Scottish Enlightenment. Then he also went to Oxford, in Balliol College, and in 1751 he was appointed at the University of Glasgow as a professor of logic, and then he became a professor of moral philosophy, believe it or not. The person who is known about self-interest and the invisible hand, his major first job was professor of moral philosophy, of ethics.

And, in 1759, he published a book, the book called The Theory of Moral Sentiments, which is a book on ethics. Well we will see this is a big issue, whether this book was written out of expediency; he wrote it just because he wanted to justify that he’s a professor of moral philosophy and he didn’t really believe in it because he was an economist, a rational choice economist, or was he really a moralist? That’s one of the big questions I think what scholars on Adam Smith are debating. He traveled in Europe, and this may have been a turning point in his life. He meets Voltaire and Quesnay, a major economist of his time, and other representatives of French Enlightenment. And French Enlightenment may have actually influenced him and pushed him, after the return of Glasgow, to Kirkcaldy for awhile; he went back and that’s where he mainly wrote The Wealth of Nations, and that’s the most important book.

But I think in order to understand Adam Smith, we have to come to terms with the apparent tension between The Theory of Moral Sentiments and The Wealth of Nations. Is this the same author, or these are two different authors? Is it the same theory, or there are two different theories offered to us? And that’s I think very complicated. He passed away in 1790. Well I wanted to find you some figures about–pictures about his life. The only thing what I could find is a memorial on the site where the house stood in Kirkcaldy, where he wrote The Wealth of Nations. So it’s not only Yale University which is turning buildings down; even the British do turn all buildings down, even if they should not have done so. Right? It would be so nice to visit the house where The Wealth of Nations was written. But if you go to Kirkcaldy, well you can visit that site and to have a look.

Okay, so as I said, Adam Smith seemed to have two faces. Regularly, normally today, if you take economics classes, he is presented as the person who is advocating the self-interested individual and a committed theorist of the self-regulating markets, of the invisible hand– as little government as possible, pursue just your self-interest, and your self-interest will lead to the common good. So he is the sort of inspiration for neoclassical economics and rational choice theory, and methodological individualism, to put it this way.

But he has this book, The Theory of Moral Sentiments, in which he is writing about sympathy as an important motivation for human action. And is this just a concession to his job, or is there something deep in him which also saw the need for a helping hand by the public authorities? That’s the big puzzle we have to struggle with. Well there are other people who are more qualified to give you the most authentic interpretation of Smith. I’ll try to do my best. Okay?

Well and indeed The Wealth of Nations looks like about self-interested individuals and the invisible hand. I will present you enough citations that you see it. I will also show you why it is possible. Some of Smith’s interpreters will suggest that this is the same Mill [correction: Smith], and in fact The Wealth of Nations is just an extension of The Theory of Moral Sentiments, rather than a contradiction to it. This is not the majority view. Right? Today, among economists in particular, the majority view is that you should not really pay much attention to The Theory of Moral Sentiments. The Wealth of Nations gives you the real source and inspiration, and this is what guides neoclassical economics. But you may find some economists who disagree, and you will find a number of political philosophers who will disagree and will say that this is not the real Adam Smith who is presented to you by neoclassical economists. And I don’t want to take a position in this. I’m not sufficiently a Smith scholar to be able to do so. But I will present you the argument both ways, and you can make up your mind where you stand on this.

The Theory of Moral Sentiments: Major Themes

The Theory of Moral Sentiments, 1759 / Wkimedia Commons

So The Theory of Moral Sentiments–just very briefly what this is. He does ask the central question: How can we make moral judgment? How can we tell good from evil, good for bad? Well it’s a very important issue and question. Many founding theorists of modern social theory were dealing with this. The most important one, we will talk about him at great–in fifteen minutes–is Frederick Nietzsche, of course; the genealogy of morals. This is the central question: Where does our conception of good and evil come from? But Adam Smith already here asked this question, and he said, well “what’s the solution?”

That inside you there is an inner person. You are two people. You act, and there is somebody inside you who is watching you, and that inside you will tell you, “You did something wrong; that was not the right thing to do.” And I think you should be able to relate to this. I can. There is very often inner self, in myself, which tells me that was a mistake I did, that was a foolish thing I did, I should not have done so. I know people who have a very small impartial internal spectator. I know people who have very great difficulties telling ever that I made a mistake. There are some people who always blame others if things go wrong. Well I think they have a moral problem, I would say. So what about yourself? You may have a moral problem if your inner self never tells you that you were wrong, and you are always liking to blame others if things went wrong. Then you have a problem, an ethical problem; at least this is Adam Smith’s argument. Right? Simple and persuasive.

Then he says–this is something which is kind of inspired by Hobbes–we are led by passion. But now he is not emphasizing fear. He said, “also by sympathy.” That’s crucial, and that’s the crucial notion for those who emphasize that in fact Adam Smith in The Wealth of Nations is the same Adam Smith as in The Theory of Moral Sentiments. Because Adam Smith, those who argue for one Adam Smith rather than two Adam Smiths, say that he has a theory of humans which is a sympathetic theory of humans. What drives us, that we have sympathy for others, other people’s sympathies, that in interacting with others we are seeking other people’s sympathy. Right? We try to please people. We want to impress people. We want to have a reputation; we want to have a good reputation. We want to act honorably. So we are seeking sympathy. We have a sympathy–we have an understanding of other people’s human conditions–but we are also expecting others to understand us and value us. Right?

And I think this is a very important and intriguing idea, which I will show, try to show you later on, may not be completely inconsistent by the idea that seeking self-interest is leading to the common good. Right? Because indeed, if self-interest implies that I also want others to respect and evaluate [correction: value] me, the self-interest also implies that I want to do good to others. This is in your self-interest, that you can say at the end of the day, “I am a good person.” Then, in fact, pursuing these self-interests may not be all that different from the common good because it is inside you. And this, I think, is the way how he is being read.

And he introduces the notion for the first time of the concept invisible hand in The Theory of Moral Sentiments. But here the invisible hand is not what you are told Adam Smith’s theory of the invisible hand is. It’s not the laissez-faire free market. It’s the hand of God. Right? God guides us to have a proper balance between passion and sympathy, and that is somehow God’s will, what we follow. In fact, I will talk about this later on. A big deal is made out of Adam Smith’s theory of the invisible hand. The term, the word, invisible hand, the term, comes up three times in his work. Right? And in each time he’s using it in a different meaning. The way how we understand invisible hand comes from a section once, in one sentence, in The Wealth of Nations. And in fact it is specifically about foreign trade and international trade, not about the role of the government in domestic affairs, but it’s about free trade, free international trade. And this is the context in which he’s using the invisible hand, as it is being interpreted mostly today by Adam Smith theorists. Right? So it’s intriguing, isn’t it? Watch yourself when you are coining a term because a term occasionally can stick and then it will be always attributed to you, even if you use it once in your life. Okay?

The Wealth of Nations: Major Themes; Self-Interest and the Common Good

Into the Nature and Causes of the Wealth of Nations, 1776 / Wikimedia Commons

Well The Wealth of Nations. Well these are kind of the Table of Contents. He writes about the division of labor and determination of prices, accumulation of capital. He writes about the evaluation of societies: hunting, raising agriculture, and commercial societies. He never used the term capitalism; modern economy was commercial industrial society for him. And then he offers a criticism of mercantilism. That’s where he offers an argument for free international trade, and that’s where he introduces the notion of the invisible hand. And then something is on taxation, what I will not talk about.

So self-interest and the common good; one of the big issues we have to discuss when we are faced with Adam Smith. And the arguments are if you are interacting with each other, do not expect benevolence. Right? Do not expect that somebody else will be charitable to you. There is also saying if you are seeking self-interest–specifically in the citations I have; for instance, choosing your employment. If you chose it rationally, this will be in the common good. And I will try to explain why you seeking self-interest in finding the job which is best for you is also the best for society. And then he says, well the individuals are the better judges of their own interests than any statement or lawgiver. As little state as possible–that’s where it is coming from, and we will see how he argues the case. So do not expect benevolence.

Okay, this is a very frequently cited sentence from Adam Smith. It’s not in the text I assigned for this course. Well, “It is not the benevolence of the butcher, the brewer, or the baker that we expect our dinner from, but the very self-interest of the butcher.” I go to the restaurant, I do not expect the cook to prepare me a good meal because I need a good meal and I expect the cook to like me. Right? I want him to cook a good meal because then I will give a tip. It is in the self-interest of the waiter to serve me well and serve me good food. Otherwise I will not go back again and I will not give a tip. I will punish. It is appealing to the self-interest of the person for whom I expect something, and not is benevolence.

Well he said well we address ourselves not to the humanity of the people, not to their self-love, but we want people to take advantage of this. This is an interesting issue, by the way, even in everyday life. I’m sure in this room there are people who think about this differently. Just to give you a very personalized example. My wife occasionally tells me, “This person is not a good friend of yours because this person only calls you when that person needs you.” And this does happen. And my answer always is–and I think in this way, deep in my heart, I’m a Smithian–“I don’t want friends, I don’t want anybody, who do not see an advantage in interacting with me. I want people who actually act out of self-interest seeking my relationship. It will be a bad relationship if my friends always think that it cost them to talk to me, and they do not benefit from the relationship with me.” Right? I don’t want my children just to act out of love and sort of be a pain in the neck for them. Right? I want my children to see that having me as a father is beneficial for them. That’s a good relationship. Good relationships are always based on self-interest. You don’t want to have a lover who does not enjoy being your lover. Therefore you want people acting out of self-interest. And I think that’s what he’s getting at here. He said even the beggar–here actually the citation says, “The beggars are the ones who are dependent only upon benevolence.” But then he qualifies it, he says, “But even for the beggar it is not quite true.” Right? The beggar will make some tricks in which, in fact, actually will appeal to your self-interest, that you are a charitable person or what.

Now self-interest in employment. He said well it’s a very good example. He said when you are choosing an occupation, of course you want to have a big job, you want to be well-paid. Right? Those of you who are an economics major, you may want to have some nice job at some brokerage firm in Wall Street, and with a Yale Bachelor’s Degree you would like to earn $100,000.00 a year. Right? But why would you earn $100,000.00? Because the employer gets a lot out of these skills what you get out of Yale, and therefore it will be in the interest of the society that you get the highest possible salary because you make the greatest contribution to the common good; otherwise you would not be paid that high. Okay? So therefore you will try to find that occupation in which you get the highest possible reward, but you will get only the highest possible reward because you make the utmost contribution you can, with your talent, with your hard work, and with your skills, to the common good. This is Adam Smith’s argument. It’s a persuasive argument actually. Right?

Well I can go on; it’s not all that important. Now this is very important too, I find. “Individuals are the better judge of their own interests than anybody else.” Right? And well this is I think again extremely important, and I’m sure this classroom is divided fifty/fifty percent along these views. Right? He said well the individuals in the local situations are simply better judges to what is their interest than any statement or lawgiver. Right? People should judge for themselves what they want and it should not be a government which imposes it on them. Right? This is a big debate right now, for instance about the healthcare insurance, the healthcare reform. Should we let it up to people to decide whether they want to have an insurance or not? Should we expect people to be individually responsible for themselves, to take charge of their life? Or should it be the government, or should it be a statesman, the lawgiver, the Congress who takes care of people? And he clearly takes a position no, I think people are the best judges of their feelings.

The Labor Theory of Value; The Invisible Hand

Now the labor theory of value. And let me rush through of it. This is important. His point of departure comes from John Locke, as we have seen, and it is leading directly to Karl Marx. Karl Marx radicalizes his position, but the point of departure is clearly Adam Smith. And the argument about the labor theory of value: the labor is the measure of all values. And then he said, “The whole produce belongs to the labor.” And so far Marx completely agrees with him; and we will see when we will be discussing Marx. But then he departs from it because he asks the question, where does the profit and rent come from? Marx asked this question as well, and he says exploitation; those who earn profit exploit the workers. But Adam Smith has a different view. He says well those who will lend capital and those who offer land also deserve part of the value.

Now let’s see how this contradiction can be resolved, how he’s dealing with this. How can that all value is created by labor and belongs to the laborer, and nevertheless the capitalist pockets profit and the landowner pockets rent for the land? Then here this is very much John Locke: “The value of any commodity belongs to the person who possesses it, and if it is not for use or consumption but exchange, then the value of this commodity is equal to the amount of labor which has to be put into this.” “Labor is therefore,” he said, “the real measure of the exchangeable value of all commodities.” Right? Commodities can have a use value, they can be very useful, and they can have very little labor in it, like fresh air; though by now we know fresh air needs quite a bit of labor too. Right? But the exchange, how the exchange it, will be guided, according to Smith, by labor.

Few people accept today the labor theory of value; Smith or Marx, no matter what. And it belongs to the whole laborer. This is a very interesting argument. He said–and this is again John Locke–“The property of every man is his own labor, and therefore every value is created by this labor, and therefore it has to belong to the person who owns the labor.” “But.” he said, “this is true for societies before capital is being accumulated and before land is privately owned.” Right? So this is really an argument for ancient societies, without capital accumulation and without private ownership of the land. In these conditions, if there is no capital accumulation and no private ownership, land is commonly owned, then the whole produced labor belongs to the laborer. This is where he, Marx, will depart dramatically from Adam Smith.

So where does the profit and rent come? Well are capitalists simply exploiting the workers? He said, “No, there is a distribution of value [correction: income] between labor, capital and rent.” Right? And this is reasonable, because the capitalist offers capital in order–in fact, advances capital to the laborer, takes risks with this advancement of the capital, supervises the labor process–and therefore it should claim some profit from capital; otherwise would be a fool not to advance its capital. And the same goes for land actually. Landowners also will have to give the land a site in which production takes place, and therefore they really should be able to collect some rent on this land.

Well finally the invisible hand. There are three conceptions of this–I briefly pointed this out–in The Theory of Moral Sentiments. He said this is really God which gives us a sense of sympathy and creates a balance between passion, desires, and hunger for more, and self-restraint to respect others and earn respect from others. Right? And then, of course, in The Wealth of Nations, this appears to be the free marketplace. And then finally he had a manuscript, History of Astronomy, and he said the invisible hand is the hand of Jupiter; the hand of Jupiter because people, as long as they are ignorant, phenomena–lightening for instance, what they don’t–cannot explain–attribute to the will of Jupiter. Right? Superstition; the invisible hand is superstition. Okay? So what is fun, that three instances where the notion of the invisible hand is used, in each case a different meaning, and in none of the cases exactly the same meaning as we normally understand it.



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